Financial Statements & Financial Reporting

Accounting is defined as the process of identifying, measuring and communicating the information to the interested users or decision makers. These information are basically consists of financial information which records the economic events of an economic entity. Financial accounting is the process that culminates in the preparation of financial reports on the enterprise for use by both internal and external parties. Users of these financial reports include investors, creditors, managers, unions, and government agencies. In contrast, managerial accounting is the process of identifying, measuring, analyzing, and communicating financial information needed by management to plan, control, and evaluates a company’s operations. Financial statements are the principal means through which a company communicates its financial information to those outside it. These statements provide a company’s history quantified in money terms. The financial statements most frequently provided are-

  • (1) the balance sheet,
  • (2) the income statement,
  • (3) the statement of cash flows, and
  • (4) the statement of owners’ or stockholders’ equity.

Note disclosures are an integral part of each financial statement. Some financial information is better provided, or can be provided only, by means of financial reporting other than formal financial statements. Examples include the president’s letter or supplementary schedules in the corporate annual report, prospectuses, reports filed with government agencies, news releases, management’s forecasts, and social or environmental impact statements. Companies may need to provide such Information because of authoritative pronouncement, regulatory rule, or custom. Or they may supply it because management wishes to disclose it voluntarily. In this textbook, we focus on the development of two types of financial information:

  • 1) The basic financial statements and
  • (2) related disclosures.

The Challenges Facing Financial Statement:

There are some limitations and challenges of financial statement.

  • Non Financial Measurements: There are some measures which is work as the key to quantify the performance of any entity, such as customer satisfaction indexes, backlog information, and reject rates on goods purchased these are also widely used by management of any company .But financial statement do not represents such useful information .
  • Forward-looking Information. Forward-looking Information is very beneficiary for external users, such as some present and potential investors and creditors. Another limitation of financial statement is that, this report could not able to illustrate Forward-looking Information.
  • Soft Assets. Tangible assets like inventory, plant assets ,equipment, buildings are the most important assets which are owned by any economic entity .the other intangible assets are also like patents, goodwill are also considered as most precious assets for any company. These both assets should be reported in the financial statement. But financial reports mainly provide information on tangible assets. The report does not provide much information about the intangible assets of the company.
  • Timeliness: Generally companies trend to prepare financial statements quarterly but present audited financial statement annually. This is also could be prove as a limitation of financial report.

All the accounting professionals have to go through these challenges. The best way to survive is to be knowledgeable and concern about these limitations and try to find out best possible solutions.

Objectives of Financial Reporting:

To establish a foundation for financial accounting and reporting, the accounting profession identified a set of objectives of financial reporting by business enterprises. Financial reporting should provide information that:

1. is useful to present and potential investors and creditors and other users in making rational investment, credit, and similar decisions. The information should be comprehensible to those who have a reasonable understanding of business and economic activities and are willing to study the information with reasonable diligence.

2. Helps present and potential investors, creditors, and other users assess the amounts, timing, and uncertainty of prospective cash receipts from dividends or interest and the proceeds from the sale, redemption, or maturity of securities or loans. Since investors’ and creditors’ cash flows are related to enterprise cash flows, financial reporting should provide information to help investors, creditors, and others assess the amounts, timing, and uncertainty of prospective net cash inflows to the related enterprise.

3. Clearly portrays the economic resources of an enterprise, the claims to those resources (obligations of the enterprise to transfer resources to other entities and owners’ equity), and the effects of transactions, events, and circumstances that change its resources and claims to those resources. In brief, the objectives of financial reporting are to provide information that is

  • (1) useful in investment and credit decisions,
  • (2) useful in assessing cash flow prospects, and
  • (3) about company resources, claims to those resources, and changes in them.

The emphasis on “assessing cash flow prospects” does not mean that the cash basis is preferred over the accrual basis of accounting. That is not the case. Information based on accrual accounting generally better indicates a company’s present and continuing ability to generate favorable cash flows than does information limited to the financial effects of cash receipts and payments. Recall from your first accounting course the objective of accrual-basis accounting: It ensures that a company records events that change its financial statements in the periods in which the events occur, rather than only in the period in which it receives or pays cash. Using the accrual basis to determine net income means that a company recognizes revenues when it earns them rather than when it receives cash. Similarly, it recognizes expenses when it incurs them rather than when it pays them. Under accrual accounting, a company generally recognizes revenues when it makes sales. The company can then relate the revenues to the economic environment of the period in which they occurred. Over the long run, trends in revenues and expenses are generally more meaningful than trends in cash receipts and disbursements.