Question

In presenting financial statements, what do you feel is the most important statement and why? Give an example of a decision you have made or observed being made involving financial statement analysis.

Answer 1

In my opinion, the income statement is the most important financial statement. It is because it indicates the sources of revenues and expenses and highlights the net profitability (of the company) which is frequently used by investors and other stakeholders in determining and evaluating the financial position of the company. It contains information which is used in calculation of various ratios used in financial statement analysis. All return related ratios are calculated in terms of net income or EBIT as derived in the income statement. However, financial statement analysis cannot be performed solely on the basis of data available in income statement. It has to be used in conjunction with other financial statements like balance sheet and cash flow statement.

Financial statement analysis is done to understand the financial credibility of the company and to determine its future prospects. Financial analysts recommend different companies to their clients for making investments on the basis of knowledge gained by them through financial statement analysis. I have also made some investments based on the recommendations of my financial advisor. Various ratios such as PE Ratio (Price Earnings Ratio) and EPS (Earnings Per Share) are used for evaluating and analyzing a company's peformance (from an investment perspective). Besides, banks and financial institutions also conduct financial statement analysis before extending loans to companies.