Financial Statements: Concept, Types, Objectives, and Financial Analysis for Investors

Financial statements: concept, types, objectives, and financial analysis of investors

Financial statements represent the backbone of the accounting system in any enterprise. It is the primary means used to communicate financial information to interested parties inside and outside the entity, including investors, lenders, creditors, senior management and regulators. These lists aim to provide a clear and integrated picture of the financial situation and economic performance of the entity during a certain period of time.
In this article, we highlight the concept of financial statements, their most important types, objectives, and the nature of their interdependence, as well as the most prominent financial indicators used in their analysis.

What are financial statements?
Financial statements are a set of accounting reports that are prepared at the end of each financial period. It provides comprehensive information on the results of the entity's business in terms of profit or loss, its financial position, cash flows, and changes in shareholders' equity. These statements are usually prepared in accordance with approved accounting standards such as the International Financial Reporting Standards (IFRS).

Financial statements are used in making economic decisions, such as evaluating performance, determining the ability to meet financial obligations, or making investment and financing decisions.

Objectives of the Financial Statements
The financial statements aim to:

• Provide useful financial information that helps investors, lenders and creditors make informed decisions regarding resource allocation.

• Assess the entity's ability to generate future cash flows.

• Disclosure of economic resources, assets, obligations of the entity and shareholders' rights.

• Clarify the results of operational, financing and investment activities during the period.

• Support transparency and trust in the financial market.

Types of basic financial statements

1. Statement of Financial Position Balance sheet
   This statement reflects the financial position of the entity on a given date. It consists of three main components:

• Assets:  Economic resources owned by the entity such as cash, inventory, buildings, investments, and intellectual property rights.

• Liabilities: Financial obligations incurred by the entity to third parties such as loans and outstanding expenses.

• Equity: represents the difference between assets and liabilities, including paid-up capital and retained profits. The basic accounting equation that organizes this list is: 
  assets = liabilities + shareholders' equity

2. Statement of income and other comprehensive income
   This statement shows the performance of the entity during a specified period of time, in terms of:

• Revenues 

• Expenses 

• Net Profit or Loss

It also contains an additional section called "Other Comprehensive Income", which includes financial elements that are not included in traditional profits, such as investment valuation differences or foreign currency translation differences.

3. Statement of cash flows
   This list shows the movement of cash in and out of the enterprise, and is divided into three main activities:

• Operational flows: resulting from the core activity of the enterprise, such as the sale of products or the provision of services.

• Investment flows: resulting from the purchase or sale of long-term assets.

• Funding flows: includes loans, share issuance, or dividend distribution.

Its importance lies in its ability to assess liquidity and the ability to meet short-term obligations.

4. List of Changes in Shareholders' Equity
   This list shows changes in the composition of shareholders' equity during the financial period, including:

• Changes in capital.

• Reserves.

• Retained earnings.

• Dividends.

Any increases or reductions resulting from the issuance or redemption of shares.

5.  Notes to the financial statements The 
   notes form an integral part of the financial statements and provide a detailed explanation of the accounting policies used, the nature of the items, and circumstances that do not appear in the body of the statements such as subsequent events. These clarifications may be crucial for understanding the lists accurately.

Correlation of financial statements
Although each statement has a separate purpose, the financial statements are interrelated. For example:

• Profit and loss from the income statement affects the equity of shareholders in the statement of financial position.

• Changes in cash from the statement of flows are reflected in the cash item in the statement of financial position.

• The statement of changes in equity is affected by retained earnings generated from net income.

Therefore, the reading of the financial statements must be comprehensive and coherent to ensure a full understanding of the entity's performance and financial position.

External Auditor's Report

Financial statements are usually accompanied by a report from an independent external auditor. This report expresses the auditor's opinion on the fairness of the financial statements and their compliance with accounting standards.

Types of reviewers' opinions:

• Unqualified Opinion: The financial statements are presented fairly without reservation.

• Qualified Opinion: There are comments or reservations on some items.

• Adverse Opinion: The lists contain substantial misrepresentations.

• Disclaimer: The auditor was unable to express an opinion due to data or circumstances deficiencies.

Financial analysis using financial ratios

The analysis of financial statements through financial ratios is an effective tool to evaluate the performance of the entity, and the most prominent of these ratios are:

• P /E ratio: Measures the relationship between the stock price and the earnings per share.

• Price-to-sales ratio P/S: Reflects the valuation of the enterprise compared to its revenue.

• P /B ratio: Shows the valuation of the stock compared to its accounting value.

• ROE: Measures the efficiency of equity use.

• ROA : Measures the efficiency of using assets to make profits.

• Turnover Ratio: Measures an entity's ability to meet short-term obligations.

• Quick liquidity ratio: Shows the ability of the entity to repay without the need to liquidate inventory.

These indicators are used to compare performance over time or compare the organization with others within the same sector.

Financial statements are an indispensable tool for understanding the financial situation of enterprises. It is not just accounting data , but a means of analyzing sustainability, efficiency, and profitability. Understanding and reading these lists comprehensively is a necessary step for any investor or financial analyst seeking to make rational decisions based on reliable digital facts.