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Introduction to financial statements
Published on August 29, 2019 15 min
Other Talks in the Series: Finance for Non-Finance Professionals
Hello, welcome to a Financial Statements: a case study. I'm Michael McDonald. I'm a Professor of Finance at Fairfield University in Fairfield Connecticut. I'm a frequent consultant to corporate financial organizations across industries. Today, I'd like to talk to you about how you use financial statements in a real-world setting.
So, let's start with some basics. There are three major financial statements you should be aware of: the balance sheet, the income statement, and the statement of cash flows. Each of these three financial statements serves a unique purpose.
The balance sheet gives us a snapshot of where the firm is at a particular point in time and it includes everything the company owes to others and everything the company owns. Assets is everything the company owns and includes things like cash, accounts receivable, inventory, land, buildings, and the desks that the employees sit at. Liabilities are everything that the company owes to others: accounts payable, notes payable, mortgages, bonds, bank loans, etc. The difference between these two, between assets and liabilities, is equal to owners' equity. So, assets minus liabilities equals owners' equity. Owners' equity is essentially the net worth of the company, the value of the firm after paying off all of the liabilities that the company owes.
While the balance sheet gives us a snapshot for where a company is in terms of its assets and liabilities on a particular day, the income statement is more like a movie. It tells us how the company is doing in terms of generating sales, expenses, and profitability over time. In particular, the firm's net income is, simply, equal to revenue minus expenses. Sales, or revenues, are all of the assets in the form of either cash or accounts receivable that the business creates through its operations. Expenses are all of the assets that are consumed by business operations. Net income, or profit as it's more commonly called, is just the difference between these two.