Question

(I need answer as soon as possible).

Que. Explain three basic financial statements in details and show how they reflect the activity and financial condition of a business?

Answer 1

The three basic financial statements are

1. The Income statement

2. The balance sheet

3. The cash flow statement.

Income statement reflects the financial performance of the business during the year.

Balance sheet reflects the financial position of the company at a particular point of time .

Cash flow statement summarizes the cash inflows and outflows from different set of activities of the business and shows the cash management of the business.

Together these three statements reflect the activity and financial condition of a business. The income statement shows the profit earned by the business. It also reflects all the expenses and revenues that the business has generated over the year. The income statement for different years could be compared to know how much the company and its profitability have grown. It also shows the cost incurred in producing the goods.And with this we can judge the efficiency and sometimes also the quality of the goods. The sales shows the level of activity of the business. The efficiency and profitability ratios could be calculated using income statement to know the performance of the business in different areas.

The balance sheet is a statement of all the assets the business owns and all the liabilities it owes at a particular point of time . It also shows the equity shareholders fund. It indicates the financial strength of the business. The total of balance sheet may be more.but there might be situatios where a large part of total assets is inclusive of prepaid expenses or deferred expenditure or other intangible assets. These assets could not be realised. Or there might be situations where a large part of the total assets have been funded by outside liabilities which increases the financial risk factor of the business. Hence a balance sheet helps in knowing the solvency position of the company, it's capability to take debts, the value to the investors etc. It basically shows the position of the company in terms of capability to pay dues when profits are insufficient.

A cash flow statement gives information about the cash movements in operating, investing and financing activities. A companyight have huge profits but low or negative cash balance. This is beacuse income statement includes a number of non cash items also. Also certain cash transactions doesn't go in income statement, such as cash received from debtors , or sale or purchase of fixed assets unless there is se gain or loss. Cash flow statement lists all these transactions. It helps in knowing whether the company has sufficient cash to run day to day businss. As without cash, it would be impossible for any business to run for long despite of having large profits .

Hence these three statements provide a lot about the business in terms of its position performance and management.