Statement of Financial Position - Term Paper Example

The extent to which ment of financial position allows potential investors to access the security of their intended investment and to determine the true net worth of the business Name Institution Introduction Currently, many companies use statement of financial position to evaluate their performances in the business. This statement enables investor know whether securities they intended to invest in have any associated risks. Financial Statement gives an investor vital information of company’s performance and its position. The analysis of information by investor enables them compare past performance of company, position of the company with other industry and whole market at large. Banks needs financial statement to know whether loan money or not, and companies require statement to ascertain risk of doing business with customers and suppliers. Financial statement position of a company have measurable characteristic and easily evaluated (Financial Review, 2015, 1). Statement of financial position has essential skill at various occupations such as corporate finance, credit extension, commercial lending and investment management. Individuals engaging such activities should analyze data connection with investment decision. The financial statement should conquer with generally acceptance accounting principles (GAAP) (Wiley and sons, 2015, p4). The statement of financial performance should provide information on revenue, expenses, other profit measures such as gross profit and net profit (Financial Review, 2015, 1). Worked example Statement of financial Position: ABC Ltd For the year ended 30th June 20x5 $ $ Sales Revenue 100000 Less cost of Goods sold 40000 Gross profit 60000 Less other expenses Advertising 9000 Wages 26000 Depreciation 2000 Interest on loans 50000 42000 Net profit 18000 Explanation Sales revenue show the cash generated from provision and sales of goods and services. Expenses represent costs incurred during the process of generating revenue. Extracted cost associated with consumption of goods and services in operating business. Gross profit shows the total revenue generated less cost of goods and services sold. Identifies the total amount available used to cover other expenses. Net profit shows the net increase earned from resources of assets sold (Financial Review, 2015, 1). The above worked example has clearly indicated all the information, which an investor requires to know before making a judgment relating to investment. The investor should compare personal security with the information shown and come up with the conclusion. The information to focus on includes the sales revenue, expenses, gross profit and net profit. This information shows the base line of company and indicates the least amount required for an investor to start the business. The investor can easily attain the amount shown on the statement of financial position above (Financial Review, 2015, 1)... In some cases, the amount represented on the statement of financial position has higher amount for investor to attain. In such cases, the investor should avoid risking the security available rather than look for an alternative. An investor who does not follow the instruction and engage in such risky securities asset investments might incur loses if not careful. One should make decision first after comparing financial statement with the personal securities before investing. The above illustration shows that the amount represented on the statement of financial position has easier way of attainment in the current marked. The figures show the list amount for a newly beginning investor to consider. This builds their interest and morale since the amount indicated has least digit easier to borrow from banks. The statement should show the progress of the company as it compare with past performance. The statement should also indicate the similarities with company as well as the whole market (Financial Review, 2015, 1). The access of the statement of financial position enables the investors understand more on the security intended to carry on business. This statement provides them with clear information to determine the true net worth of the business. Statement of financial position that indicate high revenue and less expenses determines the true net worth of the business. The result of the statement gives the company high returns in form of gross profit and net profit. Where company expenses have high value than the sales revenue, definitely will lead to a loss since the gross profit not attainable. The company should maintain maximum sales revenue and minimum expenses to remain competitive in the market (Financial Review, 2015, 1). Purposes of statement of financial position Indicate financial position The statement also called balance sheet, indicates the financial position performance of the company at a specific date. The statement analyzed at several periods of accounting can help in identifying trends for the financial position performance of the company. The comparison helps the investor know whether the business is progressing or not. The company can various drawbacks identified in the statement that help in increasing the profit in future. Investing in risky securities also reduces since the investor understands the performance (Accounting- Simplified, 2015, 1). Understand financial soundness Investors easily know financial soundness position of company by accessing it in terms like its financial, liquidity, credit, and business risks. Comparison with other statement of financial position of competitors helps identify the relationships as well as treads that show potential problem. Areas that require further improvement also easily identified (Accounting- Simplified, 2015, 1). Future predictions Financial statement help predict future position of the company by analyzing the amount obtained. This amount collected in a specific period can predict the company future earnings. Various techniques applied should help increase the profit obtained in future by identifying cases where loss can occur and correct them in advance. Company should consider time taken in order to predict future performance (Accounting- Simplified, 2015, 1). Provide information to various users Financial statement provide information to various uses to enable them understand the health of the company. It helps managers manage the company affairs after accessing the performance in order to make business decisions. Shareholders use it to access return and risk of investment and make important decision from the analysis. Suppliers require the statement in order to access company credit worthiness to ascertain whether to give goods at a credit (Bradshaw et al., 2014, p. 186). Competitors will compare performance in order to develop various strategies to remain competitive. Finally, employees access financial statement to know company’s profitability as well as the consequence in regards to future remunerations (Account Simplified, 2015, 1). Limitations of statement of financial position Accounting estimates Preparation of actual financial statement has difficulties in formulation. Company estimates the amount value used thus the statement differ from the actual statement. Estimation may not give the correct financial position of the company thus difficult to predict its future performance. The estimated amount may contain higher or lower amount that result to inappropriate financial statement. Comparisons with other competitors not possible since the actual statement appear incorrect. The company cannot compare the financial treads of the performance thus become difficult to improve (Accounting Simplified, 2015, 1). Error and fraud Financial statement has susceptible exposes to error and fraud. These undermine overall credibility as well as information reliability. This deliberate manipulation has geared towards company achieving predetermined results. The scandals arise within the management due to untrue financial statement presented. Investors should take caution to avoid errors that may lead them making false financial statement. Investor should have information about fraud and know how it occurs to avoid loss from the company revenue (Follett, 2012, p4). Measurability Investor should know that accounting takes transactions on monetary terms. The statement only includes the asset that has easier measurable capabilities in term of many. Transaction will not consider resources whose value cannot reasonably predicted. An investor will to start a business should avoid keeping most assets in non- monetary value. Where a company has many assets in non-monetary terms, preparation of financial statement becomes difficult thus resulting to inappropriate financial statement. The company will not able to predict future tread and performance of the competitors (Barrow, 2011, p98) . Difficult to predict The statement of account base on past performance obtained from the company. This lack investor’s predictive value since most of them does not know the past performance of the company. Most companies fail to disclose their past performance to new investor hence become difficult to evaluate their future performance. This lead an investor engaging in a risky security unknowingly due to lack of information hence incur loss. The investor should make good decision before engaging in any transaction to avoid loss and increase their profit in future (Follett, 2012, p4). Different accounting frameworks and policies The investor should know that different standards exist and each has its own policies. This cause limitations to investor since some standard may push them to make statements very different from the amount they have. Some standard may have strict instructions that investors cannot follow or impose them in preparing the financial statement. The investor should carry out a thorough research about the available standard in order to know which to apply. Failure to do so may end up using a standard that cannot apply. Investor should choose standard that comply with the security set for investing (Follett, 2012, p4). Verifiability Accounting requires verification of financial statement by use of various mechanisms. They help the company identify various mistakes indicated in the financial statement and correct them. Company should carry out audit to get the truth and assurance of their performance. Carrying out business blindly may prevent company from obtaining the actual results thus end up making losses. Although a company may engage in carrying out auditing frequently, some material misstatements may remain undetected in preparation of financial statement. Misstatements thus result to a limitation of using statement of financial position to know the performance of an entity (Barrow, 2011, p98) . Professional judgment Accounting requires the use of professional judgment to prepare the financial statement. Professional comprises of people with special and general knowledge about accounting. They help an entity compare performance with economic reality and according to accounting standards. The investors are equipped with necessary information about the economy in order to sell product in market price and generate profit. Differences arises interpretation of security requirement to accounting standards where the practical application has inevitable results. The more professional judgment involved result to increase in subjective statement of financial position. This result to a limitation of using financial statement and investor should consider that in decision-making (Barrow, 2011, p98). Cost compromise benefit Preparation of financial statement requires reliability of information. Finding of information imposes cost on production. In some cases, cost of providing reliable information may overweight benefits expected. At this position company, can nothing rather than compromising the gain. The limitation of this accounting information prevents investors from predicting future performance of the company. Good decision-making will help curb this kind of limitation (Follett, 2012, p4). Sources of information that help potential investors to assess the risk associated with investment Investors can obtain more information about the risk associated with investment from other sources apart from financial statement. This source enables them to make decisions regarding investment. These sources included: Internet Nowadays, internet has become a major source of information to most individuals globally. Investor may obtain information written by some business people about the source of risk when inviting. Information may include risks associated in investing at underdeveloped areas or low population provides. This information helps the investor in decision making on how to invest (Collins et al., 2012, p117). Newspaper Investors can obtain information from newspaper regarding the performance of other company. This information will help them identify the risk that causes the drawbacks of such company. This helps investors avoid such risks hence good performance in their operation (Collins et al., 2012, p117). Investor’s newsletter and services Information written by other investors on newsletter about risk and their cause can benefit new investor. This will enable investors avoid such risk through the information they provide. The information also helps in decision-making (Collins et al., 2012, p117). Conclusion In conclusion, potential investors can use statement of financial position to access the security of their intended investment. By analyzing the financial statements, they obtain information required to carry out an investment since it show all information needed. The statement contains information about sales revenue, expenses, gross profit and net profit. With this kind of information, an investor can know which securities incur higher expenses thus try to reduce them in order to increase sales revenue. By use of financial statement, the investor can predict the future performance of the company and identify problems associated with them. This enables company to impose some mechanism to identify and eliminate such problems. Efforts to improve tread of performance also need consideration to ensure that the company is always ahead of its competitors. Bibliography Account simplified. 2015. Purpose of financial statements. March 13, 2015. Web. Retrieved from http://accounting-simplified.com/purpose-of-financial-statements.html Accounting- simplified. 2015. Statement of financial position. March 13,2015. Web. Retrieved from http://accounting-simplified.com/financial/statements/statement-of-financial-position.html Barrow, C. 2011. Practical financial management. London: Kogan Page Publishers, 2011 Bradshaw, M, Bens, D, Frost, C, Gordon, E, McVay, S, Miller, G, Pfeiffer, R, Plumlee, M, Shakespeare, C, Thomas, W, & Franco, W 2014, Financial Reporting Policy Committee of the American Accounting Associations Financial Accounting and Reporting Section: Accounting Standard Setting for Private Companies, Accounting Horizons, 28, 1, pp. 175-192, Business Source Complete, EBSCOhost, viewed 13 March 2015. Financial review, 2015. Financial Statement. March 13, 2015. Web. Retrieved from http://www.afr.com/personal_finance/investment_guide/investment_guide_financial/;jsessionid=CDF44B2CCBBB27844E4DAA9834543B6A Follett, R.2012) How to keep score in business: accounting and financial analysis for the non-accountant. Upper Saddle River: FT Press, 2011 Fridson, Martin, S, and Alvarez. F. 2011. Financial statement analysis a practitioners guide, fourth edition. Hoboken: John Wiley & Sons, 2011 Read More