Business Financial Systems, Research Paper Example

Introduction

Organizations are often called upon to prove the financial integrity and performance of their firm, along with strict compliance with legal obligations and stakeholders’ requirements. However, certain basic concepts and principles are still required by major businesses in order for the financial management of the company to continue. These concepts include the balance sheet, income statement, operating cash flows, statement of retained earnings, and net working capital; which will be discussed and clarified in detail below.

Balance Sheet

Commonly known as the statement of financial position, the balance sheet lists the assets, liabilities, and ownership equity as at the end of the financial year, amongst other financial indicators. Unlike other principles used in financial management, the balance sheet revolves around a single point the business calendar, namely the financial year’s end. It also highlights the net worth of a firm, which is the total assets minus the total liabilities, which is known as the accounting equation (SKS, 2013).

As many businesses use the balance sheet to measure their profits and assets; but also have to report liabilities, such as monies owing and any creditors that the company may have. The past financial documents are often compared with the company’s current balance sheet as of the latest financial year, in order to gauge the profitability or position of the firm.

This is an important document that shows the company’s operation and status in the business market, and is also compared with the statement of retained earnings, as detailed below.

Income Statement

This particular document shows the revenues and expenses for a particular period, and is also known as the profit and loss account. It shows how the financial performance of the firm is transformed into net income, as well as the costs and expenses for the period, along with other indicators that highlight how much money was made or lost during the period. It is very similar to a cash flow statement, in that it focuses on a larger timeframe, rather than a single point in time.

The top line and bottom line, known as money received from products and services before expenses are withdrawn, and total revenues after expenses have been subtracted; respectively, are both shown in the income statement. As the name implies, the total income from the business activities of the company are all shown in this document. Since this is an important indicator, the income statement is utilized by many companies for its significance in showing profitability.

Operating Cash Flows

The cash flow from operating activities is the amount of cash that a firm generates from its total revenues, excluding costs and investments; known as operating cash flows, which is also reported on a separate financial document (De Franco, Wong, Zhou, 2011). It is often calculated as the cash generated from operations, minus tax and interest. This amount also includes cash from customers and also cash paid to company suppliers.

Such cash flows are adjusted for other financial measures, including liabilities, receivables and depreciation. For example, the business that has many assets may have decreased net income due to depreciation; however, since this is a non-cash expense, the operating cash flows would reflect this as cash holding rather than a low net income. This shows a more accurate picture of the company’s financial position without overestimating its cash flow. It is also analyzed with net working capital, as clarified below.

Statement of Retained Earnings

Known as one of the most basic, yet essential of financial documents, the statement of retained earnings shows the breakdown of profit and loss, dividends paid, as well as the owner’s interest. This statement covers the company’s total retained earnings over the reporting period. The owner’s equity and interest are reported on the statement of retained earnings as per the balance sheet, as aforementioned.

Often detailed according to the country’s financial requirements as per operation, the statement of retained earnings refers to the portion of net income of a firm that is retained by the company itself, rather than distributed to shareholders as dividends. This is done often to insure the business against financial loss or in the event of a company deficit. It is often calculated as a cumulative amount from year to year.

Net Working Capital

Often abbreviated to WC, meaning working capital, on most financial documentation, it represents the operating liquidity available to a firm; this often includes fixed assets such as buildings and equipment. It is often calculated as current assets minus current liabilities, as well as incorporating valuation techniques such as discounted cash flows. Therefore, this financial document is often used in conjunction with the operating cash flows, as mentioned above.

As is the case with major companies, liquidity cannot be converted to cash within a short timeframe if located mostly in assets and profitability on paper. However, this can be reversed when positive working capital is increased by managing inventories, accounts receivable, accounts payable, and cash reserves. These three accounts are crucial to increasing net working capital and maintaining current amounts for future growth (Franco, Kothari, and Verdi, 2011; Hand and Green, 2011).

It is important to note that these and any other financial documents that are used by companies for financial use should be compared and contrasted with actual performance via expert opinion.

Many companies use external or outsourced professionals to check and analyze financial documents, such as the few detailed here, along with expert opinion, to improve and gauge the performance of the company. It is crucial that expected performance is not undermined by actual performance, or vice versa.

Therefore, the financial documentation as shown above is the basic precursor to financial performance improvements for businesses on an individual basis. Due to the changing market, it is imperative that these documents are kept confidential and up to date. This will ensure that any company changes or improvements to occur in the future are in line with the direction of the firm.

Conclusion

In summary, companies often rely on important financial documentation to assist them in proving financial stability, performance and long-term growth. These basic concepts and principles are still used by major companies in financial practice across the business market. In particular, the balance sheet, income statement, operating cash flows, statement of retained earnings, and net working capital as discussed above are crucial to a firm’s operation and financial performance. It is these documents and how they are utilized to illustrate the company’s position that assists a business in its improvement.

References

SKS (2013). 7000—Executive Concepts in Business Strategy. Pearson: Colorado.

De Franco, G., Wong, M., and Zhou, Y.(2011). Operating Cash Flows. Pearson: Colorado.

De Fanco, Kothari, and Verdi, S. (2011). Net Working Capital. Pearson: Colorado.

Hand, J., and Green, J. (2011). Working Capital. Pearson: Colorado.