1. Balance Sheet
The term Balance Sheet is commonly used in the domain of Financial Accounting. The balance sheet is a statement that makes a declaration about determined financial position of all monetary and finance related input and output of a particular company, organization, or association. According to Northcentral University (2011), “The balance sheet, or statement of financial position, lists the firm’s assets and liabilities, providing a snapshot of the firm’s financial position at a given point in time (p. 20).”
The core objective is to keep track of financial balances related to the organizational activities and maintain awareness about the kind of finance that is utilized for organizational purposes. A Balance Sheet keeps record of assets, determined liabilities and specific notes of ownership equity, especially by the end of Fiscal Year (FY).
The three basic kinds of aspects handled through balance sheet are (ibid., p. 20):
- Assets: enlisting cash, property, inventory, equipment, plant, and all the other kinds of investments made by a particular company.
- Liabilities: is about the obligations of the particular organisation towards the creditors.
- Ownership equity: stands as the difference counted between the assets and the liabilities under measure of accounting net worth of the organisation or the company.
On a more precise note, the numbers of the Balance sheet get characterized as “of prime interest to lenders, credit rating agencies, bank regulators, etc. (Franco, et.al., 2011 p. 927)”.
2. Income Statement
Northcentral University (2011, p. 25) declares that an Income Statement is also known as ‘Statement of Financial Performance.’ It is the declaration of total revenues, as well as expenses, that a firm projects for a specific time period. In addition, it assists in clearly stating the projected net income of a firm’s assessed profitability in the pre-determined time span. For this reason, the income statement is often identified as “P&L” or the Profit and Loss statement and is a matter of great concern to the equity market participants (Franco, et.al., 2010 p. 1579).
The key role of an income statement lies in offering important data about the firm’s profitability and the connection of the same to the attained share values of the firm (Franco, et.al., 2011 p. 899) states income statement as the summary of the earnings owned by the firm. It is necessary to understand that income statement gets represented for a particular period, just like cash flow statement, and unlike a balance sheet that represents a single moment of a particular span of time.
3. Operating Cash Flows
The operating cash flows are the results of “operating, investing, and financing activities” with the inclusion of cash receipts (that is the positive amounts) and cash payments (that is the negative amounts), (Northcentral University, 2011, p. 741). As such, the operating cash flow is a representation of the cash flow that is offered through organizational operations. OCF or the Operating Cash Flow is also considered as free cash flow attained from specialised operations or the ‘FCFO’ and gets referred as the cash amount that is generated by a company from revenues that it collects. This is an approach that excludes associated costs under long-term investment plan over the determined capital or investment made over securities.
According to Hand and Jeremiah (2009, p. 7) “When the statement of cash flows is available, annual accruals (ACC) are net income less operating cash flow scaled by average total assets”. To exemplify, ‘Interest’ stands as an operating flow. As interest can adjust for the count of liabilities, total receivables, and above all combats depreciation, it is a kind of operating cash flow that remains more accurate aspects about the total cash generated by a firm. It is thus the operating cash flow that is liable to offer more accurate snapshot of current cash-holdings of a particular firm than artificially accumulated low net income.
4. Statement of Retained Earnings
The Statement of Retained Earnings as identified by Northcentral University (2011) notes the difference between assessed between the net income of the firm and the total amount spent by the same firm on dividends. This estimation gets calculated for a span of the financial year, in general (p.32). The formulation of retained earnings is thus declared as:
Retained Earnings = Net Income - Dividends
It is for this reason that the statement of retained earnings is considered to be one of the basic financial statements led by a particular firm or organization. The statement of retained earnings is responsible for illustrating changes noted in terms of retained earnings within a particular span of time. These changes are thoroughly broken down for the interest of the owner of the firm and are implied for the retained profit. It otherwise remains implicit for the surplus that has been attained from selected accounting period to the period that comes next. The basic inclusions are the losses or the profits as attained from operations, paid dividends, concerns of stock redemption and all those aspects that get charged or further credited towards the retained earnings. It is thus necessary to note that these statements are integral to accounting principles and are used for comprehending owners' equity as ‘assets – liabilities.’
5. Net Working Capital
According to Northcentral University (2011), “The difference between current assets and current liabilities is the firm’s net working capital, the capital available in the short term to run the business (p. 22).”
Thus, in order to attain Net Working Capital (NWC), the particular firm must deduct the calculated liabilities of the current period from assets of the current period. As a result, any firm that attains low (or relatively negative) count of net working capital are subject to face financial risks, especially the instance of shortage or limitation of funds.
The working capital has been recognized as a specified financial metric that is liable to represent the availability of the operating liquidity in a firm, from both public and private sector businesses. Added by fixed assets, especially those like equipment and plant, it becomes an integral part of the entire operating capital. This aspect derives the formulation that gross working capital is same as the total current assets. Thus,
Net working capital = Current assets - Current liabilities
In this context, the working capital is in general implied with reference to the valuation approaches like Discounted Cash Flows (DCFs). It is important to note that in case current assets remain lesser than current liabilities, the firm will have working capital deficiency or will be identified for working capital deficit.
Franco, G.D., Wong, M.H. F. and Zhou, Y. (2010) Accounting Adjustments and the Valuation of Financial Statement Note Information in 10-K Filings (March 10, 2010).
Franco, G.D., Kothari, S.P. and Verdi, R.S. (2011) The Benefits of Financial Statement Comparability. Journal of Accounting Research. Volume 49, Issue 4, pages 895–931, September 2011
Hand, J. R. M. and Jeremiah, G. (2009). The Importance of Accounting Information in Portfolio Optimization Journal of Accounting, Auditing & Finance, January 2011, Vol. 26, Issue 1, p. 1.
Northcentral University (2011) SKS7000-Executive Concepts in Business Strategy. Pearson Learning Solutions. Northcentral University. Custom Edition. ISBN: 9780558870638