Business Accounts and Users of Financial Statements - Research Paper Example

Business accounts Financial statements are prepared to show the financial position of a firm or an organization. Financial information that can be extracted from the financial statements are important to various stakeholders. The income statement, statement of financial position and the cash flow statements are the three statements that are mostly needed by the users of the financial information. The seven users of financial statements are present and potential investors, employees, lenders, creditors and suppliers, government authorities, public, management, and customers (Nikolai, Bazley, & Jones 2009). Each of the users has different needs and interest on the financial information. First, the investors require financial information to assist in making investment decisions. Before putting their resources for investment purposes, investors have to evaluate the performance of firms to establish whether the businesses can enable them earn their required rate of return (Fess & Warren 1993). This would help them make investment decision and determine what amount to invest in a firm. Shareholders are also interested in the financial performance of the firm as it determines the dividends they will receive and the worth of their investment. Firms with good financial performance well will have good share prices and shareholders will need this financial information to determine whether to sell their shares or buy more shares (Nikolai, Bazley, & Jones 2009). Lenders are the second users of financial information. Lenders are either individuals or financial institutions that offer loans to firms that are need of funds. Before making their lending decision in terms of whether to lend and what amount to give to firms. They have to look at the financial performance to determine the risk of their money. The lenders will be interested in the performance of the firm within the duration of their loan (Fess & Warren 1993). In addition, the employees and their unions are also interested parties of a firm’s financial statement. Employees put their efforts in ensuring that the firm achieves their objectives and therefore need feedback on their performance. They also require the financial statements as a basis for bargaining for their increment in remuneration and other benefits like the retirement benefits (Deloitte 2011). The employees also need the financial information to help in the formulation of new strategies that are meant for improving the performance of the organization. Financial information as well is needed by the employees to determine the organization continued existence for job security purposes. Creditors and suppliers are also interested in the financial information to determine the ability of the business to pay their owing debt as they fall due. This group is interested in the short term liquidity of the business rather than the long term performance (Deloitte 2011). Firms with good financial performance will have reliable creditors. Moreover, customers are also interested in the financial performance of the business in cases where they are interested in long term relationship with the business. Customers who depend solely on the business for their products will need to require surety of the business continued existence. Notwithstanding, the government authorities be it federal or state need the financial information for regulatory purposes. The security exchange authority will need the financial information to determine the policies and to determine the national income of the country (Deloitte 2011). They also require the financial performance as a way of determining the soundness of the capital markets. The public may also be interested in the financial performance especially to businesses that affect the general public good. The public closely monitors businesses that are major employers or contribute substantially to the economy (Kravitz 1999). Finally, the management, though in control of the preparation of the financial statements, need the financial information in making managerial decision and policies. IAS 1 gives the guideline for the preparation of general purpose financial statement and the required structure and content of the financial statement. This IAS require that the financial information should be made to cater for the interest of the stakeholders who are not in a position to get tailor made financial statements (Deloitte 2011). Further, the requirement demands that the statements be made fairly and with regard to the accounting policies and standards. Statement of financial position, Comprehensive income, cash flow, changes in equity and notes to the financial statements are the ones a business needs to prepare. It is also a presumption that the statements to be prepared are made for a reporting period of one year. Accounting principles of going concern, accrual basis, consistency, materiality and comparability are upheld when making the financial information (Deloitte 2011). The business should also make capital disclosures with regard to management of capital. The sets of financial statements should also be separately made and any terminology used should be defined for the purpose of understanding the financial information. Trial Balance Errors Trial is a statement that is made at a specific date and shows the balances of the ledger. A trial balance is normally prepared to show errors in the ledgers when posting of the transactions (Nikolai, Bazley, & Jones 2009). There are two types of errors that can be made while preparing a trial balance. The first type of errors are those that result to the non balancing of the trial errors while the other type are those errors that don’t affect the balancing of the trial balance. Various errors lead to the trial balance not balancing. The first reason why a trial balance might fail to balance is the calculation errors (Kravitz 1999). In calculation error, a wrong amount will be posted to the trial balance and this will cause the statement to fail to balance. For example the wrong calculation of debtors will make a wrong value be posted in the trial balance hence making the difference. Errors in amount posted in the ledgers would also lead to errors that can be revealed by the trial balance (Nikolai, Bazley, & Jones 2009). For example, a cash payment of $301 recorded correctly credited in cash ledger but recorded, as $103 in creditors will lead to failure of trial balance to balance. Wrong posting of transactions to the trial balance can also make the trail balance not balance. For example debiting an account instead of crediting would make the trial balance fail to balance. Finally, failing to make a double entry will also cause the trial balance fail to balance (Kravitz 1999). For example, where a cash sale has been made and only the sales account credited, the trial balance will fail to balance. The difference will be equal to the difference in the amount. On the other hand, there are errors that would be revealed by the trial balance. When these errors occur, the balancing figures in both the debit and credit side will be equal. The first kind of error here is the error of commission whereby a double entry has been made on both side of the trial balance but with a wrong amount (Fess & Warren 1993). For example, a cash sale of $ 100 is posted in the ledgers as $1000. Both the two sides of the trial balance would be equal while the trial balance would not be correct. The errors of original entry would also not be revealed by the trial balance e.g. posting sales value, as $23 instead of $32 is an example of such an error of original entry. The second type here is the error of complete omission (Kravitz 1999). Here, the transaction will not be posted to the trial balance because of the complete omission to record the transactions in the original books of entry. For example failing to record goods purchase of $300 will make the trial balance be wrong. Error of principle would also not be revealed by the trial balance. Here wrong entries are made but to wrong account for example purchase of machinery worth $200 posted in the purchase account and not purchases account. The trial balance would therefore balance but with wrong purchase and machinery value. Moreover compensating error would also not be revealed by the trial balance. In compensating error, the wrong entry posted would be overcome by another wrong entry of equal amount (Kravitz 1999). For example, overstatement of sales by $100 is compensated by understatement of creditors by the same amount. Finally, the error of complete reversal cannot be revealed by a trial balance. In this case, a credit is made instead of a debit and vice versa e.g. a payment to receipt of cash of $50 is credited to the cash account and debited to debtors account would not make the totals different (Fess & Warren 1993). Vodafone Group PLC Financial Ratios The company of my choice is Vodafone Group PLC , a company listed in the London stock exchange. The ratio of the company has been calculated to determine the viability and soundness of their financial performance. Ratio formula 2011 2010 ROCE=Net profit/capital employed*100 =7870/(151220-27075)*100% =6.3% =8618/(156985-28616) =6.71% EBT Margin=EBT/Sales *100% =9498/45884*100% =20.70% =8674/44472*100% =19.50% Acid test ratio=(current assets-inventory)/current liabilities =(17003-537)/27075 =0.61 =(14219-433)/28616 =0.48 Debt equity ratio=long term debt/Net worth *100% =36584/87555*100% =41.78% =37559/90381*100% =41.55% Interest cover=EBIT/interest expense =5596/429 =13.04 =9480/1512 =6.27 Inventory turnover=C.O.G.S/Av. stock =30814/(537+433)÷2 =63.53 =29439/433 =67.99 Receivable days=Av. Debtors/credit sales*365 =(9259+8784)÷2/45884*365 =71.76days =8784/44472*365 =72.09 days Payable days=Av. Creditors/Credit purchase*365 =(14698+14082)÷2/54650*365 =96.10days =14082/53645*365 =95.81days P/E ratio=M.P.S/E.P.S =21.6/15.2 =1.42 =20.86/16.44 =1.27 Dividend yield=D.P.S/M.P.S =8.9/21.6 =0.41 =8.31/20.86 =0.39 From the financial ratios, it is evident that the company performance has declined compared to 2010 financial performance. This is reflected from the reduction in the earnings from 8618 to 7870 leading to a decline in Return on Capital employed from 6.71% to 6.3%. There is otherwise an improvement in the acid test ratio meaning that the company is in a position to meet the short term financial obligation as they fall due (Bull 2007). The company interest cover has also significantly improved meaning that the company is in a position to pay its interest expense from the earnings i.e. the interest cover increased from 6.27 to 13.04. From the financial ratios, the company needs to improve their strategies in order to improve its performance. The almost constant performance of the company will not mean well to the company in the end and there will be no improvement in the market price of the shares. Financial ratios are critical in the determination of the profitability, liquidity, efficiency and the valuation ratios must be closely evaluated to ensure the business track is maintained. Reference List Bull, R 2007, Financial ratios: how to use financial ratios to maximise value and success for your business, Elsevier Burlington. Deloitte, 2011, Revised Standard on presentation of financial statements, IAS Plus . Fess, PE & Warren, CS 1993, Accounting principles, College Division, South-Western Pub. Co, Pennsylvania Kravitz, WW 1999, Bookkeeping the Easy Way,Barron's Educational Series, New York. Nikolai, LA & Bazley, JD & Jones, JP 2009, Intermediate Accounting Cengage Learning,South-Western. Vodafone, 2011,Vodafone Group Plc Annual Report 2011, Retrieved from http://www.vodafone.com/content/annualreport/annual_report11/business-review/chief-executives-review.html. Read More