Question

Explain the advantages and disadvantages of financial statements. (need 500-600 words)

Answer 1

Answer:-

Financial statements are formal records of the financial activities and position of a business, person, or other entity. Financial statements are reports prepared by a company’s management to present the financial performance and position at a point in time. A general-purpose set of financial statements usually includes a balance sheet, income statements, statement of owner’s equity, and statement of cash flows. These statements are prepared to give users outside of the company, like investors and creditors, more information about the company’s financial positions.

The Advantages of financial statements are as follows:-

1. Review of Cash Flow: It shows the financial solvency and the ability of the company to pay its liabilities. Review of cash flow helps us understand whether the business is operating under a cyclical revenue stream structure or consistent revenue model. This also helps the business to maintain and keep the expenditure of business inline within the revenue model it operates in.
2. Review of Liability: Financial statements presents the short- and long-term obligations of the business. If the owner wants to expand his business, he must look at the statements of financial position and deduce the logic as to whether he should reduce existing liabilities to apply for further capital expansion.
3. Review of Inventory and its movement: The levels of opening and closing stock as a percentage of purchase and sales along with the changes and movements in the levels of stock throughout the year shows the ability and nature of goods of the business. It shows whether the goods are in demand, fast-moving or slow-moving or change in the trend of sales and so on.
4. Identification of Trends: The business owner should prepare and compare financial statements over various periods so as to identify the trend in business. This helps the business in knowing what products are selling well, what segments are growing well and which segment of business needs further review and re-investment or complete exit at once.
5. Preparation of Budget: To prepare vision, the business must have defined goals and objectives. The objective of financial statements is to prepare a blueprint for the future by analyzing the past financial statements already prepared and audited. Budgets help to keep the expenses in line with income and sales.

The Disadvantages of financial statements are as under:-

1. Only Interim Reports: These statements do not give a final picture of the concern. The data given in these statements is only approximate. The actual position can only be determined when the business is sold or liquidated. However, the statements have to be prepared for different accounting periods, generally one year, during the life time of the concern.

2. Do not Give Exact Position: The financial statements are expressed in monetary values, so they appear to give final and accurate position. The value of fixed assets in the balance sheet neither represents the value for which fixed assets can be sold nor the amount which will be required to replace these assets. The balance sheet is prepared on the presumption of a going concern.

3. Historical Costs: The financial statements are prepared on the basis of historical costs or original costs. The value of assets decreases with the passage of time current price changes are not taken into account. The statements are not prepared keeping in view the present economic conditions.

4. Impact of Non-Monetary Factors Ignored: There are certain factors which have a bearing on the financial position and operating results of the business but they do not become a part of these statements because they cannot be measured in monetary terms. Such factors may include the reputation of the management, credit worthiness of the concern, sources and commitments for purchases and sales, co-operation of the employees, etc.

5. No Precision:  The precision of financial statement data is not possible because the statements deal with matters which cannot be precisely stated. The data are recorded by conventional procedures followed over the years. Various conventions, postulates, personal judgments etc. are used for developing the data.

The financial statements only show the position of the financial accounting for business and not the financial position.