Financial Statements

The set of formal reports produced at the end of an accounting period, together showing an entity’s profitability, financial position, and cash movements.

Statement of Profit or Loss and Other Comprehensive Income

Reports income and expenses for the period, ending with items recognized outside profit or loss. Detailed in Profit, Loss and OCI.

Shows whether the entity generated a profit or loss over the period, and how that result was earned.

Statement of Financial Position

Presents assets, liabilities, and equity at a specific point in time, following $\text{Assets} = \text{Liabilities} + \text{Equity}$. Element definitions in Elements of Financial Statements.

Shows what the entity owns, owes, and is worth to its owners at a given date.

• Presented in order of liquidity, split into current and non-current for assets and liabilities.
• Non-current items listed first, current items last.
• Equity shown as a residual after liabilities, broken down by share capital, reserves, and retained earnings.

Statement of Changes in Equity

Explains movements in an entity’s equity over an accounting period, connecting the statement of profit or loss with the statement of financial position.

Shows why equity changed between the opening and closing statement of financial position.

• Connects the statement of profit or loss with the statement of financial position by explaining movements in equity.
• Shows capital contributions, profit retention, dividend policy, and capital withdrawals not visible in the other statements.
• Helps shareholders, investors, and management assess capital management and financial stability.
• Profits earned during the period increase equity.
• Losses incurred decrease equity.
• Dividends declared and paid decrease equity.
• Issue of new shares increases equity.
• Share buybacks and redemptions decrease equity.
• Changes in asset fair value booked directly to reserves increase or decrease equity depending on the direction of revaluation.

Statement of Cash Flows

Reports cash inflows and outflows for an accounting period. Classified under activities.

Shows how the entity generated and used cash over the period, since profit alone doesn’t reveal liquidity.

Cash

Cash on hand and demand deposits.

Cash equivalents

Short-term highly liquid investments readily convertible to known amounts of cash, subject to insignificant risk of value change.

Cash flows

Inflows and outflows of cash and cash equivalents.

Activities

Operating Activities

Cash flow resulting from the entity’s day-to-day production and selling activities, excluding investing and financing activities. Includes cash received from customers and cash paid to suppliers and employees.

Investing Activities

Cash flow resulting from the entity’s asset-related activities: the acquisition and disposal of long-term assets and other investments not considered cash equivalents.

Financing Activities

Cash flow from activities that alter the equity capital and borrowing structure of the entity.

Preparation Methods

Only cash flow from operating activities differs between the 2 methods. Cash flows from investing and financing activities are calculated identically in both, and net cash inflow from operating activities is the same regardless of method.

Direct method

Converts each income statement item to a cash flow, e.g. sales converted to cash receipts from sales.

Indirect Method

Adjusts net income for non-cash items and working capital changes to arrive at operating cash flow.

• Start with net income as reported on the statement of profit or loss.
• Add back depreciation and other non-cash expenses.
• Subtract gain on disposal of fixed assets and interest income, reported under investing activities.
• Add back loss on disposal of fixed assets, reported under investing activities.
• Add back interest expense, reported under financing activities.
• Adjust for changes in current assets and current liabilities:
  • An increase in current assets is deducted from net income.
  • An increase in current liabilities is added to net income.
  • A decrease in current assets is added to net income.
  • A decrease in current liabilities is deducted from net income.
• Arrive at net cash inflow or outflow from operating activities.

Worked example

Net income: 50,000. Depreciation: 8,000. Accounts receivable increased by 5,000. Inventory decreased by 2,000. Accounts payable increased by 3,000.

Notes to the Accounts

Supplementary disclosures accompanying the statements above.

• Accounting policies applied in preparing the statements, e.g. depreciation method, inventory valuation basis.
• Breakdowns of line items summarized on the face of the statements, e.g. a schedule of property, plant and equipment.
• The accounting concepts and standards under which the statements were prepared.