Users and Uses of Financial Information
In every financial accounting textbook, the authors explain in detail about "Users and Uses of Financial Accounting." Information such as cash flow statements, income statements, and balance sheets are important documents that are kept to ensure that the company is recording everything correctly. The users of this accounting information are divided into two categories, internal and external users.
The internal users of accounting information are the managers who organize, operate and plan daily business routine. They are directly affiliated with the company and use administrative accounting, which includes in-depth reports used to determine financial strengths and weaknesses. For example, internal users would include management, finance, marketing, and human resources. An example of a human resource manager would be that he or she has to ensure the rights of their employees by using wage information along with other data. Important questions arise with internal users. A question for a marketing manager would include, "What price for an Apple I Pad will maximize the company's net income?"
External users are groups of individuals that are outside organizations, and they use accounting to make financial decisions. An example of an external user would include a creditor, who uses accounting to evaluate the risks of granting credit. Taxing authorities, investors, and customers are also external users. External users would receive limited financial information from a company such as financial statements. These statements are the backbone of financial accounting and they give the external users enough information to inform them of the company's economic position. Assets, liabilities, revenues, and expenses are of great importance to users of accounting information. For business purposes, it is customary to arrange this information in the format of four different financial statements; Balance sheet, income statement, retained earnings statement, and statement of cash flows.
The purpose of the income statement is to report the success or failure of the company's operations for a period of time. The income statement lists the company's revenues followed by it expenses. A key point to recall when preparing an income statement is that amounts received from issuing stock are not revenues, and amounts paid out as dividends are not expenses. Therefore they are not reported on the income statement. Retained earnings statement shows the amounts and causes of changes in retained earnings during the period. The time period is equivalent to the time covered on the income statement. Financial statement users can evaluate dividend payment practices by monitoring the retained earnings statement. Some investors seek companies that have a history of paying high dividends, while others seek companies that reinvest earnings to increase the company's growth.
The balance sheet is based on this equation: Assets = Liabilities + Stockholders Equity. This equation is referred to as the basis accounting equation. The balance sheet reports the company's assets, liabilities and owners equity. It is a financial window to the company at a specific point in time. Claims are divided into two categories: claims of creditors, which are called liabilities and claims of owners, which are called stockholders equity. On the balance sheet it lists the company's financial position as of a specific date in this order: assets first, then liabilities and stockholder's equity. A note to self about stockholders equity is that it is composed of common stock and retained earnings. Finally there is the statement on cash flows. The purpose of the statement of cash flows is to provide financial information about the cash receipts and cash payments of a business for a specific period of time. Users are interested in the statement of cash flows because they want to get a better understanding of what is happening to a company's most important resource. The statements of cash flows answer these following questions: 1) Where did cash come from during the period? 2) How was the cash used during the period? 3) What was the change in the cash balance during the period? The statement of cash flows also organizes and reports the cash generated used in the following activities: financing, investing, and operating. All businesses are involved with these three types of activities.
Financing activities is described as taking money to make money. The two sources of outside funds for corporations are borrowing money and selling shares of stock in exchange for cash. Investing activities involve the purchase of the resources company's need in order to operate such as sale of long-term investments, property, plant, and equipment. Finally there is operating activities. Once a business has the assets it needs to get started it can begin its operations. Operating activities convert the items reported on the income statement to cash.
In conclusion, the users of financial statements are people who use financial documents for a large variety of business purposes and their ability to make decisions using these statements helps them to succeed in the business world. Students have a chance to succeed in business if they have the knowledge of professionals who use financial statement analysis techniques and tools used on a day-to-day basis.