Financial Statements - Essay Example

Yet, as much as they try to be absolutely accurate, the American Institute of Accountants has said, "They (financial statements) reflect a combination of recorded facts and accounting conventions and personal judgments; and judgments and conventions applied affect them materially" (cited in Yamamoto 2000 ch5). It is the job of the accountant to use sound personal judgment to quantify a company's finances to assure they are accurate and truthful. To understand the importance of the financial statement it's necessary to examine the information it contains and how it is utilized.

Many people view financial statements as a picture of absolute financial accuracy. They do contain statements on sales, expenses, assets, and liabilities. The numbers all match and balance. However, according to Hooke, ". a fair number of accounts rely heavily on the educated judgment of management and the corporate auditor" (Hooke 1998 p.153). The accountant assures that these educated judgments are a fair representation of the company's financial status. When a financial statement is read, there are assumptions made that help to accurately interpret the numbers.

By the use of conventions, statements are standardized to assure that they will present an accurate view of the business. One convention is that asset value is based on the original value. No account would be taken due to changing prices over time. Equipment would be depreciated against its original cost, not the replacement cost. Another common convention is that transactions are recorded when they are completed, not when the money changes hands. Sales can be recorded even though payment may not be due for several months.

The accountant's personal judgment that adheres to the concepts and conventions of accounting can help assure that the financial statement will present a true and fair view of a business's activities. The financial statement is made up of several key components. They usually include a balance sheet, a profit and loss account, a cash flow statement, and an equity statement. They will also include complex explanatory notes and disclaimers, which serve to clarify the accuracy of the numbers.

Taken together, these items form the core of the financial statement.The balance sheet in its simplest form is a statement of the assets a firm owns and who finances their ownership. It is a balance of assets and liabilities. Assets are the aggregate value of land, buildings, vehicles, equipment, and debtors. Liabilities are what the firm is liable for. Liabilities include loans, debt, and shareholder equity. Though the balance sheet indicates the value to the business' assets and the full extent of ownership and funding, it should not be confused with a valuation statement (Tiffin 2004 p.198).There are several conventions for formatting a balance sheet, though the IASB has made some attempt at harmonizing them.

In the UK, the generally accepted layout is the published accounts format. It contains fixed assets such as land and buildings and the intangible assets of goodwill. It also shows the total amount of investment assets. The liabilities are broken down into capital, profit or loss, and creditors. To this point the financial statement is little more than common bookkeeping. A firm records it income and records and classifies its expenses. Yet, this simplistic approach does not serve the