Major Users of Financial Statements - Essay Example

Users of Financial ments Introduction There has been an overwhelming increase in financial reporting that has seen an automated financial statement across corporate and government entities. The emphasis comes in the wake of increased call for accountability and responsibility in the management of finances within organization and government departments. The primary goal of this paper is to demystify why financial reporting is a cornerstone of modern accounting and users of these reports. Furthermore, it will explore various needs of financial statements and more importantly the primary users of these financial reports1. There are different types of financial statements that are critical in governance and businesses, the most important goal is to manage, control and account for any amount of money that accrue from the business (Alexander & Britton 2014). Purposes of Financial Statement Financial statements refer to chronological and formal records of business or operational activities of a person, business entity or government departments (Ernst & Young 2014). There are three core financial reports that form an integral part in the financial reporting. Firstly, balance sheet, this settlement gives an organization report on its assets, liabilities and ownership equity at any given time. The goal of this record is to ensure that the management follows systematically the companys state of affairs in managing capital, assets and addressing its liabilities2. It is an integral tool that allows detecting any abnormality in balancing assets and liability and allows for prudent decision-making (Alexander & Britton 2014). It simply shows the financial position of a business in modern accounting practice. Secondly, is the income statement, the purpose of this financial report is to give a comprehensive statement on the revenue collection and expenses? As the number one consideration in financial reporting, it should be prepared within the stipulated time, comprehensive, relevant and reliable. The income statement has an immense importance to stakeholders, managers and government for various purposes. It allows for actual valuation of the businesses (Ishmael 2012). Thirdly, the statement of cash flow is an important accounting, reporting that characterizes the current financial accounting system. It allows managers to know how cash flows within and outside organization (Dunn & Stewart 2014). The two critical uses of this report are accountability of cash within and outside organization3. Secondly, it allows tracing which department consumes more operating costs and more importantly, informs on financial activities and investment decisions. Iatridis (2010) states that for larger corporations, there has been a trend that allows incorporation of information systems that allows for these reports to be executed through automated software. In additions, there are summarized footnotes in some of these complex reports that provide footnotes analysis. Users of Financial Reports Alexander & Britton states that the primary objective of the financial report is to provide relevant information to both external and internal users. There are three key external users of any financial report from a business entity. Firstly, are the investors or shareholders. 4As neutral entities, they receive financial position of a business through timely and comprehensive compiled balance sheets and other financial reports5. This statement is important in their decisions on whether to buy more shares, sell or any other decision (Doran 2012). Notably, the investors decisions on financial action to undertake are met by these statements. The Financial Accounting Standard Board (FASB) notes that the critical users of financial statements to shareholders, investors and creditors are to allow for rational economic decision (Giggle et al., 2014). In addition, the board emphasizes that the objective of financial reports is to provide useful information to investors and creditors. Besides, they should allow a crucial study of cash flow within an organization with a view of correcting erroneous expenses. In addition, the report should allow managers to study a systematic position of a firm with a special purpose of ensuring prudent use of organization resources6. Wise use of resources is the latest management trend whose purpose is to ensure that there are value and accountability of any resource used. Harrison (2014) identifies that banks and other financial institutions are critical users of financial statement. When a business entity wishes to borrow loan or goods on credit terms, the bank usually makes valuation on the amount of goods based on the latest financial statements. Notably, a balance sheet will show the financial situation of the company and thus will be useful by banks in identifying other liabilities of a business. Where the liabilities almost equal the total assets, banks and creditors will be reluctant to extend credit facilities to such businesses. Robbinson (2009) agrees that lending institution decisions are largely informed by the financial statements, but not how prospective a business proposal seems7. In addition, lending institutions will use financial reports to allow or disallow any fresh working capital, extend securities such as debentures or bank loans. Within the credit section in many banks, valuation of financial position of businesses that require loans is done. The amount of money to lend to any business entity should be supported by filing important financial reports that outline asset, liability and other important information requested by lending institutions (Gowthorpe 2007). In addition, business owners and managers require financial statements to equip them with status of business operations. They are critical in studying trend on whether the business is making profits, which is the ultimate goal of any entrepreneur or losses. Moreover, they use financial statement to make investment decisions on whether to continue with the operations, terminate or expand the organization (Doran 2012). The most important management, use of financial reports is financial analysis8. Financial analysis is a systematic study of each component and entry in financial statement that allow the managers to make big investment decisions. Furthermore, a systematic financial statement is the central role of managers that they owe to investors. Ernst & Young (2014) notes that government is an important user of these financial reporting. Notably, every business entity and other profitable enterprises are requiring by law to file financial returns periodically with a relevant government department. They are used to calculate tax and customs duties chargeable from business operations9. Besides, the governments departments are required by law to make financial returns detailing on their operations and expenditure. Financial reporting is considered an impetus of good investment and borrowing from international financial institutions. In addition, through financial reporting accountability and transparency is achieved (Harrison 2014). Apart from the legal requirements that compel business entities to submit their financial records to the government, the government departments have stringent financial statement filing that is the cornerstone to good governance practice. Discussion In United States, there have been theories on users of financial statements that include A Statement of Basic Accounting Theory (ASOBAT) and Statement of Financial Accounting Concepts (SFAC) (Alexander & Britton 2014)10. Under both surveys, they concluded that financial records are important elements that integrate the owner of the business with both internal and external agencies. It further confirmed the fact that accounting is a set of chronologic and systematic filing that document important entries important to shareholders, creditors, managers, employees and government agencies. The fundamental goal of financial reporting is theoretically identified as decision-making. However, in financial reporting system businesses can either gain or lose depending on the professionalism used. Notably, when financial reporting is systematic and detailed, they are useful because they help study financial position of a business. In addition, they are a critical tool that allows auditing of every transaction. Auditing is one of the fundamental tools in modern accounting that allows neutral party to examine finance use within an organization or a department (Ishmael 2012). It ensures that there is prudent monitoring of money within an organization. Auditors use financial statements that should translate to actual physical and visible projects. According to FASB, financial reporting serves management of a business with two primary purposes. Firstly, it allows managers to explain the business state of affairs through making critical steps such as lending more capital (Media 2012). Secondly, it allows for comprehensive and reliable decisions when addressing external stakeholders such as government departments on purposes of taxation and legislation. Creditors and prospective shareholders are important targets for good financial reporting practice. It allows for bargaining power by displaying financial competencies within an organization. However, this financial reporting may be lengthy, complex and expensive to small and medium enterprises. They are additional costs that bite into small profits from their operations. Despite being a crucial tool in estimating the progress of any firm, financial statements do exhibit a number of limitations as reporting components. They are prone to human error and interpretation. Errors can be done intentionally to manipulate figures to inflate the economic performance and consequently not reflecting the actual financial position of the company during the reporting. Additionally, that there are different methods of accounting approaches in diverse companies. Such methods may make comparison of company’s finances across time and companies difficult. Consequently, they should incorporate information from outside to make the organization assessment. it should contain the environmental, economic and social costs to make the evaluation more accurate. Concisely, financial statements are categorized through the managers’ view. For this reason there will arise disparities from one accounting period to another in case the companies engage in different activities (Harrison 2014). Conclusion Financial statements in corporate management are important for four main reasons. Notably, they are records that incultivate accountability and transparency as positive corporate practice. These are two main areas that have been emphasized in a recent business management. Besides, accountability ensures that the business funds are used for the right purpose. In addition, this paper recognizes a number of important users of financial statements. Business managers, shareholders and suitors use these reports to monitor how money is being allocated and utilized. Moreover, financial report preparation allows the stakeholders in decision-making regarding the running of the business. Through balance sheets, the performance of the business can be established hence banks and other financial institutions use these records in assessing credit worthiness. Besides, government uses financial reports in calculation of tax rates. In summary, financial reports are used by numerous agencies hence worth preparing them. References List Alexander, D., & Britton, A. 2014. International financial reporting and analysis (Sixth ed.) New York: New York Publishers. Doran, D. T. 2012. Financial reporting standards a decision-making perspective for non-accountants. New York, N.Y.] (222 East 46th Street, New York, NY 10017): Business Expert Press. Dunn, J., & Stewart, M. 2014. Advanced financial reporting and analysis. Chichester: Wiley. Ernst, M., & Young, K. 2014. International GAAP 2014 generally accepted accounting practice under international financial reporting standards (Global ed.). Chichester, UK: J. Wiley & Sons. Gigler, F., Kanodia, C., Sapra, H., & Venugopalan, R. 2014. How Frequent Financial Reporting Can Cause Managerial Short-Termism: An Analysis of the Costs and Benefits of Increasing Reporting Frequency. Journal of Accounting Research, 52(2), 357-387. Gowthorpe, C. 2007. Financial Analysis (4th ed.). Burlington: Elsevier Science & Technology. Harrison, W. T. 2014. Financial accounting international financial reporting standards (9. ed., Global ed.). Harlow: Pearson Education. Iatridis, G. 2010. International Financial Reporting Standards and the quality of financial statement information. International Review of Financial Analysis, 19(3), 193-204. Ishmael, T. 2012. Perceptions and Misperceptions Regarding the Unqualified Auditor’s Report by Financial Statement Preparers, Users, and Auditors. CFA Digest, 42(3), 87-89. Media, B. L. 2012. FIA Foundations of Financial Accounting - FFA Study Text-2013 Study Text.. London: BPP Learning Media. Robinson, T. R. 2009. International financial statement analysis. Hoboken, N.J.: John Wiley & Sons. Read More