Financial Statement Literacy:
The Story Behind the Numbers
OR: Why Accounting really is the most
fascinating topic you will ever study
Objectives of Financial Statement
Reporting: To provide information…

Useful to present and potential investors,
creditors, and other users for decision-making

To help assess amounts, timing, and uncertainty
of prospective cash flows (interest/dividends,
liquidation)

About economic resources of an enterprise,
claims on those resources, and the effects of
transactions, events, and circumstances that
change these resources and claims to them
The Economic Resources of an
Enterprise

Assets



Fairly liquid – current
Long term - productive capacity that supports
more than one year of operating activity
In total these are the resources management
has available for its use in operations to
accomplish the goals of the organization
Claims on Those Resources

Liabilities – borrowed funds


Also segregated between current and long-term
based on whether satisfying the underlying
obligation will require cash outflows within the
next operating cycle, or beyond
Equity – contributions of owners

There is no repayment obligation to owners


This investment risk is undertaken with anticipation of
superior returns
Equity also includes income earned and retained by the
firm
Fundamental Accounting Equation

Assets =

Liabilities + Equity

The resources available
to the firm for current
and ongoing operations

Borrowed, contributed,
and earned financing
for firm resources

What do we have?

Where did we get it?
The Balance Sheet and its Supporting
Schedules

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
Income Statement - explains in greater
detail the major source of changes in one
Balance Sheet account - Retained Earnings
Statement of Cash Flows - explains in
greater detail the changes of one Balance
Sheet account - Cash
Statement of Stockholders’ Equity explains in greater detail changes of one
section of the Balance Sheet - Equity
Effects of Transactions That Change
Those Resources
Sources of Complexity in Accounting

Many transactions are other than exchange
of goods/services for specified cash amounts

On what basis should these be valued?


Current market value? Should these be adjusted at the
end of the accounting period if market value changes
(investments in equity securities, for example)?
Future cash flows? When cash exchange is far in the
future (30 year bonds, for example) is the future cash
exchange amount a meaningful value for use today?
Complex, but…Controversial?

Intense corporate lobbying to get ‘favorable’
standards

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New business transactions always evolving

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Mostly that means discretionary choices
Substance over form is the goal
Prescriptive rules versus conceptual
principles

Interesting international differences