Financial Terminology for Business & Accounting: Understand Financial Statements - Paper Example

This brief essay describes essential terminologies used in the business and accounting environment. An in-depth understanding of the terminologies is immensely vital for anyone interested in practising and researching around business and accounting domains.

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Financial Statements

Investors and other business stakeholders always demand to be aware of the financial performance of an organization or business of interest (Akhtar & Liu, 2018). These financial data of a company are always presented in the financial statements. An organization´s financial statements thereby refer to the financial records that display the financial performance and business activities of the company. The three primary financial statements of an organization are the income statement, balance sheet and the cash flow statement. These statements are used to show the asset base and the financial health of a company. As such, the statements illustrate the short and long term financial and asset/liability positioning of the organization. This statements of an organization´s financial strength often inform the shareholders and other interested stakeholders of the profitability and long-term viability of the business (Akhtar & Liu, 2018).

Income and Expenses statement

This statement is one of the three financial statements (Murphy, 2020). In the income and expenses statement, the accountant documents the revenue and the expenditure of the firm over an accounting period. Also referred to as the profit and loss statement, these financial documents comprises of the expenses, revenue, losses and gains by a company through an operation period. Through the income and expense statements, the accountant can calculate the profitability level of the organization. The net income is calculated in the profit and loss statement by combining all the revenues and gains through some time and removing any losses and expenses incurred during the period (Murphy, 2020). Profit and loss statements are used by stakeholders and interested forces in the industry to determine the organization´s operational efficiency compared to competition and peers.

Balance Sheet statements

The second financial statement is referred to as the balance sheet (Carlson et al., 2020). In this statement, the accountant outlines the assets, owner’s equity and the liabilities of the company. It as such summarizes what a company owns as well as what they owe to outsiders. Furthermore, the balance sheet shows the capital that the shareholders and owners of the business have pumped into the business. While the income statement shows the revenue and expense movement in the firm, the balance sheet documents the organization´s short-term and long term capital and liabilities (Carlson et al., 2020). The basic formula used in the balance sheet is Assets=Liabilities + Shareholders’ Equity. This formula implies that the assets of an organization are purchased by either borrowing money (liabilities) or using the owner´s equity.

Cash flow Statement

As the name suggests, cash flow statements (CFS) indicate the cash and cash equivalents that move into or out of the firm (Murphy, 2020). As such, these statements indicate the ability of a company to generate cash for paying the debts and offsetting the expenses. CFS documents the cash from investment, financing and operating activities. These statements may help to show the liquidity of the company as well as the sources and effective usage of the company´s cash. The cash flow statements are used alongside the balance sheet and income statements to show the financial positioning of an organization collectively. Cash flow statements involve only money that moves between through the organization and not any financial projections or credits (Murphy, 2020).

Capital Expenditures

Capital Expenditures (CapEx) is the expense that an organization uses in acquiring, maintaining or improving their fixed assets (Kenton, 2020). These assets include technology, vehicles, plants, buildings, equipment and property. The amount of money allocated to buy or repair such physical assets is the capital expense. CapEx may be used in either undertaking new projects or in maintaining or increasing the scope of current operations. As this expense only works on fixed assets, it does not account for any expenses on items whose lifespan is less than one year. Such short-term expenses are, instead, reflected in the income and expenses statement. The primary purpose of CapEx is to show a company´s investment in new projects and maintenance of existing projects (Kenton, 2020).

Financing requirements

Before starting a business, it is essential to consider the financial requirements. These financing requirements are the projected or actual amount of money that is needed to plan and execute a business project or program. Businesses must determine the initial capital requirements of the company before embarking on the execution of the business program. When planning for launching and the future of the company, the businessman must estimate and source for the financial requirements for the business. The capital requirements include the costs for the short term and long term assets needed to begin the operations of the company.

Financial plan

To launch a business, the businessman must ensure that they outline the resources, income and expenses for the business for the first few years of operation. A financial plan must contain the expected activities in the business, the projected revenue and profits and the method of financing (Bean-Mellinger, 2019). While planning for a business, the businessman should be careful not to underestimate the costs and expenses. The plan outlines the projected income and expenses statements and the balance sheet. This plan, most importantly, justifies the startup capital requirements. To plan for the business finances, the accountant and financial analyst must gain an in-depth understanding of market dynamics, business objectives, personnel requirements and the chosen products and services (Bean-Mellinger, 2019).

Financial feasibility

Financial feasibility refers to the financial attractiveness and the possibility of a business strategy or program. A business´ financial feasibility may be estimated through such methods, including the projected cost estimates, return on investment (ROI), payback period, net present value and impact. In a financial feasibility study, the business analysts project the future performance of the company. Such projections are useful in evaluating the economic viability of the firm and its ability to stay strong amidst the market forces (Bean-Mellinger, 2019). The feasibility study aims to determine the financial worthiness of the business and whether it is good value for financial (capital) investment. To prepare a financial feasibility report, the accountant determines the startup costs, profit and cash flow plans and the ROI capital (Bean-Mellinger, 2019).

Startup plan

To start and get a business moving, the businessman should have a business plan. A startup plan is an outline of items and activities that the organization need to perform to get the business moving. Such a plan includes details like site location, identifying and contacting suppliers, licensing, inventory stocking and marketing. The startup plan also requires the growth projections of the business and their management design and processes. However, a startup plan does not contain as many details as business plans.

References

Akhtar, S., & Liu, Y. (2018). SMEs' Use of Financial Statements For Decision Making: Evidence From Pakistan. Journal of Applied Business Research (JABR), 34(2), 381–392. https://doi.org/10.19030/jabr.v34i2.10138

Bean-Mellinger, B. (2019, August 8). Business Plan vs. Feasibility Study. Small Business - Chron.com. https://smallbusiness.chron.com/business-plan-vs-feasibility-study-43382.html.

Carlson, M., D'amico, S., Fuentes-Albero, C., Schlusche, B., & Wood, P. (2020). Issues in the Use of the Balance Sheet Tool. Finance and Economics Discussion Series, 2020(070), 1–38. https://doi.org/10.17016/feds.2020.071

Kenton, W. (2020, August 4). Capital Expenditures (CapEx): What You Need to Know. Investopedia. https://www.investopedia.com/terms/c/capitalexpenditure.asp.

Murphy, C. B. (2020, August 28). How to Interpret Financial Statements. Investopedia. https://www.investopedia.com/terms/f/financial-statements.asp.