Financial Reporting and Financial Statement Analysis

DSE-6.1A

3000 Unit 5 Introduction to Financial Statements

112
A. INTRODUCTION
00
30.000 Accounting Guidelines
Accounting is the process of preparation and communication of economic information to the users to

onble them to make decision and fom judgement. In the processof supplying accounting information to
ely
we. users, accounting has to carry out the following major functions:

Accumulation of accountinginformation
Measurement of accounting information
paid on
Communication of accountinginformation.
[2012 summarisationand
Net Cat The process of accumulation of data involvecollection, recording, classification,

of monetary events and While assemblingdata, the accounting also

transactions of business.
reporting
events and transactions of
out the measurement functions. It assigns money value to
all these
rnal fund carry
last, it communicates accounting information to
are a business which can be expressed in terms of money. At
financial statements may be
those who need through the preparationof financial statements. Therefore,
it

ymentd called as the final product of the accounting system.

and
Traditionally financial statements consist
of a) Income Statement (i.e. Profit and Loss Account,
the financial performance
the yez
b)Position Statement (i.e. Balance
Sheet).While, the Income Statement reflects
of the firm at a given
notha
position
of the firmm over a period of
time, the Balance Sheet exhibit the financial
of the fim at such given point of
picture of the financial position
pointof time. Thus it reflects a static
also consists of number of few
others e.g.
ume. Apart from these, at the
presentstage, financial statement
These financial statements
fund flow statement, economic value added statement, etc.
flow statement,
00
Cash
analysis and decision making
by the management and the other
planning,
Provide the basis for financial investors,suppliers, customers,
0 as shareholders, trade creditors,potential
nierested parties of the business Such valuable information
0 are providing many
governmnentand general public. These statements predicting about
0 employees, them to make evaluation and
which are reliable as well as relevanttothe users to enable
00
he earning capacity of the firm.
50
50 Financial Statements matters
m
to finance or money
00 is something pertaining an argument.
The dictionary meaning of the term, "financial" out fact or
50 or oral account or setting
information
relating

term 'statement means a formal

and the written
summarised on
50 u Therefore, theterm financial statement means,
a statement
that contains
form. They
are prepared
to be the
in a concise and
capsule
Cash tofirm's are considered of the
financial affairs organised systematically of a firm. They position
annual report of
the basis of from a published the financial
basis
information derived are planned to make known On the
rOperatit end products of
fim,the
the accounting system.
They
and their analysis
in respect of
earnings.
earning
capacity
ofthe
firm

predict the
activities decision.
results of current financial the users may and financing
statements, decision
ance. Infomation obtained from the financial
like investment
decision
make various economic
and bythat
means
 Scroller - SEM-VI
B.Com.
H154
help the users
to evaluate the
stewardship
the financial statements
users in decision making lega
Besides helping
and Balance sL
management. Income Statement Stat
of the
are also known as financial report. Besides
data of last few. 201
Financial statement operating statistical
report, schedules,
also include auditors value added
the financial statement
statement, cash
flow statement, economic statement
of comparison,
fund flow income statement, appropriation
for the purpose of position statement, prin
statement is the summation statementdene
etc. As such, financial
statement. The efficiency of the financial vari
position change
statement, and the financial financial statements
are the organised stater mos
basi statements. Thus the
upon these four important and the moyerme
result, financial
position, disposal of surplus
which are prepared to reveal the operating to Anthomet
position. As such, According
and total fund along with their present
crite
of cash,short term asset of the lifeot
annually and reflect division accc
are interim reports, presented
Financial statements, essentialy a year."
or less frequently be fo
arbitrary accounting period-more
an enterprise into more or less
to
Nature or characteristics of Financial Statements proc
source of information for evaluating the performanceand
Financial Statements provide an important
princ

help to study the relevant periodical results as itshc

the progress made by the management. Such statements
focus on the
as the financial status of the business enterprises. Practically, financial statements be

ct
well

of personal judgements, accounting principles and the recorded facts. It is evident from the prind
combination
meaning of the financial statements, that revenue income and expensesare to be recorded in the income losse

statement, while the summariseddata relating and owner'scontribution towards capital

to assets, liabilities impa
are reflected in the positional statement i.e. balance sheet. Credi

Following points provide the relevant information towards understandingthe features of financial

statements.

(1)Recorded facts : In an enterprise monetary events occur continuously withoutany break. The
accounting system usually recorded all those events which can be expressed in terms of money. Such perfo
statements usually recorded all those monetary events in a chronological order as soon as they take place. Nowa
Practicaly, financial statements are in summarised form, usually prepared on the basis of the
recorded
facts for a given period of time i.e. generally
for one year. Therefore, they are historical in nature. Such
statement showthe financial effects of past events finano
that can be objectively measured in terms of mone
(2) Accounting Assumptions :
Accounting assumptionsare also known as postulates or
concepts. Preparation of financial statements are in reality
axioms ar
Stater
and c
depends on certain fundamental assumptions econo
or postulates or concepts. For
instance, money measurement concept,
cost concepts, entity conceps
going concern concept, matching concept, TH
realisation conceptetc. Money
that the value of money remain measurement concept assue
constant for ever. Cost concepts
concept which required that
are closely related to going conce
assets should be recorded in the
will become the basis
books at the price at which it
for subsequentaccounting acquire alu
for the asset. Entity
enterprise has separate entity concept assume that the bus
which is
tothe firm are not mix up with thoseseparated form its owners.As such,assets and liabilities belong
of owner's private assets
concept, the firm for which and liabilities. As per going cone
financial statements are formulated
succession i.e. They cary may be supposed to have perpe
on the business operation for
an
Hence, assets of the enterprise are
their fair values.
indefinite
recorded in the positional
period of time in the
coming
statementat their acquisition price,
ua
no

Matching
concepts is based on the
assumption that expenses
should be matched with the revenues incured for the generation of the reve
recognised during the period for
Realisation conceptassume that the determination of inco
revenue is considered to be earned only
when goods are deliverea
services are provided to the customers
so they become legally (
liable to pay. The evaluation of these
assumptionshave taken place over a long period of time. These
statements are considered to be flex
as they are constantly redefined and reformulated on
the basis of fresh knowledge and experiment:
 Financial Reporting and Financial StatementAnalysis (Hons.) H-155

ce
She legal
Legal Confirmatlon
(3)
requirements
:
Company should prepare its financial statements in conformity of the
of the Companies Act. For instance, they should prepare the financial
staterments i.e.
of PProfit & Loss and Balance Sheet as per Schedule IlI of the
Statemernt Companies Amendment Act
9013.These are also in confomity with the relevant accounting standard of the country.
statiena
(4)Personal Judgement :Although financial statements are prepared on the basis of established
depan
prindiples and legal requirements, but still personal judgement are also playa very vital role in respect
uarious issues like depreciation, valuation of inventory, etc. The reliability of the financial staterments
aene mostly depended on the soundness of the personal judgement.nsls& totasnl
(5) Accounting Conventions/ Doctrines :While drafting the financial statements, certain standard
Anthon
theHte criteria or principles should be adhere to for their reliability and comparability. For such purposevarious
accounting docrineslike full disclosure, materiality, conservatism, consistency and fairness are required to
he followed. The full disclosure principle required that the financial statement should be honestly prepared
to ensuring full disclosure of all relevant information which are likely toinfluence the decision making
process of the users of such statements. Materiality is a subjective term. Hence, according to such
1ance principle, relative importanceof an item should be considered in deciding how seriously and meticulously
it should be adhere to in the accounting system.Consistency principle required that same principle should
resuts

us on t
be continously observed and applied unless the situation warrants a change.According to conservatism
ntfromt
principle no anticipated profit should be considered unless it is actually realised but provide for allpossible
heincom losses. Faimess principle serves to eliminate personal bias and make the financial statenents unbaised and

ards ca impartial. These principles make the financial statements readily acceptable to various users like proprietors,
creditors, investors, auditors, etc.
of finant

DObjectives of Financial Statements

of financial statements to provide information relating to financial
break. Th Basically, the primary objectives is

and the financial position of the business entity. Gradually this notion have undergonechange.
neu. Su performance
be denied.
take na Nowadaysthe wider role of the financial statementcan not
set the objectives of the
the International Accounting Standard Board (IASB)has well
e recort Consequently,
statements in itsstudy titled, "Framework for the preparation and presentation
of Financial
ature.St financial
position,performance
Statements" published in July1989 as, "to provideinformation about the financial
s ofmon to a wide range of users in making
and change in financial position of an enterprise that is useful
oraxioms economic decisions."
usually serve are stated below:
assumptt The main objective, which the financial statements
(e.g. investors, creditors, lenders
providing relevant information to the users of such statements
(a) loan
asst about investment, credit,
cept etc.) to enable them to make
various rational economic decisions
cont
Ing etc.
an the amount, timing and the uncertainty
of
Cquie () supporting the investors and creditors in evaluating
busi to the business concern,
the the prospective cash flows resources
resources and how these
sources from where an enterprise
collect
esbelog
con (c) highlighting the different

Ding have been put into use. the different

of the corcern, to enable
vepep in respect of financial performance
() providing information
evaluate the future prospect
of the concern.
users of such statement to to discharge the
stewardship
7ingi enable the management
relevant information which
e) providing all thOse
the stock holders/shareholders.uani
bn
of the business
responsibility towards decision in the interest
re financial
() assisting the management in taking various
fthe trade

o Concern. employees,
of customers,
care of the interest
by taking
(g) boosting up the social welfare
deliiee and government.
unions,
tion
beo o
 olealan B.Com. Scroller - SEM-VIitogpl aon
H-156

resources of the enterprise, claims to those reso

(h) providing information concerning financial

consistingof external liabilities and owners' claim (or owners'equity) and how these res

as well as the claimant of such resources have undergone changes over the passage of time

Components of Financial Statements

Components of financial statements include

the following:riet
(a) Income Statement or Profit Loss & Accounthctdeoot A.C
(b) Positional Statement or Balance Sheet.tooosideskob
(c) Statement of Appropriation of profit or Retained earnings.osatoadoap
[usually found in the case of partnership firm and joint stock companyl
(d) Statement of changes in Financial position.si
statements can be represented as follows in the form of a diaoram
The componentsof financial

Financial Statementsie roue io ane odi lo

Income Statement Positional Statenent Statement of Appro.Statementof

ofProfit changes in
Statement of or
Balance Sheet Within the Sub-head financial
Profit &Loss Within Reserves && Surplus position

Fund Flow Cash Flow

Statenent Statement V.

The meaning,significance and contents of each of these statements are discuss below:
D Income Statement sbis VI.
An income statement or Statementof and loss present the performance of financial
profit
VII.
operations
of an enterprise in respect of revenues, expenses and the summary of operating results at the end of an
accounting period. Net profit is the eXcess of revenues over VIII
expensesfor the accounting period indicating
the operation of the firm. On the contrary,
profitable IX.
excess of expenses over revenues
indicatingunproia0e X.
operation of the firmm, is referred as net
loss. It is beyond saying that,
the primaryobjective of the incoie
statement is to match the total revenues for
the period.with the total
such revenues. This matching process is cost/expenses incurred to generdlk
done in the income statement. More
represent the earning capacity of the firm
specifically, income statenme
along with the results of operations
period. Revenue representing inflow at the end of an accounuis
of resources resultingfrom sale of
where as expenses representing outflow of goods or services to the custome.
resources for providing those goods
statement is also known as flow
statement focussing inflow and
and services. Assuct, B.
period. outflow of resources during
the accou
DIS
XII.
D Formnat of Income Statement XIl.
New Companies Act,2013 has made mandatory for every
Staternent of Profit & Loss as per the format given in the Part II of
Joint Stock Company to
| prepae
ScheduleIII Section 1291. Conseque
y XIN.
Banking Companies Act and Insurance Companies Act Provide Specific format for income Statemen

N.
 Financial Reporting and Financial StatementAnalysis (Hons.) H-157
Format of Statement ofProfit and Loss
2sourc
Statement of Profit and Loss :
ne.
Particulars Note Figures as at the Figures as at the
No. end of current end of Previous
ReportingPeriod Reporting Period

A.CONTINUING OPERATIONS

II.
L. Revenue
Other
from
Income
Operationsigssdayus neogcinDe
II. Total Revenue (1+II)
IV. Expenses
ram
(a) Cost of materials Consumed
(b) Purchase of Stock-in-trade
(c) Changes in inventories of
Finished Goods, Work-in
progress and Stock-in-trade
(d) Employee benefits expenses
(e) Financial Costs
() Depreciation and
amortization of expenses
(a) Other expenses
Total Expenses
V. Profit before exceptional and
extra ordinary items
& tax (II-V)
VI. Exceptional Items
VII. Profit before Extra Ordinary

peratiar
items & tax (V- VI)
DAg Oloa UNEsLosihcenl
itemsshhiorioear ari
Extra ordinaru
endofz
VII.

IX. Profit before Tax (VII -VI)

indicatit
X. Tax Expenses
proia
Current Tax
e incot
(a)

(b) Deferred Tax

genezt XI. Profit/ Loss for the period
statemet From Continuing
CCount operations (IX -X)
CUstomest B. DISCONTINUING OPERATIONS
Ssuch, XII. Profit/ Loss from
account? Discontinuing operations
XIII, Tax expenseof
Discontinuing operations
XIV, Profit / Loss from
tt Discontinuing operations
pare (after tax) (XII– XII)
bnsegue
C
TOTAL OPERATION
XV.
tatemet Profit / Loss for

the period (XI+XIV)

VI. Earning per Equity Share
 obntrul
Scroller - SEM-VItcceA profit
olteienr/ B.Com. of ba
A158 ofthe S
Flouo
1, Basic 2)pes-i
Operation
(i) Continuing
allexper
(i)Total Operations Profi
of mea
2, Diluted
Operation that
() Continuing an
of Raw profit
(i)Total Operations materials + Purchase materials
Stock of Raw
= etc.)-clo
Note : (1) Raw materials

expenses(like
consumed
Opening

Cariage/Brokerage
on purchases, Freight
on Raw materials (3)Interim
account
infin
+Purchasing that
Stock of Raw materials.

Chargeable expenses
means (4)Dynami
:
(2)
resources
(a) Cost of design
term
also
(b) Royality on production
on plant nl esprtsrDbr
(5) Absorbe
hire charges etc.* lo 2stroinsvit
(c) Special
profit and
of Income Statement
Importance or Significance
in taking various
and loss
and internal users of such statement termed
Income statement assist both the external is
of such statemernt can not be denied
the importance
importantdecisions concening
the enterprise.

Importance of this statement can be understood

from the following
As such,
: (6) Stateme
are notex
operation of a firm for the accounting period
(a) Ascertainmentof net profit : The result of financial
accountin
in the form of profit earned or loss
sustained can be ascertained from the income statement.
period. TI
Ascertainmentofprofit earning capabilities :Income statement is supposed to reflect the profit
(b)
loss andt
earning capabilities and growth potentiality of the firm.
of profit a
(c) Computation of production cost and selling price :By preparing Manufacturing Accounti.e. the period.
lst stage of preparation of Statement of profit and loss that helps to ascertain the cost of production

of the product which in turn became the basis of computation of selling price most suitably and
O Balance
judiciously.

(a) Pave the way for the preparation positional statement: and Loss Account assists the
Profit The balan
of
of
preparation of Balance Sheet by suitably placing the result of financial operation in such statement, its
resource
so that it can exhibit the true picture of the financial position of the business enterprise. As such, period.
Since
Statement of Profit & Loss assists in the preparation of Balance Sheet. as

)
(e) Measurement of internally generated
resources

Sources of Information
resources :Statementof Profit Loss expose how new
are generated or the existing resources get depleted
: through the process of business operaiol.
The income statement carying varieties of
revenues and expenses of the firm. On the
external users can take important
information pertaining
basis of such available information. both
internal ald
&
which
statement
dimensional
certain
date.It
they
SOurces oi car
p
o

decisions aboutthe firm. e capi

(g) Distribution of income :Profit
&
Loss Appropriation in the Balance termedlas
of Statement of Profit &
Loss revealsthat how the
Sheet which is the final stcg uriture,
earned profit being disburse
areinver
like payment of for different purp Ssets
dividend, creation of reserves,
provision for tax etc.
eqities kno
O The Nature
of Income Statement: ayable, consist

The Statement of profit and loss the iablities deber

of an enterprise for the
accounting period.
statement is
which shows the net result of
measures the earning capabilities of the firm.
It
thefinancial opera
emedasand t
The spe Tetained capit
features of Statement of profit and loss can be represented as follows :
(1) Tesidual. earnin
Aperiodic statement :Although Statement of profit and loss reflects the performanceof opera Uhthe Becau
caried on bythe fim over the relevantaccounting period but it is
prepared at the end of the accoung basis
period on the basis 0) oi
) Itisa
of the balances of all nominal accounts. In those
nominal accounts all the related
transactions are to be recorded as soon as they take place but it is not done as such the
in Stateme
()It
Assets
{u) is ar
Comnp
 Financial Reportingand Financial StatementAnalysis (Hons.) H-159
profit
andloss. It is prepared only once atthe
of
of
end of the relevant
balances all nominal accounts. accounting period the basis
of the
Statemnent
(2) Flow inflows and
: Business transactions
representing flow resources in the firm. of
on

outflows. Revenue Flows are of two

types- earned during the period
incured for representing inflow
aftexpenses/costs generating such resources, while

of
all revenues representing outflow
and Loss reflecting both the resources. Statement of

inflows and outflows of

resources in a summarised
that means showing the netflow forthe relevant
form and by
accounting period. For that reason
mateia
andloss is also known as flow statement. Statement
profit

of
A
Interim Report business concern is supposed to have
perpetual life. As such, the profit
account is usually and loss
prepared to measure the performance of the
financial operation of only a part of
Ahat infinite life and not for the
whole life. That is why, it is called asan
:
IM Dunamic Account Statement of Profit Loss measures continuously the &
interim report.
inflows and outflows of
rOSOurces along with its oCcurance with reference to time
dimnension. Due to this specific features it is
also termed as dynamic account.
(E) Absorbent Account :
Balance of all nominal accountsare in reality closed to the Staterment of
profit and loss. Stated differently, all these
nominal account get absorbed in the Staternent of profit
g variog
and loss and as a result of that their identities are lost for ever. That is why,
profit and loss account
bedenied is termed as absorbent account.
(6) Statement :
for allocation An enterprise may incurred many expenses/costs, the benefits of which
ing perioi are not exhaused in one accountingperiod. As such,forthe purpose of ascertaining the results of an
ent. accounting period, the cost are required to be allocated between the curent aswell as future accounting

t theprot period. The cost allocated to the curent accountingperiod is contained in the Statementof profit and
loss and the balance left if any is to be shown in the balancesheetas an asset. Therefore, Statement

of profit and loss is nothing but a statementwhich reflects cost allocation to the current accounting
nt i.e.te
period.
oroducio

tably n D Balance Sheet59

respect
The balance sheet means a statementwhich is prepared to show the true financial position
in
the

and its sources of capital as on a particular date, usually at the end of an accounting
assists
of its resources
day, that is why it is termed
.
statemen

As suct
period. Since the balance sheet reflects the financial position on a particular
as statement of financial pOsition or positional statement. The users of such statement may get
financing activities from the balance sheet
of the company on a
a two

dimensional pictures of investing and On the basis of

how ng Cerain date. It provides a valuable
source of information to the users of such statement.
By examining the
of resources under the command of the firm.
wnlch they can watch the composition
operatia
t The economic resource of the fim
they can know how these resources can be mobilise,
vurces of capital
of building,machinery, equipment,
rtaining
ternal
at
e termed las assets in the Balance
receivable, cash
Sheet. The assets may consist
etc. On the otherhand,the sources of capital
used to finance these
External
ure, Inventory, equities and internal
equities.

These again consist of external

final
staf es are known as equities.
or outsiders on the assets
of the firm such as creditors, accOuns
as
ydnes consist of claims of creditors External equities
are also termed
ntpupos of banks etc.
expenses, interests equity usually
payable, debendtures, outstanding or owners

duration. On the contrary, internal equities shares and

liabilities and
they are of certain perterence
consists of equity shares,
equity are only
duration. Owners' owner's claim
termed as But in reality
capital is of indefinite of the firm,
a claim on
the assests
belongto theowners'
equity.
retained This represent
earnings. whatever left
the outsiders
Because after meeting the claim
of
residual. highlighted.
perati may be date.
spect Onthebasis of the above discussion, few important features of a firm on
a certain

he and liabilities
of all assets
It is a of the balances not in reality.
(i)
statement only and information. valuable
by definition
(i) Assets and
Liabilities are equal
to the users
of accounting
may reveal
operatO statement
tool of financial five years
(ii) It is of atleast
an important over period
reat
aCCOUntie
statement
the (iv) Comparative study of this
 B.Com. Scroller - SEM-VIo ofsel
H-160 time
c
information to
the users of such statement.oe expended
repairing
goods.
of Balance Sheet measurement of
financial poeis:
aComponents related in the
The components of Balance Sheet that are directly

equity. The Institute

of chartered Accountantsof India
(1CA1) h OClasS
liabilities
and of assets, external equities
and oum The lia
of assets, consisting
consist
of balance sheets typ
identified three basic elements oftwo
equities.
Fixed
prOcess of productie fall
Assets : revenue through the donot
resources which are supposed to generate
benefit exclusively
for f

th
Assets are economic
which help to generate some measurable Inreality
claim or right lia
They representssome must satisfy the following
characteristics Current
an items as assets they balan
firm. For identifying
the
owned and controlled by the
firm.
(a) They must
benefit to the firm.
iV Dole
asouces
Sundry
cr
to provide future economic i
(b) They are supposed although
the function of past transaction. of ac
(c) Their acquisition is

mustbe owned by the firm. That is

why, firm is prevented a case
For recognition of an item to be asset, it supposed that the benefte formal evi
as assets in the balance sheet.
Again if it is

from recognising human resources benefits themselves are highlu job has
be
to be restricted to current year or if the
derived from assets are likely Again a which are
recognising such items as assets in the balance
sheet.
uncertain,then it will be prevented from
sheet only because that are not originated from liability is
fim may prevent to record certain assets in the balance sheet as it has built
goodwill can not be recorded as assets in the balance
past transactions. For instance,
over period of time by their own efforts. O Owne
up a

Owne
D Classification of Assets : balance o
From liquidity point of view assets may be classified in two parts (a) Fixed assets. and tax. ]
(b) Curent assets. Fixed assets again are classified in two parts-tangible and intangible. Owners'
Fixed Assets :Theassets which are acquired and held permanently to earn profit or to receive services
and furthe
are known as fixed assets. e.g. Building, Plant & Machinery etc. Fixed assets are of two types or earned
financial and non-financial. Non-financial fixed assets mean those assets which the fim plan to use
continuously in its business operation. On the contary, financialfixed assets mean those assets which available1

Itis us
are not put into use in the business operation. Non-financial fixed assets are also known as tangible
fixed assets. Again there are one more type of fixed assets , known as intangible fixed assets,e.g positive fi

purchased goodwill, trade mark, patent, copyright etc.

ternporary
Liabilities : be
suspen
Liabilities be defined asthe claims of the outsiders against the assets of the firm, Or in otherwords
can
it is an obligation to pay money or give up goods or services to the outsiders by the firm, The main FOrTD
features of liabilities are:
(a) The obligation must arise from
Wekr
past event or transaction.
equity.
(b) It is a present financial obligation of the firm to the outsiders. Bu
To settle the obligation, the firm
(c)
balancesh
must pay out cash or other assets of a known or estimated Such
amount.
as syste
(d) The identity of the claimants
should be known with certainty. marsha
eo(e) Capital claim of the owners or
shareholders in an enterprise can not
liability but the unpaid or unclaimed
recognise as an
dividend should beconsidered as current
external
nthe
In
the
Thus for making an accounting of a liability, our liability. to bala
notice should be confined to present obligau
pay money or other assets to another party. But commitment is not prepare
recognised in accounting for liability In
unless it is irrecoverable. For instance placement of order to the this
exporter for supplyiing equipment tw Should
future do not create liability to be recorded in the balance
sheet.Moreover, for recording an item as
liability be
in the balance sheet it is not necessary to know the exact
amount to be paid in future. For instance, For
Statement

ready
 FinancialReporting and H-161
Financial StatementAnalysis (Hons.)

time ofselling
an elechronic goods, an electronic company does not know, how much amount will have to
for repairing such item during the warranty period. As such,they make estimate for probable
expended
cost and record them accordingly in the balance sheet at the time of selling such electronic
repairing

posii goods.

oWner
D Classification of Liabilities
The liabilities of a fin are classified on the basis of durability of payment.Accordingly, liabilities are
fhuo tupes-fixed or long term liabilities and short term liabilities or curent liabilities.
Fixed are obligations,which are expected to be repayable after a long period of time i.e. they
y
oducion
forte
dn not fall
liabilities

due repayment during the ordinary course of business within a relatively short span of time.
for
nreality fixed liabilities fall due for repayment after a comparatively long period of time. On the otherhand,

mentliabilities means those obligations which are expected to be settled within one accounting year of
he balance sheet date. Usually current liabilities are created for the purpose of production cycle e.g.
Sundry creditors, Bills payable, outstanding expenses etc. But there are fevw other
current liablities which

although not related with the production cycle but related to the business e.g. payment of instalment in
prevented case of acquiring assetsunder hire purchaseor instalment payment basis. It is not essential to have some
ne benetit
formal evidence ordebt contract for the purposeof recording an accounting liability. For instance, repairing
arehigh job has been executed but for such bill has not been received by the balance sheet date. Such liabilities
estimated long term tax
et. Againa which are curent are to be estimated and recorded in the balance sheet. Similarly
ated tron
liability is recorded as provision in the balance sheet.
it has but

D Owners Equity:
made by the proprietors or shareholders and undistributed
Owners'equity consists of the contribution
are left after making of dividend
provision for payment
balance of profits (i.e.retained earnings) which
between the accounting assets and accounting liabilities.
ed assets.
and tax. In other words, it is the difference
of foundation of business
Owners' contribution means the investment
made by the owners at the time
balance of profit
or repayment of debt. Undistributed
cive servis and further investmentif any for further expansion but
in the form of dividend
those capital which have not been distributed
two typ or earned capital represent

planto
u available for further investment
in the business itself.
thus owners' equity represent
whi exceed accounting liabilities and
usuallyfound that accounting assets
negative. However, this is a
It is
ssets
owners' equity is
But sometimes reverse will happen then
astang positive fiqure.
is carried on beyond
certain period a
then the business will
If this phenomenon
d assets,e! Lemporary phenomnenon.
be suspended.

Format of Balance Sheet

namelyassets, liabilities and
owners
2
n.The
m
otherwat
We know that the balance sheet
not
consists
placed
of three components
disorderly. They should
be placed in the proper side of the
equity. But these items should under separate headings
and sub-headings.
a systematic and logical way after classifying classification
is known
alancesheet in
in the balance sheet
with suitable
Such systematic of all components
arangement
componentS
as marshalling of balance sheet. presenting such
no specific format for
orestinmat ne case of non-corporate organisation there is
Act 2013,
required a joint
stock company

129 of the Companies Ilof the said act.

the balance sheet. However, Section in Part 1 of Schedule
specified regard
of format Sheet due
sheeton the basis of balance
extet Pepare its balance at the time preparation this positional
of
asan
that of
Inthis Context, it isto be remembered for the preeparation
to the general instruction
ability. should be given as far as practicable that part.
at the end
of
t forliat
obligatio statement under the notes "Notes"
(For ready reference Part 1
stated

Schedule VII has been

of
appended herein
after)

ing
a5
upmentn
iten
nstance Scroller 6th Semester 011
H-162 B.Com. Scroller - SEM-VI

onttto FORMAT OF BALANCE SHEET

Particulars Note No. Figures as at the Figures as atth
end of current end ofPrevious
state
Reporting Period Reporting Period
SCru

I. Equity and Liabilities of st

1. Shareholders'Funds :

(a) ShareCapital

2.

3.
(b) Reserves
(c) Money
& Surplus
Share Application
Pending Allotment
Non-currentLiabilities
Moneyo eebe
received against ShareWarrants

(3)
(a) Long-ten Borrowings
b)
(c)
Deferred Tax Liabilities

Other Long-tem Liabilitiese beosus

(Net)iboohoiho
(d) Long-term Provisions
4. CurrentLiabilities (4)

(a) Short-tern Borowings

(b) Trade Payables
(c) Other Current Liabilitiesogsolsio lanitgs
(d) Short-term Provisions
Total
(5)
II.Assets
1. Non-Current
(a) Fixed Assets
Assetsúrlto6neoik snls
sa

e i)

(ü)
Tangible

Intangible
Assetspiie6
Assetsps asuo ed
e
(6)

(ii) Capital Work-in-progressovddho (7) S

(iv) Intangible Assets underdevelopment
(v)Fixed Assets held for sale
(b) Non-curentInvestments is

(c) Deferred Tax Assets

(d) Long-term Loans and Advances
(Net)
N
le) Other Non-curentAssets B
2. CurrentAssets busine
(1)Pe
Wn (a) Curent Investment
th
(b) nventories
(2) St
(c) TradeReceivables
po
(d) Cash and Cash Equivalentsee (3)In
(e) Short-term Loans and AdvancesAsh on
() OtherCurrent Assets po
Total Ba
bug
 H-163
Financial Reporting and Financial Statement Analysis (Hons.)

D Importance of Balance Sheet

Balance Sheet provides a snapshot of the financial position of the firm at a particular date. This

statement assist us in obtaining a very good idea about the financial status of a firm: if analuse. we
iseand interprete the assets and liabilities of the fim at a particular date. That is why the importance
f auch statement cannot be denied.Importance of this statementcan be understood from the following:
Financial Status : Balance Sheet exhibits the true financial position of a business entity on a
particular date.
(2) Details of Economic Resources :The details of economic resources hold by a firm at the end of an
information about
accounting period are exposed by the balance sheet. This statementprovides ready
im'sinvestmentin fixed assets as well as in current asset to carry on the day to day operation. Since
thestatementfacilitates is a logical and systematic
the arrangement of assets manner, hence it provides
sufcientinformation the users to justify the nature of the assets i.e. whether is fixed or current.
to it

(3) Details of external equities or liabilities :

The details of liabilities owed by the firm to the
different outside parties at the end of an accountingperiod are disclosed
by the balancesheet. Outside
are classified under the heads Secured Loan, Unsecured Loan, and CurrentLiabilities and
liabilities

Provisions. Hence the users of this statementgot sufficient information to understand the nature of
liabilities owed to different outside parties related to it.
(4) Shareholders' fund or Owners'Equity :
Owners' Interest represents the aggregate of capital
interest is the excess of accountingassets
(equity) plus reserve and suplus. Stated differently, owners'
and
over accounting liabilities. This informationis readily available under the head "Share Capital:
expenditure it any.
Reservesand Surplus".If the assets side of Balance Sheet disclose miscellaneous
then if will be subtracted from the aggregate of Share Capital and
Reserve and Surplus to express the

true value of owners' equity.

(5) :
Efficiency of Management Balance Sheet is a very
importanttool for financial statementto the
which help them to understand how
Owners as well as lenders. Because it providesample information
judiciously and efficiently their fund being used
by the management to attain the firm's goal.
(6) Solvency position :By studyingthe Balance
Sheet, the lenders can easily ascertain the solvency
position of the business i.e. its short term
as well as long term debt paying capaciity can easily be
ascertained on the basis of such statement.

(7) Sources and Application of

Fund :
By making comparative analysis of balance sheet of two
firm has mobilised the
consecutive period, one can
come to know the different sourcesform where the
period. It
use for different purpose during an accounting
fund and howthese fund has been put into
making financial planning and control.
1S beyond saying that,
thisinformationisvery useful for

O Nature of Balance Sheet : and view of the financial position

of the
statement which exhibits a true fair
Dalance Sheet is the Sheet can be represented as tollows;
date. The main features of Balance
Ousiness at a particular
period,
end an accounting
(1) Periodic Statement : Balance Sheet is prepared only once and at the of

that is why it is called "Periodic Statement." equity

at a particular
assets, liabilities and owners'
(2) Stock Statement :As balance sheet reveals the
periodis
point of time, hence it is called as 'StockStatement." Accounting life.
to have an
infinite

: at a particular
(3)Interim Report The business entity is usually expected reflect the financial position life. As such
Balance Sheet usually business
of the of the
only a small part of such infinite life.
and not the end position
accounting period the financial
point of time indicating the end of
of
report
Report" and not the
final
Balance Sheet is called as" Interim
business entity.
 B.Com. Scroller -
SEM-VIe
H164 at the Cost of acquisition
Balancesheet

Statement of unallocated cost :Assets are shown

in the

down value. Written

down value of the ace
u
(4)
implies that it shown at written period. That is
in the future
written off
It
depreciation,
cost to be
less

represent the unallocated

part of different
unallocated
cost."
NB
as "Statement of
F
as Statement of Inflexible
Balance

(5) Statement
Sheet is called

of Inflexible Fund
Balance sheet :
is also known

from where the fund

is procured
and there different

OM
of fund
different sources
because it represents
point of time. L0ss Account but complement.
&
at a particular

(6) Complementay
Statement It is not the :
substitute of Profit Alth
period usuat
successive accounting
role of linkage between
to it.
sheet play the accountine
(7) Link Statement:
The Balance at the end of the interr
which remain open
The reason is that the balance of those accounts

forward to the next accounting

period via Balance Sheet.ih
period is to be cary position statement Conce
is only an approximate
Statement :Balance Sheet be considered at
Approximate Position asset and stock will not
stater
(8) such as fixed
of many kinds of assets they
because the fair values loss is made mosty
the provision for expected
of such statement. Moreover, defin
the time of preparation objective evidence.
judgement and not on the basis of
on the basis of estimate i.e. personal A

D Statement of Changes in Financial Position :

and fair view of the a bus
As we have already income statement of a firm reflects the true
observed that, the
a ser
year and the balance sheet exhibit the true and
fair view of
financial profit of the firm for the accounting

position of the firm at a particular point of time at the

end of an accountingperiod. If the
the financial
the firm, he must analyse and scrutinise both the are a
analyst desire to know about the financial health of
to ascertain the changes in the financial position of business at a particular point may
statements. But this fails

of time. For better understanding of the financial information, the analyst should known the movement ot and |
fund-both inflow and outlow. As such a new kind of statement emerge out to ascertain the movement of
funds over an accounting period. This statement is known as statement of changes in financial position. signif

lt provides information regarding the generation of utilisation of funds in brief sourcesand application ot liquic

funds.

From the study of Balance Sheet, the analyst can easily understand how the various sources of fund relate

has been procured and how such fund put into use for various purposesuch as purchase of investment o
opera
fixed assets, payment of divedend or tax, repaymentof debts etc.
steps
The statement of changes in financial position may be prepared by adopting any of these two folowTy Step
alternatives:

(1) Changes in Working Capital Position :

Step
These statement is also known as Fund Flow Statementor Fund Statement.Fund Flow Statement5
designed to measurethe changes in the financial position of a business between two balance shees
date by listing the sources and application of financial resources. By representing all
Step
the flows O

fund (i.e both the inflows and outflows of fund), the fund flow statement is used to
shows the lmm View
on the working capital of the firm. If the total of inflowS exceed the total of
outflows then it goe
enhancethe working capital and represented as application of fund. On
outlows exceed the total of inflows then it goes depleted
the contrary, if

the working capital and represenal

ta
the
partie

Credit

sOurce of funds. Thus it helps to ascertain the changes in working capital position and consider a
effective tool for working capital management. factors

(11) Changes in Cash Position : relect

This is alsoknown as Cash Flow Statement. Cash Flow Statementshows the effect of all s
transactionson the cash position of a business firm over a period of time. This stateme concu
financial
the
prepared with the help of opening and closing balance sheet, years profit and loss account and ou. co
 Financial Reporting and Financial Statement Analysis (Hons.) H-165

volevant information.Thus it will reveal the effect of alltransactions on the cash position of the firm
over a period of time. It will provide us information regarding the generation ofcash from diferent
sources and their net impact on the cash position of the firm.od
: Detailed discussion
b

regarding Fund Flow Statement and Cash Flow Statement have been done in

:
[N.B.
book.]
twoseparate chapters later in this

n Meaning of Financial Statement Analvsis

Primarily the financial statementsare prepared for the purpose of makingvarious economic decisions.

o1oh the financial statements contain informationrelating to financial results but they are not readily
Suable for making fruitful decision making. As such, they need to be analysed,scrutinised, evaluated and

interpreted.
Financial statement analysis is basically a process of identifying the strengths and weakness of the

concern by truely setting up the relationship between the item that are usually contain in the financial

satements. It provides assistance to the analysis in assessing the past performance on the basis of which
theucan predict about the future performance and the risk of the firm. In this context two important
definitions can be forwarded.

According to Myer :
factors
Financial statement analysis is largely a study of relationships among the various financial
in

as shown
a business, as disclosed by a single set of statements and a study of trends
of these factors, in

a series of statemnent."
statements
the words of Kennedy and Muller, "The analysis and interpretation
of financial
Again in
and meaning of financial statement data so that the forecast
are an attemptto determine the significance
to pay interest and debt maturities (both
curent
may be made of the prospects for futureearnings, ability
and long term and profitability and sound dividend
policy."

two definition, it is observed that to ascertain the

From the understanding and analysis of these
view to understanding, the
significance of the information
contained in the financial statementswith the
of the enterprises.
liquidity, solvency,leverage effect and the profitability the first three is
statementsdepict four steps, out of which
The analysis and interpretation of financial of financial and
to the work of accountant which contains the accumulation and summarisation
related following
Thus, the process includes the
operation data as well the
preparation of financial statement.
steps amounts involved by analysis
:
Step 1 Ascertainment of
debit and credit along with the determination of

and evaluationof all transactions.

step 1 in the books of accountand
from
Olep 2:
Recording and summarisation
of informationdevelop

preparation of a work sheet.

Step 3: Drafting of financial statements.

the and interpretation of financial
analysis
statement with a

Ihe fourth step of this process involved and other interested outside
management, investors owners,
that assists business parties like the
ew to provide information the other interested
adopted by the management and
parties. Such process can be
andothers. financial
among the variousfactors
long term loan supplier the relationship as
ultors, investors, learn about these
analysis is basically the trends of
study
nus financial statement and a of

factors in a business as revealed

by a single set of statements Come to
the

the users may

Telected in a series of statements. of financial
statement and recommend
future
and interpretation about the
the analysis anticipation
the firm, make
With reference to but it
of
and weakness statement
Conclusion aboutthe strength
the overall improvement. to financial
the Course of action to be adopted for is not merely
restricted

financial
statement analysis
The area of modern
 B.Com.Scroller - SEM-VI
H-166

and internal, in which the firm is functioning

environment-both external
also cover the studies of relevant
statementanalysis means the
analysis of
financial financia
Thus at present, the process of
along with the non-financial
factors
fromthe financial statement
and data derived affecting
relation 5.
operational
requlatory environment,
employee's morale, customers
as competative and
thefirm such
etc.
involve, attitude of the rivals
steps
The financial statement analysis involve the following
in which the firm is
operating.
(a) Learn aboutthe surounding environment
statements.
(b) Extraction of relevant
infomation from the financial
financial statementin such
a m
6.
of information derived from
of interpretation
(c) Classification

so as to build up a significant relationship.

measuring devices of finaneisl
Drawing conclusion on the basis of evidence by applying
various
(d)

analysis such as ratio, prcentage, trend etc.

Need for Financial Statement Analysis

saying, that the objective of the financial statementis to provide information

regardin
It is beyond
to the different users of these statements The
the financial result and financial position of the firm
on the the valuable information contained
stakeholders may take various economic decision basis of in

the financial statemnent. But such information

not readily usable for decision making. They have to
are
be analysed, scrutinised and interpreted make them useful for decision making.Analysis
in proper view to
of financial statement assist the analyst to familiar with the information extracted from the financial data
contained in the financial statements and to evaluate the financial health of the fim.This analysis also 8.
assist us to predict for the future and which in turn also assist us in the preparation of budgets and

estimates. Thus analysis of financial statement has been done for numbers of reason.These are noted
below :
1.Investment Decision : Different categories of investors may found in a fim.They make investment
with different expections. The equity investors expecting reasonable return more or less regularly and

also expecs steadygrowth.Long term debt providers expects

its to receive interest and repayment d
principle amount when they fall due. Although, the expectation of different types of investors are 9.A
different, but both of them feel risk in receiving their return. Therefore, here lies the need for financal
statement analysis to predict their expected returns and alongwith this evaluate the risk involved with

those retum.Accordingly

2. Assessment of Liquidity
they

: can make
Financial
appropriate

statementanalysis
investmentdecisions.

position of the fim. Liquidity means the ability of the fim to meet their shortterm debt as wellas the
assist in analysing the short term liquidit anal
finar

day to day operating expenses, Thus, the liquidity of the fim has got special importance both irms
inad
the point of view of suppliers as well as the management. From the analysis of financial statement!
reveals that whether the liquidity of the fim is maintained at the nav
optimum level. If the fim su
from liquidity crisis then more the creditors are facing problem in maney
it will collapse, Further
their receivable. Therefore, by conducting regular analysis, the management is able to remov
problen of liquidity crisis. Again the lenders can take lending decision most sensibly and judicio
:
3.Assessment of operating Excellence Financial statementanalysis further assist in evaluati whict

operating excellence of a firm. It provide assistance in judging credit worthiness, assessing

intrinsic
Stater

value of equity shares, forecasting bankruptsyetc. of the firm.

4. Assessment of Profitability :The state of surviving and the growing of the fim finally depensthe
its profitability. The firm is required to regulate its profitability continuously so that it can satis in

equity holders i.e. The shareholders expect that the balance of retained earning should beinvested
the competitive world after satisying them. The absolute figure of profit as shown in the pro te
take
loss account does not truely indicate the profitabilityof the firm. To faciliate this, a firm may
 H-167
and Financial Statement Analysis (Hons.)
Financial Reporting

of the firm to ascertain its profit

the
analysis etc. in evaluating
profitability
belb of ratio analysis, EVA average
in compare to standard norms such as industry's
oarning ability i.e. whether it is sufficient

and competitors profitability.

profitability

E Assessment of Performance The primary :

objective of financial staternent analysis
financial
is to make

statements.
Pvaluation of the fim byregrouping
and analysis of the figures contained in the
rivals and suggest remedy for
t indicates the strength and weakness of the fim as compared to its

gistainable development. Globalisation

and deregulation of the economy have brought a changing
unless is able to produce quality
eonario before the business world. As such will fail to survive,
it
it

price.
goods or render quality services at competitive
Forecasting about future Analysis and :
interpretation of financial staternents are very significant

growth potential of the firm. Such analysis makes

the accounting
in
6.
forecasting future prospect and
future profitability and cash flow. It investigates deeply the leading
anca information persuasive to forecasting and
indicators in the past data which
provide the basis for predicting about the future performance
risk of the firm. This has been done
by adopting various techniques such as trend analysis, regresion
the analyst
the predictive value of financial statements,
analysis etc. Nowadays, in order to intensify and
such as customer
to consider the non-financial factors along with the financial factors
likes
ardimc,
supplier relation,market situation, opportunity
and risk orubo etc.oi
ned
The
i 7. ManaggerialDecisions
:
For successful operation of the business, frequently
of profitable
the management has to
product mix, discontinuation
take various tactical decisions such as make or buy, selection
statement analysis has to play a very important
ave t role in this
of a product/departmentetc. Financial the financial
of financial and non-financial data
most suitably,
respect. By analysis and interpretation
als

to take those decisions most sensibly

and judiciously.
analyst assists the management
may have unlimited investmentopportunities but the
resources
8.Allocation of Resources : A firm
als
is
of these limited
limited. Hence the firm has to make
optimum allocation
available to satisfy them is
and
ts
the scarce resources of the country
investing opportunities. Similarly,
resources to the various competing
note

most suitable way for the betterment of the

sectors and industry in the
should be utilise in different
Financial statementanalysis can
be employed as an effective
stmed society and rapid economic development. investmentmodel, bank
tool for producing data for the
development of various model like corporate
y ant
model etc. for the country.
lending decision model, economic development
nentt

ors a 9.Awareness of Corporate Sickness :

Corporate sickness may be caused by several
factors. Some of

Beyond socio-economic impact,corporate

which are controllable and the rest are
uncontrollable.
nance
of capital of both the shareholdrs
as well as the lenders.
sickness may result loss
ed wt sickness. Financial statement
proper steps should be taken for the prevention of corporate
Therefore and non
in this respect. the basis of evaluation of financial
On
analysis also plays very a
important role
impending sickness of the
quid data, the financial analysis
can develop various model for signalling adopted
merger, reconstruction etc. may be
financial
lasth
irms. Therefore, for controlling
such sickness the measures like and
fo that the sickness is non-diagonisticable
th for prevention, Similarly if the analysis indicate
In advance its
of capital.
to prevent the further erosion
better to liquídate the firm
mentt unavoidable, then it is
sutes
Objective of Financial Statenment Analysis :
anagt and understanding the process of analysts
statementprovides the scope of knowing for which the
financial
Ovett Analysis of financial
The primary objectives
objectives.
icoLs which put special importance on its major
basis
done are stated below : on the
Statement analysis is usually of the business and
in knowing and understanding theliquidity position
(a) It assists us and
be evaluated.
of which its short term debt paying capacity can the fim i.e. the strength
of
about the financial health
(6) It assists us in forming an pinion the firm.
with
weakness of the firm.
risk
associated
as well as operating
(c) It also assists us to evaluate the financial
vesad
 -SEM-VI
H-168
otaiu B.Com. Scroller

the firm and bythat

solvency position
of

forming an opinion about the means

(d) It assists us in
capacity of the firm.
the long term debt paying be

fom an opinion about capabilities of

the
about the present earning firmand to

in forming an opinion o
(e) It assists us about the future earning prospect.
for making anticipation
provide the basis result of the firm
with that of
comparison of the financial Fe
thescope of similar

( It provides us
other fims.
efficiency of the firm with which the various b
us in highlightingthe
operating resources
(g) Italso helps
of the fim are being employed. f
factors on the performance
financial and non-financial
evaluating the various
of

(h) It assists us in

(2)
1
the firm.
the overall financial position of the
business.
() Itassists us in knowing and understanding
of the firm with the help of trend
analtsie

(6) It assists us in evaluating the growth potentiality

information and suggest remedial
measures for any unfavourable business conditics
financial
in a simplified, systematicand summarisot
(3) It assists us in presenting the financial information
form,so that the common people of average inteligence can easily draw conclusion. (4)
forecasting effective budgeting and plan
0 tasists us by providing infomation regarding future
on the basis of which it facilitates the comparison of actual perfomance
with the budgetet

performanceand help to discloses own shortcoming.eB

(6) L

D Traditional Approach to financial Statement Analysis:

The traditional approach were introduced just towards the end
to financial statement analysis o
nineteenth century. Basically, credit assessment and investment analysis were done on the basis af

information obtained from the financial statement. Traditionally, the financial ratios were adopted as (7) F
basic tools of financial statementanalysis. For judging the short term solvency position current ratio were
widely adopted.After a short time, it was felt that the current ratio is not the real indicator for short tem
solvency. Therefore more logical ratio like quick ratio(i.e. acid test ratio) were developed and introducad Li
for judgingthe short ierm solvency position. Again for judgingthe long term solvencyposition of the im
the use of debi-equity ratio were widely accepted. At that time, profitability of the frm are mostiy ascertained
on the basis of various profitability ratios like gross profit ratio, net profit ratio, operating ratio etc.
(1) L
evaluating the operating efficiency ,
of the firm various turnover ratios like stock turnoverratio. debtors tumov
ratio, asset turnover ratio etc. were adopted and introduced.

After 1920s the scope statementanalysis was expanded with the inclusion of inter-tu
of financial
comparison of ratios and the industry (2)S
average as the norms or standardfor ratio assessment.Till 130
the betterment of financial statementanalysis was
confined with the extensiveuse of financial rau
Soon after that, the analyst began to common size the financial staterment to
know about their compos
This is done by expressing each itermn of balance sheet as
percentage of total assets and each ite
income statement as a percentage of total turnover. Beyond that, (3)I
common sizing of financial statente
has also becane useful for faciliating inter-firm comparison.
Another developrment to the of in
basket of traditional financial
statement analysis was the intoduction
index number trend analysis. It assist us to learn aboutthe
(4) U
Company accountsovera period more tha of

one accounting years, It assist us to learn aboutthe trend of each items of

balance sheet in the financial
staternent to make them understandable. However, the
practice of financial statement analysis On
basis of age-old tools like ratio analysis is still going on.

Meaning :
(5)
The approach to financial statementanalysis means the analysis of financial data obtall
traditional Fo
from the financial statements by adopting the lucid and easily understandable techniques suce
ratio analysis, inter-firm comparison, common sizing of financial statement, trend analysis etc. he
th
 Statement Analysis (Hons.)
H169
Financial Reporting and Financial

data if any should not

analusis of financialstatementis confined to financial data only. Non-financial
it does not apply the advance satistical
beconsidered for evaluating the perfomance of the firm. Again
approach and it
hols and techniques for drawing conclusions. Again since it is an acountingbased
making.
has no link with other disciplines concerned for decision

Features :
statement analysis has got some features, these are stated
The traditional approach to financial

below:
(1) Nature :
of the Activities This analysis depends on the information derived from the published

financial reports.
has been done on the basis of past financial data. Hence it is past
(2) Tupes of Data : This analysis

oriented and backward looking.

(3)Measures of Analysis :
This analysis is basically done on the basis of ratio analysis, common size
comparison. No advance statistical or mathematicalmeasures is usually
considered
analysis, inter-fim
in this analysis.

importance on profitability,
put special liquidity, solvency, and overall financial
(4) Vision: This analysis

position of the firm from the angle of short term point

of view.

seting standardsor norms. Market testing

(5) Approach to the Analysis :Decision rules are made by

ignoredto the principle developed.(AV) babb

(6)
is

:
Users of Financial Statements Bankers and other financial institutions
began to conduct financial
all the stakeholders
statement analysis by adopting the well popular traditional techniques. Recently,
endt of the business also decide to conduct their financial statementanalysis
by applying the said traditional

asist techniques.
on the basis of
oted: (7)Relationship with other Branches of knowledge:This analysis is mainly done
financial report. It has not integrated the financial
statementanalysis with other disciplines. It implies
other branches of knowledge.
ortte that the analysis is basically done in isolation of
bduz Limitations :
These are stated
mef The traditional approach to financial statement analysis has few severe limitations.
ertair below :
(1) Limited Scope:The scope approach is limited to the conventional accounting data reported
this
of
in the financial statements. It has ignored
the most valuable non-financial data like human resource,
umot
to the enterprise.
which are essential for the understandingof the growth potential
(2) Short Term Vision : Under this approach
shortterm is considered more importantthan the long
terf
ratios like Earning per share (EPS);Retun
on
term.As such it put special importance on accounting
support the companies to achieve short term financial
results

/rat Capital Employed (ROCE) etc., which

and causing long term damages to the profitability of the firm. o
(6) Inexistence f any Declslon Model :
This approach is done in isolation of other
analysis with the other
branches
disciplines, Result
integrate the financial statement
Studies. It does not attemptto
in that, it fail to feel, develop any decision modelas an expert. to the other
:
(4) Uselessto other branches of studies This analysis is not proved to
be much useful

developing investment
and capital asset

For instance, while

at the time of making decisions. portfolio
disciplines Similarly,
statementinformation. statement
valuation model,the economistdoes not require financial financial
done the basis of traditional
management and security valuation are not
on
picture
dueto
analysis. a misleading
(5) Faulty Decislon Making : Frequently, the financial
valuation or over valuation
statement
of
produces
assets and liabilities
including
is
the different
taken
solely
on

window dressing. (i.e,under and credit

,
heads of nominal account). As such if the decision regarding
investment
it will produce
an
erroneous
picture.

the basis of traditional financial statement analysis then

ssU
 H-170 B.Com. Scroller - SEM-VIoe

: be

D Modern Approach to Financial Statement Analysis

The scope ofmoden financial statement analysis is not confined to only traditional finanial repon.
but also integrated with other branches of studies. We learn about the environment both external an

intenal in which the fim has to operate. Modern financial statement analyst put emphasis on all thes
tactors prior to the examination of financial statements of the firm.
Lin
Factors like threat of new entrants, bargaining power of suppliers and customers, Government policu

etc. represent extemal environment while factors like employees morale, organisation structure,philosoph
di
of management etc. represent intemal environment. Allthese environmental factors significantly influence

the profitalbility growth potentiality of the firm.

Modern financial statement analysis cover both the financial as well as the non-financial tools and wi

techniques for ensuring better prediction of future earning and cash flow of the firm. Infact, with the fin

development of various business reporting model during the couple of years, financial statement
last
2)Pr
analysis has attained a newand accounts for special importancemainly on the non-financial
dimension, ne
measures. Fewof these reporting models are: The value Reporting Revolution Model (Eccles and others ma

2001): Global Reporting Initiative Model 2000,2002;The Intangible Assets MonitorsModel (Sveily,19971
3)Pi
etc. These models provide both historical as well as forward looking information and making analysis of
both the financial as well as non-financial information. Recently a new measure (Economic value pi
Added
Bu
concept) hasbeen developed. Economic value Added (EVA) is the excess of Net
operating profit after tax
rat
(NOPAT) over financing charges of capital (both equity and debt). 'EVA is considered to be a
more better
performance measure compared to EPS or ROCE etc.Lco
igobs aieulss d ent

Presently more advance statistical techniques like

regression analysis, multiple discriminant analysis
have been applied in financial statement analysis.Modern measure of OTrad
financial statementanalysis includes
fund flowstatement, cash flow statement, ratio The
analysis, budgetary control etc. Modern
techniques of
financial statement analysis providing data for be high
decision making model like bank lending
decision model,
corporate financial model and portfolioselection model is a more logical,
reasonable, practical and efficient Poi
way.
Difi
Meaning :
The modern approach to 1.
financial statement analysis may be Sco
defined as the analysis of financial and
non-financial factors which have
impressed the firm with the assistance of
various statistical and
mathematical tools and techniques that have
been developed and examined with a well
defined
structure of decision making.It is quite
logical, more reasonable and most practicable from
of various financial analysis in the ange 2.
connection with solvency, liquidity, Foc
of a concern. Again since the
profitability and management efficieny
statement are present in such simple and lucid
can easily understand form so that neophye a
:
it.
Features
(1) Scope : The modern approach to financial statement analysis
information only, but
is not restricted to the finane
it also take into accountthe relevant non-financial information
power of consumers and suppliers,
regulatory environment,customer
like bargalns 3.
relation, employee
management philosophy etc. mora App
(2) Focus :The
main argument of the modern
approach to financial statementanalysis is
the
future looking approach.It processes
both the historical
that, I
as well as present data and on the basis
4.
that make estimation about the
future. Meas
(3)Approach to the Analysis :Decision rules are framed after Analy
(4)Measures of Analysis Advance and sophisticated
adopted in this
: adopting empirical
statistical and
verification.

mathematical tools has o

analysis.
S,
(5) Users of
why, these
Financial :
Statements These satisfy the information need of multiple stakeholders.
are more broadbasedin comparisonto traditional financial statement analysis which use Users
 Statement Analysis (Hons.)
H171
Financial Reporting and Financial

the interests of the borrowers.

be primarily adopted to satisfy

O Relationship with other Branches of knowledge :This approach attempts

with reference to
to intearate the financial
economics and advanced
ctatement analysis with other branches of studies specifically
theories.

7 financial

Vsion :This put special importance on profitability,

approach
nosition of the firm both from the short tem and long term
solvency, liquiditv,
point of view.
and overall financial

Limitations :
1 is needless to mention that themodern approach tofinancial statement analysis has given a new

dimension to the analysis but still it isnot free from certain limitations. These are stated below

Measurement : This approach take into account the non-financial information along
(1) Problem of

with the financial infomation. But it is quite impracticable to assign monetary value to such non
tht
financial factors.

(2) Problem of Utilisation For the adoption : of modern approach to financial statement analysis, it

needs sophisticated and logical statistical tools and techniques, which are quite impracticable for
many analyst to collect.torn
the
(3) Piecemeal Development : Modern approach to financial statement developed by adopting
lysis

piecemealmethod. No isolated tool of this approach can analysethe whole picture of an enterprise.
of traditional tools like
But traditional tools are useful in this regard. For instance with the assistance
analysis, we can analyse all the aspect of financial position and operating
performance of an
ratio

enterprise.

nai
Approach Vs Modern Approach to Financial StatementAnalysis
OTraditional
nd
The major differences between traditional and modern approaches to financial statementanalysis can
quest
be highlighted below:
mod
Points of Traditional Approach Modern Approach
Difference
This analysis not to the financial
1. Scope This analysis based only on
is financial is restricted

information, reported in the financial informatioin only, but it also take into
ciala
statement. account the relevant non-financial
calz information.

toonly financial The main argument of the modern

detir
2. Focus Asthe analysis is confined
nead statementanalysis is
approach to financial
information, obtained from historical
of that, it is future looking approach.
It

records. It is past oriented. Estimation

processes both the historical as well as
the future of the firm can not be made
eont
data and on the basis of that make
with the assistance of traditional approach.present
otestimation about the future.
adoping
by setting a Decision rules are framed after
fina O. Approach toDecision rules are made
ignored emperical verification.
the Analysisstandard or norms. Market testing is
to the principle developed.
and sophisticated statistical and
This analysis is done on the basis Advance
basically adopted in
"7 Measures of tools has been
common size analysis,mathematical
Analysis Of ratio analysis,
comparison. No advance this analysis.
ebas inter-firm
statistical or mathematical measures
is
multiple
usually considerin this analysis. need of
|It satisfy theinformationit is more broad
5. Users Bankers and other financial institutions That is why
te iwe began to conduct financial statement stakeholders,
 B.Com. Scroller - SEM-VIogio
H-172
traditional finang
by adopting the popular based compared to
well
analysis was primari
analysis, which
techniques. Recently, all the statement
traditional the interest of
adopted to satisty

th
stakeholders of the business also decide to
analysis by borrowers.
conducttheir financial statement
techniques.
applying the said traditional
approach attermpts to integrate
th

6. Relationship This analysis mainly done on the basis|This

is
analysis with othos
integrated the financial statement
with other of financial report. It has not specifically uit
studies
with other branches of
financial statement analysis
Branches to economics and advancod
of

disciplines. It implies that the analysis is reference

knowledge
other branches financial theories.
basically done in isolation of

of knowledge.
on
7. Vision This analysis put special importance on This approach put special importance
solvency, and overall| profitability,
solvency,liquidity and overal
profitability, liquidity,
position of the fim both from the
financial position the firm from the angle financial
of
of view. short term and long term point of view.
of short term point

8. Mergerand Amalgamation and Absorption are Merger and acquisitions are done as per
historical Accounting Standard 14 and
most modem
Acquisitions basically done on the basis of
data and Static concept. concept is synergy concept of merger.
9. Pictorial through charts, Pictorial representation through charts.
Pictorial representation
Representation graphs and diagrams are not practised in graphs and diagrams are compulsory for

static concept every large-sized companies.

10. Stagesof This approach conveys, the firm to prepare This approach conveys,thecompany, even
Income multiple step income statement a listed jont stock company to prepare singe

Statement step income statement including (9

disbursementof income.

11. Inflationary The inflationary effects are not Few large-size companies disclose the

Effect acknowledged in this approach inflationary effect in financial statement.

even though it represent a hopeless picture.

in reporting annual reports.

(1

D Parties interested in Financial statement Analysis

The primary objectives towards the preparation of financial statementare to provide informaton (11
which is useful, to the internal as well as external users. The different users who are interested in financial
statements analysis are stated below:
(12
(1) Management :Management needs financial information for ensuring survival and arowth of the fim.
On the basis of such information they formulate plans, make policies, select strategy, allocate tirnaa
resources and initiate control. Management also need financial and operating information for te
porpose of pinpointing the loopholes of the business and making etective investing, inancing, operatis
and strategic business decisions.

(2) Proprietors/ Shareholders/ Partners : They are interested to know the rate of return ni
investment of long term solvency of the firm, the profit earning capacity of the firm and the gro

potentiality.Accordingly, they can make sensible and judicial decision regarding the investmer
retiring of capital by way of acquiring or disposing shares. On the basis of information available
the financial statement.

(3) Creditors,Bankers and other Lenders : Bankers, creditors and other lenders are interesed
know the ultimate solvency, liquidity position, and the coverage of interest. As such they
 H-173
Financial Reporting and Financial Statement Analysis (Hons.)

statement

) and proposed debt and interest paying capacity. Financial

existing
infomationfor ascertaining
information in this respect.
analysis help them to collect

:
Government Govemment is interested to
know about the resource allocation, profit earning
is needed by the firm are
supplied
capacity

and the activities of the firm. For this pupose, whatever information
government in ascertaining tax liability and
bu thefinancial statement.Accordingly, it will assist the
country. Again the Government need
informationfor formulating
the economic development of the
and growth of the different sectors of economy.
plans for effective economic development
know whether able to supply quality product over
the firm is
(5) Customers:Customers are interested to
to know about the
price. Assuch, the customers are interested
thelong period of time at reasonable
their efficiency and financial validity for long
term association
financial statement of the firm to know

with the business firm.

(6)Rivals : Rivals are interested to study financial statement to compare the relative performmance of the

firms.

(7) Employees :They

need informationto evaluate the ability of their
employer to provide information
and employment opportunities. Accordingdy, they are
interested
regarding remuneration, retirement benefits the firm.
to study the financial statement to
know about the profitability and economicstability of
the accounting information for their research work.
(8) Research Scholars :They are interested to use
They analyse
Financial statement analysis is of
great help to the research scholers to a greatextent.
to satisfy the information needs of the users.
the financial informationand evaluate their requirement
help the users in
and reporting system appear to be inadequate or
it fails to
If the existing accounting

the same and provide suggestionfor their development.

making decision, then they must highlight
on the financial statementanalysis for their research
That is why, the research scholars depends heavily
work.

(9) General Public :

Business concern has greatconcern over the
General public. They influence the
They have substantial contribution to the society in
generalpublic both individually and collectively. of local
infrastructure development, patronage
many ways. Such as providing job opportunities, in
public by supplying information
analysis may help the general
suppliers etc. Financial statement span
the fim and the of its
in the sphere of prosperty of
studying the trend and current development
activities.
work which
(10)Auditors : Financial staterment analysis
of
assist the auditors

performing their duties.

in determiningthe field of

need special care during the course

(11)Merger and Acquisition :

Analyst They need information for the purpose of determining the

health of potential merger firms.

economicvalue and evaluating the financial in
by providing information
analysis assist the trade union
(12) Trade Union : Financial statement
followingcauses eeme dliootioted
respect of the of fairness of wages presentiy
condition, (c) Evaluation
(a) Increase wages, (b) Evaluation of working
in

active pension plan etc. signal of social desirability

socially desirable and the
financial statement is
Beyond that, analysis of
of capital,
are. rupee
added per (g) value
ratio; (c) Value
(a) Capital output ratio, (b) Cost-benefit
benefit to country.
exchange
potential, (e) area development,() foreign
(d)employment
added for employee etc.
H174 B.Com. Scroller - SEM-VI

Theoretical Questions

A. Short Essay Type

1. Discuss the nature of financial Statement.
2. Define financial Statement.
Financial statement.
3. Discuss the objectives of
Financial statement.
4. Discuss the importanceof
Statement.
5. Discuss the component of Financial
Statement Analysis?
6. What do you mean by Financial statementAnalysis.
and Modern approachesof Financial
7. Distinguish between Traditional assets?
of
8. an asset? What are the various classifications
Define
differ from a fixed Assets?
9. What is a curent Assets? How does
it
in such
Name the various parties interested
10. What meant by analysis of financial statements?
is

analysis.
statements? Explain briefly its limitations.
11. What is meant by analysis of Financial
What is the need for financial statements? [2006
12. What doyou mean by financial. statements?
of financial statementsof their customers?
[20071
13. Whyare the creditors interested in the analysis
Statement related to each other.
14. Explain howare the Balance Sheet and theIncome
[2008)

[2009|
15. Discuss the limitations of financial statement analysis.
statementanalysis.
16. Briefly state the idea of the Traditional and Modern approaches to financial
(2010|

the direct and indirect users of financial statements? [2011

17. Whoare
18. Enumerate the distinction between traditional' and 'moden' approach of financial statement analyss
(2012)

19.Briefly mention the names of three parties interested in Financial Statement Analysis with thet
information need. stloso: [2018]

20. Briefly mention the needs of Financial StatementAnalysis. [(2019)

B. Essay Type
1. What do you mean by Financial Statement Analysis? Discuss the need for Financial Statement

Analysis.
2. Who are interested in Financial statementinformation? Discuss in details.iehh abuit
3 Discuss the Traditional Approaches to Financial Statement Analysis.
4. Discuss the Modern Approach to Financial Statement Analysis.
5. Explain the conflicts among diverse parties.
6. What are the factors on which demand for Financial Statement Information depend?
7. Discuss the conflicts between parties and Financial Statement Information.
8.
What are the basic component of Financial Staterment. Explain their importanceto various us

9. What is a Balance Sheet? Illustrate the forms and contents of a Balance Sheet.
10. What are the different approachesto Financial (2006
Statement Analysis? an
11, Whatan Income Statement? How
is
you recognise revenue and expenses while preparing
would
Income Statement?
12. How are the Balance Sheet and the Income with
thehelp
Statement related? Illustrate your answer
of an example.
 (Hons.)
and Financial StatementAnalysis
Financial Reporting

StatementAnalysis.
13. Explain thedifferent techniques of Financial
14. What are the tools of financial analysis? Explain the
care which must betaken in using foranak .
available to the financial analyst. What are
15. Critically examine the various techniques the limitation
of such techniques.
16. "Analysis of Financial Statements is affected by Window dressing and personal
ability and bias
analyst."Comment. of the

17. Define Financial Statement Analysis. Distinguish between the Traditional and
Modern
financial statement analysis.
approachesto
18. Write short note on :
[2008]
(a)Users of Financial Statement.

[2010,2016]
Unit 5 Introduction to Financial
Statements
n such B. TECHNIQUES OF FINANCIAL STATEMENT
ANALYSIs

[2006
Accounting Guidelines
2007
2008 lools of Financial Analysis
efficiency and financial
soundness
to measure the operational of
[2009 Ihe following tools are used the
enterprise:
SÍSs.
Stato