A more appropriate title for this discussion might have been, “The Reason For Accounting’s Existence.” This is so because I am going to talk about the four financial statements, which are the fundamentals of accounting, and discuss how they are used in real world situations. I will also provide the accounts that are to be used in each statement.
The most basic financial statement is the statement of retained earnings. Basically, this statement says that you started out with x amount of money. You then either had a positive net income which added to that amount or a negative net income which took away from that amount. After you get that number if you decide to pay a dividend to your stockholders then you subtract that amount also. This gives you the amount of money that you have retained throughout the period. The only accounts that you need for this statement are the retained earnings from the previous period, the net income or loss, and the amount of dividends declared, if dividends were declared. This statement is used by company leaders to see very simply how much money you started with and how much money you currently have.

The next statement that goes along with the statement of retained earnings is the income statement. This statement is essential to any business head, that is, unless they don’t want to know if they are making money or not. Simply put, the income statement includes all of the revenues and expenses that a company incurs during the given period. The revenues would be any gain that happened either through the sale of goods or services or by selling investments, equipment or company land. Some of the expenses that would be listed would be the cost to maintain and operate the company buildings and machinery, employee wages, and the cost to the company for providing their goods or services. This financial statement is very basic. It is a very quick and easy way to see how much money your company is bringing in. This statement would allow a manager to see if they need to cut costs or find a way to bring in more revenue. They could decide if there is one area where they are spending more than they should. They could also use this to see if something they spend money on is bringing in revenue. An example of this would be advertising. Suppose a company decided that they wanted to start advertising more heavily, such is with a TV commercial. They could record the cost to make the commercial and then look at the last income statement before the commercial and the one immediately after and decide if the commercial was bring in revenue or just wasting their money. Overall this is a very cut and dry way to see if your company is making money or losing it.

The next statement that is used by companies is the statement of cash flows. This financial statement is very important because cash is the most liquid asset that a company has. Since this is true, a company will always want to know exactly how much cash they have on hand. This statement takes any transaction made with cash and records it to see how much cash a company has. Cash transactions would include: sale of goods or services where the customers paid cash, any purchases that the company made with cash such as for equipment or property, selling investments such as stocks and bonds, issuing stock, and paying cash dividends to stockholders. I feel that this is the most important financial statement, especially for in the short run. You always want to know how much cash you have because cash is the most liquid asset that you can have. Therefore, you can use it instantly, and as they say in business, time is money. If you were ever in a desperate situation that required funds you would want to know how much cash you have so that you can decide if you will be able to get out of your financial predicament.

The final financial statement is the balance sheet. The balance sheet gives you a quick look as to how the company is doing overall. It tells you all your assets, liabilities and how much stockholder’s equity is in the company. The balance sheet lists all of the accounts that there are records for. Because of this a company will typically use a consolidated balance sheet, one that only lists certain accounts. The balance sheet can show you how much money you owe in the short run and the long run. It can tell you the assets that you have that will provide a benefit to you in a short amount of time and those to give you benefit after a long period of time. It also shows how much of the company is financed through stockholders and investors. This statement also provides as a check as to how well the accounting books are being maintained. This happens because the balance sheet lists all assets, liabilities, and stockholder’s equity. The check is provided because the accounting equation is assets = liabilities + stockholder’s equity. If there is any discrepancy in the numbers then you know that there is a mistake somewhere in the bookkeeping.

These financial statements are the end result of all accounting. They exist so that a company can see where it stands and make decisions about a course of action to take. The whole reason that accounting exists is so that a company can know this information, so having these statements is very important. Having one or all of these statements will help you make a better decision when dealing with a business, and make a better decision makes it more likely that the company will do well in the long run.