Accounting is the language of business; it allows companies to accurately convey important financial information to stakeholders. Accountants have many jobs, but among them are preparing the company’s financial statements, which show the financial position of a company.
There are three main financial statements: the balance sheet, income statement, and statement of cash flows.
The balance sheet is a snapshot of a company’s financial position at one point in time. It details the amount of a company’s assets, their liabilities, and how much owner’s equity is in the company. Assets are things the company owns, liabilities are how much a company owes to others, and owner’s equity is the residual assets that would be leftover if a company paid all of its liabilities at that point in time.
The income statement shows how much a company made during a period of time. The income statement and statement of cash flows are different from the balance sheet in that they both show financial information for a period of time, versus one point in time. To show how much a company made, the income statement shows a company’s revenues (earnings), minus their expenses.
Finally, the statement of cash flows details all of the cash a company received and used during a period of time. These cash flows are broken into operating, investing, and financing cash flows. Operating cash flows are from running normal business activities, investing cash flows section shows how much money was made or spent on investing activities, and the financing section shows how a company funded its operations.
Stakeholders are anyone who have an interest in a company’s performance and include, but are not limited to: investors, creditors (people and other businesses who the company owes money to), banks, and even employees. Enabling companies to accurately convey their financial information to both exterior parties and people within an organization is critical for both publicly and privately held companies.
For example, when a company wants to borrow money from the bank, the bank wants to ensure the company has the ability to repay the loan. By looking at the company who is borrowing money’s financial statements and other factors, the bank is able to see how much money they should lend the company and what interest rate (to accommodate for risk) they should charge on the loan.
Another example is when investors look at a company’s financial statements to see if a company is a worthy investment opportunity. Investors can look at various financial statements and use various techniques and accounting ratios to gauge their investment decisions. In the week two video, Jacob showed you an example of how the students in Michigan Tech’s Applied Portfolio Management Program use various financial statements to decide whether they should buy or sell shares of a company.
In this week’s video, Sheila Milligan, a senior accounting lecturer at Michigan Tech, explains what the income statement is and how investors can use it to gauge their investment decisions.
Please note: Teams are encouraged to continue making trades and checking tournament updates during upcoming spring breaks.