Understanding and Analysis of Financial Statements
Map or Maze:
A map helps its user reach a desired destination while a maze, on the other hand, attempts to confuse its user by purposefully introducing conflicting elements and complexities. Financial statements can be used as a map or maze. As a map the financial statements can help the user to understand the performance and efficiency of a company and as a maze they can confuse the user my misleading presentations like using window dressing etc.
Before discussing the topic, I would like to ask some questions from my readers:
Q1 Whether shareholders have the rights to inspect the book of accounts?
Q2 Who prepares the Financial Statements?
Q3 Who appoints the auditor?
Q4 Who proposes the dividend?
Q5 Whether audited financial statements show the true and fair view of the company?
As we all know that Shareholders are the owners of the company but they don’t have the right to inspect the books of accounts as well as not to interfere in the daily operations of the company. They have the right to get only one copy of audited financial statements of the company at the end of the year. So this is the point from where the understanding and analysing of financial statements becomes necessary.
Company is an artificial person, shareholders are the owners of the company who invest in the company and Board of directors (BOD) run the company. All the day to day operations are taken by the BODs. The finance department of company prepares the financial statements.So to analyse whether BODs are doing in favour of company or not, Shareholders in the annual general meeting (AGM) appoint the Auditor of the company.Auditor inspects the books of accounts and give their opinion regarding the financial statements. But many lawsuits have been filed and won against accounting firms for issuing “clean” auditors’ reports on companies that subsequently failed.
Before a cash dividend is declared and subsequently paid to shareholders, a company’s board of directors must decide to pay the dividend and in what amount. When the board of directors makes such a decision and declares a dividend for payment to stockholders, the retained earnings account on the company’s balance sheet is reduced by the amount of the declared dividend. The retained earnings is an account of equity that shows the net balance of a company’s earnings. Since the retained earnings account is an equity account, dividend payments must be deducted from the account, reflecting the reduction in total shareholder equity.
Assistant Professor (Accounting & Finance)
Asia-Pacific Institute of Management