How to Read Financial Statements: A Guide for Non-Financial Managers

Posted on Dec 27, 2023 at 12:12 AM

Who said that one of the responsibilities of accounting professionals is to read financial statements and deal with spreadsheets and numbers?

It may be the task of any manager or head of the financial statements to prepare and read them at some point in the operations.

Understand the balance sheet, cash flow statement, or income statement when necessary. Therefore, in today's article, we will introduce you to the most important financial statements, what they mean, the importance of those indicators, and how to read them.

How can non-professionals read financial statements?

To understand the company's financial position or its standing among competitors, several financial statements must be reviewed and analysed: balance sheets, cash flow statements, income statements, and annual reports. The value of these documents lies in the ability of the manager or the concerned person to understand and read financial statements together as any specialised accountant.

Below is a list showing how to read financial statements and a set of data used in the accounting world:

• How to Read a Balance Sheet

The balance sheet conveys the "book value" of the company. It allows you to see available resources and how they were financed on a specific date, usually taken for a year or a quarter. The balance sheet shows the company's assets, liabilities, and owners’ equity values. (Essentially, what the company owes, owns, and the amount invested by shareholders).

The balance sheet also provides information that can be leveraged to compute rates of return and evaluate a company's overall capital structure using the accounting equation: 

Assets = Liabilities + Owners’ Equity.

Assets are the sum of both liabilities and equity or Owners’ Equity. That is, assets are anything a company owns with a quantifiable value. Liabilities refer to all obligations and expenses the company owes to a debtor, such as debt payments, employee salaries, rental costs, utilities, taxes, etc.

Owners’ equity refers to the net worth of a company. It’s the amount of money owned by shareholders, i.e., the amount that would be left if all assets were sold and all liabilities paid. Here, the shareholders may be private owners or public investors.

Therefore, more than the balance sheet is needed to read financial statements properly and understand the company's economic trends. Instead, it is necessary to view the rest of the indicators of the company's financial statements for a clearer understanding of its financial position.

• How to Read an Income Statement

in How to Read financial statements or a profit and loss (P&L) statement, summarises the cumulative impact of a company's revenue, profit, expenses, and loss transactions for a given period. Reports are often quarterly or annually and show a company's future financial trends, revenues, expenses, and comparisons over set periods.

Income statements typically include the following information:

• Revenue: The amount of money a business takes in

• Expenses: The amount of money a business spends

• Costs of goods sold (COGS): The direct costs and expenses of producing a company's goods.

• Gross profit: Total revenue less COGS

• Operating income: Gross profit less operating expenses

• Income before taxes: Operating income less non-operating expenses

• Net income: Income before taxes, fewer taxes

• Earnings per share (EPS): Division of net income by the total number of outstanding shares

• Depreciation: The extent to which assets (for example, ageing equipment) have lost value over time

• Earnings before interest, taxes, depreciation, and amortisation: EBITDA is abbreviated and refers to a company's operating profitability.

These ratios help understand the company's performance: Is it profitable or losing? How much money is spent to produce a product? Is there cash to invest back into the business? Defining financial trends: When are costs highest? When are they the lowest?

• How to Read a Cash Flow Statement

A cash flow statement provides a detailed picture of a company's cash and the events occurring on it over a specific time, known as the accounting period. It demonstrates an organisation’s ability to operate in the short and long term based on how much cash flows into and out.

Cash flow statements are broken into three sections: 

• Cash flow from operating activities

It is created once the company delivers regular goods or services, including revenue and expenses.

• Cash flow from investing activities

This statement includes purchasing and selling assets using cash rather than debt, usually in physical property, such as real estate or vehicles, and non-physical property, like patents.

• Cash flow from financing activities:

This statement details equity and debt financing.

To know how to read financial statements, It’s important to note there’s a difference between cash flow and profit. While cash flow refers to the cash flowing into and out of a company, profit refers to the net money left over after all the company's expenses have been deducted from its revenue. Both are significant numbers to know.

A cash flow statement makes it possible to see the activities that generate cash and use that information to make financial decisions.

Ideally, cash from operating income should routinely exceed net income because positive cash flow speaks to a company's financial stability and ability to grow its operations. However, positive cash flow does not necessarily mean the company is profitable, so companies' balance sheets and income statements must be analysed.

• How to Read an Annual Report

An annual report is a publication that public corporations must publish annually to shareholders to describe their operational and financial conditions.

These reports often include graphs, images, and a letter from the CEO to describe the company's activities, benchmarks, and achievements.

They provide investors, shareholders, and employees with greater insight into a company’s mission and goals than individual financial statements. the annual report summarises financial data and includes a company's income statement, balance sheet, and cash flow statement. It also provides industry insights, management discussion and analysis (MD&A), accounting policies, and additional investor information.

In Conclusion,

Accounting is a language, and substantial experience in it requires a lot of analysis and training. Fortunately, anyone can learn basic terminology and read financial statements easily by following the Finance For Non-finance Managers Online Training program. This training provides a better knowledge of the numbers in financial statements that you can use to make better decisions.