How to Read a Financial Report: Wringing Vital Signs Out of the Numbers

Chapter 2. THE THREE FINANCIAL STATEMENTS

Reporting Financial Condition, Profit Performance, and Cash Flows

Business managers, lenders, and investors need to know the financial condition of a business. They need a report that summarizes its assets and liabilities, as well as the ownership interests in the residual of assets over liabilities. And they need to know the profit performance of the business. They need a report that summarizes sales revenue and expenses for the most recent period and the resulting profit or loss. And, they need to know the cash flows of the business. Chapter 1 explains that a summary of cash flows, though very useful in its own right, does not provide information about the financial condition or the profit performance of a business.

Financial condition is communicated in an accounting report called the balance sheet, and profit performance is presented in an accounting report called the income statement. Cash flows are communicated in the statement of cash flows. Alternative titles for the balance sheet include "statement of financial condition" or "statement of financial position." An income statement may be titled "statement of operations" or "earnings statement." We'll stick with the names "balance sheet" and "income statement" to be consistent throughout the book.

The term "financial statements," in the plural, generally refers to a complete set that includes a balance sheet, an income statement, and a statement of cash flows. Informally, financial statements ...