Following the collapses of companies like Enron, it is no surprise that financial statements have received renewed attention. Financial statements provide crucial details about a company's performance, but they can be daunting and confusing for the average person to read. However, there are some common elements that any genuinely well-prepared financial statement should include.
Rules of Accounting
Reporting of financial information is meant to follow Generally Accepted Accounting Principles (GAAP). These U.S. GAAP standards are essentially intended to provide a set of common concepts for accountants and other financial industry professionals to evaluate a company's business practices. Although these principles do not carry the force of law, the U.S. Securities and Exchange Commission expects publicly-traded companies to stick to GAAP.
Understandable and Reliable
People with different backgrounds or levels of understanding may have to read financial statements, so accountants are advised to make the language of these statements as simple as possible. Another crucial element is reliability: the statements should be free from error. When reading one of these statements, finance professionals should be able to come up with similar figures, even if they are using different methods.
Relevant and Material
Determining a company's potential from a financial statement is difficult without material and relevant facts. Relevancy is guided by information about prior expectations and the ability to predict future trends; these respective concepts are called predictive value and feedback value. Materiality, on the other hand, refers to information that might directly affect a decision. Both ideas are crucial building blocks of sound financial reporting.
Comparable and Consistent
Measuring and reporting methods should be similar, so as to ensure a consistent evaluation method of companies working in a particular industry. All reporting periods should reflect consistent data; deviations should proceed from the method, not from performance. These standards reflect basic accounting assumptions that serve as an additional check and balance by erring on the conservative side of any projections.
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