Financial Statements - Introduction
Financial reporting is the method a firm uses to convey its financial performance to the market, its investors, and other stakeholders. The objective of financial reporting is to provide information on the changes in a firm's performance and financial position that can be used to make financial and operating decisions. In addition to being a management aide, analysts use this information to forecast the firm's ability to produce future earnings and as a means to assess the firm's intrinsic value. Other stakeholders such as creditors will use financial statements as a way to evaluate the economic and competitive strength.
The timing and the methodology used to record revenues and expenses may also impact the analysis and comparability of financial statements across companies. Accounting statements are prepared in most cases on the basis of these three basic premises:
1. The company will continue to operate (going-concern assumptions).
2. Revenues are reported as they are earned within the specified accounting period (revenues-recognition principle).
3. Expenses should match generated revenues within the specified accounting period (matching principle).
Basic Accounting Methods:
1. Cash-basis accounting - This method consists of recognizing revenue (income) and expenses when payments are made (checks issued) or cash is received (deposited in the bank).
2. Accrual accounting - This method consists of recognizing revenue in the accounting period in which it is earned (revenue is recognized when the company provides a product or service to a customer, regardless of when the company gets paid). Expenses are recorded when they are incurred instead of when they are paid.