2: Financial Statement and Cash Flow AnalysisAs part of its charter, the AASB is required to help with the development of global financial reporting
standards. This means that Australian standards are created with an awareness of global patterns of
financial reporting, and contribute to the writing of global guidelines. Over the years, this has led
to a growing convergence of accounting standards in Australia and many other countries under the
broad umbrella of International Financial Reporting Standards (IFRS). Australia adopted its version
of IFRS from January 2005, although not without some controversy. The discussion in this chapter
will not delve into the details of the Australian IFRS (AIFRS), but will focus on the more generic
financial statements and contents that apply across many countries in addition to Australia and New
Zealand.
Reporting financial information, both externally to investors and internally to managers, is clearly an
activity that is very important to senior financial executives. The adjacent ‘Finance in practice’ feature
shows that financial executives spend more time on this activity than on anything else.
In this chapter we shall focus on four key financial statements: (1) the balance sheet; (2) the income
statement; (3) the statement of retained earnings; and (4) the statement of cash flows.^2 We review the
information these statements present using the financial statements from the 2014 shareholders’ report
of the Global Petroleum Corporation (GPC). Though GPC is fictional, the values constructed for it
mirror those of a globally active oil company.2-1a BALANCE SHEET
A company’s balance sheet presents a snapshot view of the company’s financial position at a specific
time. By definition, a company’s assets must equal the combined value of its liabilities and shareholders’
equity. In essence, the balance sheet shows how the organisation obtained its funds, and how it invested
them in real assets (other than people). Thus creditors (lenders) or equity investors (owners) finance all
of a company’s assets. A balance sheet shows assets on the left-hand side and the claims of creditors
and shareholders on the right-hand side. Assets and liabilities appear in descending order of liquidity,
the length of time it takes to convert accounts into cash during the normal course of business. The most
liquid asset, cash, appears first, and the least liquid, intangible assets, comes last. Similarly, the item
accounts payable represents the obligations the company must pay with cash within the next year. The
last entry on the right-hand side of the balance sheet, shareholders’ equity, never matures – it is ongoing
as long as the company endures.
Table 2.1 presents Global Petroleum Corporation’s balance sheet as at 30 June 2016. As is standard
practice in annual reports, the table also shows the prior year’s (2015) accounts for comparison. Cash
and cash equivalents are assets such as cheque account balances at commercial banks that can be used
directly as a means of payment. Marketable securities represent very liquid, short-term investments, which
financial analysts view as a form of ‘near cash’. Accounts receivable represent the amount customers owe
the company from sales made on credit. Inventories include raw materials, work in process (partially
finished goods) and finished goods held by the company.2 Although these statement titles are consistently used throughout the text, it is important to recognise that in practice, companies frequently
use different statement titles.LO2.1
LO2.1
Jon Olson, Chief Financial
Officer, Xilinx Corp.
‘It is really important
that you know some
of the basics of
accounting.’
See the entire interview on
the CourseMate website.Source: Cengage LearningCOurSEMATE
SMArT VIDEO