Components of Financial Statements

Financial statements provide information about the financial position, financial performance, and cash flows of a business. The three main financial statements are:

Cash Flow Statement
Income Statement (Statement of Profit or Loss)
Balance Sheet

An additional statement, known as the Statement of Retained Earnings (Statement of Changes in Equity), explains changes in shareholders’ equity during the accounting period.

1. Cash Flow Statement

Meaning

The Cash Flow Statement shows the actual inflow and outflow of cash during a specific accounting period. It helps determine how much cash the business has received and paid during the period and explains the change in the cash balance.

The closing cash balance is determined using the following formula:

Cash Inflow – Cash Outflow + Opening Cash Balance = Closing Cash Balance

The Cash Flow Statement focuses only on actual cash transactions and helps assess the liquidity position of the business.

Key Exam Points

Shows cash receipts and cash payments.
Covers a specific accounting period.
Determines the closing cash balance.
Formula:

Cash Inflow − Cash Outflow + Opening Balance = Closing Balance

2. Income Statement (Statement of Profit or Loss)

Meaning

The Income Statement, also known as the Statement of Profit or Loss, shows the financial performance of a business during a specific accounting period, generally one financial year.

It records the income earned and expenses incurred during the period and determines whether the business has earned a profit or incurred a loss.

If expenses exceed income, the result is a Net Loss.

Calculation of Profit or Loss

The profit or loss is calculated as follows:

Sales (Revenue) − Cost of Goods Sold − Selling, General & Administrative Expenses (SGA) − Depreciation/Amortization = Earnings Before Interest and Taxes (EBIT)

EBIT − Interest Expense − Tax Expense = Net Profit / Net Loss

Important Terms

Sales (Revenue): Income earned from business operations.
Cost of Goods Sold (COGS): Cost of producing or purchasing goods sold.
SGA Expenses: Selling, General and Administrative expenses.
Depreciation/Amortization: Allocation of the cost of assets over their useful life.
EBIT: Earnings Before Interest and Taxes.

Key Exam Points

Shows income, expenses, profit or loss.
Prepared for a particular accounting period.
Also known as the Profit and Loss Account (P&L) or Income Statement.
Final result is Net Profit or Net Loss.

3. Balance Sheet

Meaning

The Balance Sheet presents the financial position of a business at a particular date, usually at the end of the financial year.

It shows three important components:

Assets
Liabilities
Owner’s Equity (Capital)

The Balance Sheet is based on the Basic Accounting Equation:

Assets = Liabilities + Equity

This equation always remains balanced.

Components of Balance Sheet

Assets

Assets are the resources owned by the business that provide future economic benefits.

Liabilities

Liabilities are the obligations or debts that the business owes to outsiders.

Owner’s Equity

Owner’s Equity represents the owner’s claim on the assets of the business after deducting liabilities.

For a corporation, Owner’s Equity generally consists of:

Common Stock
Retained Earnings

Balance Sheet Presentation

Accounting standards prescribe the format for preparing the Balance Sheet.

Under IFRS

According to International Financial Reporting Standards (IFRS):

Non-current Assets and Liabilities are presented first.
Current Assets and Liabilities are presented afterwards.
Assets and liabilities are arranged in increasing order of liquidity (least liquid to most liquid).

Under GAAP

According to Generally Accepted Accounting Principles (GAAP):

Current Assets and Liabilities are presented first.
Non-current Assets and Liabilities are presented later.
Assets and liabilities are arranged in decreasing order of liquidity (most liquid to least liquid).

Key Exam Points

Shows the financial position on a particular date.
Prepared using the equation:

Assets = Liabilities + Equity

IFRS: Non-current items first (Increasing liquidity).
GAAP: Current items first (Decreasing liquidity).

4. Statement of Retained Earnings (Statement of Changes in Equity)

Meaning

The Statement of Retained Earnings, also called the Statement of Changes in Equity, is an additional financial statement that explains the changes in the shareholders’ equity during an accounting period.

It shows how net profit and dividends affect the retained earnings of the company.

Retained Earnings are the accumulated profits of previous years that are retained in the business instead of being distributed as dividends.

Formula

Retained Earnings at Beginning + Net Income − Dividends = Retained Earnings at End

Key Exam Points

Shows changes in Retained Earnings.
Explains the impact of Net Profit and Dividends.
Retained Earnings represent accumulated profits kept in the business.

Difference Between Major Financial Statements

Financial Statement	Main Purpose	Prepared For	Key Information
Cash Flow Statement	Shows cash inflows and outflows	Specific accounting period	Cash position
Income Statement	Shows profit or loss	Specific accounting period	Income and expenses
Balance Sheet	Shows financial position	Particular date	Assets, liabilities and equity
Statement of Retained Earnings	Shows changes in retained earnings	Specific accounting period	Profit retained after dividends

Key Points

The three main financial statements are:
- Cash Flow Statement
- Income Statement
- Balance Sheet
The Statement of Retained Earnings is an additional financial statement.
Cash Flow Statement records actual cash receipts and payments.
Income Statement determines Net Profit or Net Loss.
Balance Sheet is based on the equation:Assets = Liabilities + Equity
EBIT means Earnings Before Interest and Taxes.
Under IFRS, Non-current Assets/Liabilities are presented first.
Under GAAP, Current Assets/Liabilities are presented first.
Retained Earnings are accumulated profits retained in the business after payment of dividends.

Quick Revision Summary

Statement	Remember
Cash Flow Statement	Cash Inflow – Cash Outflow + Opening Balance = Closing Balance
Income Statement	Revenue – Expenses = Net Profit / Net Loss
Balance Sheet	Assets = Liabilities + Equity
Statement of Retained Earnings	Opening Retained Earnings + Net Income – Dividends = Closing Retained Earnings