Lecture Note 3: Key Financial Statements
Overview
Financial statements are formal records of the financial activities and position of a business,
individual, or other entity. They provide a snapshot of an entity's performance over a specific period
and are essential tools for internal and external users to evaluate financial health.
The four main financial statements are:
1. Income Statement
2. Balance Sheet
3. Cash Flow Statement
4. Statement of Changes in Equity
1. Income Statement (Profit and Loss Statement)
Purpose:
Shows the company's revenues and expenses over a specific period, revealing its profit or loss.
Key Components:
- Revenue (Sales): Income earned from normal operations.
- Cost of Goods Sold (COGS): Direct costs related to production or purchase of goods.
- Gross Profit: Revenue - COGS
- Operating Expenses: Salaries, rent, marketing, utilities, etc.
- Operating Income: Gross Profit - Operating Expenses
- Net Profit (or Loss): Final income after taxes and interest.
Example Format:
ABC Co. - Income Statement (for the year ending Dec 31, 2024)
Revenue: $100,000
COGS: $40,000
Gross Profit: $60,000
Operating Expenses: $25,000
Operating Income: $35,000
Interest & Taxes: $5,000
Net Profit: $30,000
2. Balance Sheet (Statement of Financial Position)
Purpose:
Provides a snapshot of a company's financial position at a single point in time.
Key Equation:
Assets = Liabilities + Owner's Equity
Sections:
- Assets: What the company owns
- Current Assets: Cash, accounts receivable, inventory
- Non-Current Assets: Property, equipment, long-term investments
- Liabilities: What the company owes
- Current Liabilities: Accounts payable, short-term loans
- Non-Current Liabilities: Bonds payable, mortgages
- Equity: Owner's interest (capital + retained earnings)
Example Format:
XYZ Ltd. - Balance Sheet (as of Dec 31, 2024)
Assets
Cash: $20,000
Inventory: $10,000
Equipment: $50,000
Total Assets: $80,000
Liabilities
Accounts Payable: $15,000
Bank Loan: $20,000
Total Liabilities: $35,000
Equity
Owner's Capital: $45,000
Total Liabilities + Equity: $80,000
3. Cash Flow Statement
Purpose:
Shows how cash enters and exits the business over a period.
Sections:
- Operating Activities
- Investing Activities
- Financing Activities
Example Snippet:
DEF Inc. - Cash Flow Statement (2024)
Net cash from operations: $12,000
Net cash from investing: -$5,000
Net cash from financing: $3,000
Net Increase in Cash: $10,000
4. Statement of Changes in Equity
Purpose:
Explains movements in owner's equity during the period.
Includes:
- Opening equity balance
- Add: Net profit
- Add: Owner contributions
- Less: Drawings or dividends
- Closing equity balance
Example Snippet:
Beginning Equity: $40,000
+ Net Income: $10,000
+ Capital Contributions: $5,000
- Owner Withdrawals: $2,000
Ending Equity: $53,000
Importance of Financial Statements:
Purpose | Users
----------------------------|------------------------
Decision-making | Management, Investors
Evaluating performance | Shareholders
Creditworthiness check | Banks, Creditors
Legal and tax compliance | Government, Auditors
Conclusion:
Understanding financial statements is essential not only for accountants but for all business
professionals. These reports offer critical insight into an organization's profitability, stability, and
growth potential. Mastering them empowers better business decisions and financial planning.
