Understanding the Profit and Loss Account and Financial Statements
The Profit and Loss Account
The profit and loss account is used by accountants to calculate the results obtained by a company during a financial year. A positive result clarifies the composition of operations that contribute to this outcome. It is a dynamic statement because it reflects the economic flows throughout the financial year.
Structure of the Profit and Loss Account
The profit and loss account must include the income and expenditure for the year, and the resulting profit or loss. Before presenting the model, consider the following:
- Account for income during the relevant period.
- Include purchases or groups of accounts with balances in the current and preceding year.
- Detailed subdivisions are possible, even if they don’t appear in the main model.
- Entries with Arabic numerals can be grouped and may become insignificant when their values don’t accurately reflect the company’s true image.
There are two models of profit and loss accounts: regular and short. The account MUST HAVE:
- Operating Income: Income and expenses resulting from the company’s core business activity.
- Financial Result: The difference between financial income and expenses, representing the income earned from financial activities and the costs incurred due to external financing.
- Result of Ordinary Activities: This is the sum of the operating and financial results. If positive, it’s reported as a profit; if negative, as a loss.
- Extraordinary Results: Income and expenses unrelated to the company’s ordinary activities and occurring on an exceptional basis.
- Result Before Taxes: This section presents the total results of ordinary and extraordinary activities. A positive result is a profit, while a negative result is a loss.
- Result of the Exercise: If there are profits, corporate income tax (usually 35%) must be subtracted to yield the final result.
Memory
The memory aims to extend, complete, and review the information contained in the balance sheet and income statement, providing a better understanding of the company. It’s an explanatory document that expands on the content of other financial statements.
Content includes: business activity, basis of presentation of annual results, distribution rules, fixed asset valuation, debt, capital, associated companies of the group, other expenses, and disclosures.
Other Financial Statements
- Statement of Origin and Application of Funds: This statement integrates all changes in assets and liabilities of a company’s stock during a financial year, compared to the previous year.
- Management Report: This report is only prepared by companies using the normal balance sheet model. It covers the evolution of the business, the degree of fulfillment of objectives, the company’s status in relation to the economy and technologies, and an overview of the sector to which it belongs.
- Statement of Cash Flows: This statement is highly provisional, particularly for financial analysis. It’s prepared by adding the initial balance (cash and bank) and payments received to the remaining payments expected in the period. There are two types of cash flows: financial and economic.
Stages of Financial Statement Analysis
- Data Manipulation: Gathering the information to be studied and preparing appropriate calculations.
- Data Analysis: Analyzing the obtained data using techniques such as calculating percentages and variations, graphing, or calculating measures (ratios).
- Interpretation and Comparison: Interpreting and comparing results to draw useful conclusions.
- Forecasting and Proposals: Making forecasts and proposing improvements based on the conclusions reached.
Types of Financial Statement Analysis
- Balance Sheet Analysis: This analysis examines the company’s assets and liabilities, studying their structure and composition, the relationship between different balance sheet categories, and financial assets and investments.
- Financial Analysis: This analysis focuses on the company’s solvency and liquidity, assessing its ability to meet short-term and long-term obligations.
- Economic Analysis: This analysis studies the company’s profitability, productivity, growth, and future expectations based on the income statement. The objective is to verify if the company is in equilibrium in terms of its assets, finances, and economic performance.
Techniques and Procedures for Balance Sheet Analysis
Balance sheet analysis can be conducted from two perspectives: static and dynamic. A comprehensive analysis should consider several factors:
- Variations in prices
- Incidence of seasonal variations
- Conformities of accidental variations
- Sectoral differences
Absolute and Relative Variations
Determining the variations in absolute and relative terms as vertical analysis, and compared with the variations of another financial analysis as horizontal.
Economic Study of the structure of the balance
It is elementary to determine if the condition of equilibrium asset complements other necessary conditions:
-Balancing the economic structure.
– “” Financial.
Correlations-heritage.
Working capital: part of the current assets (short-term investments) that are funded liabilities fixed (permanent resources and ll / t).
S the difference between current assets and liabilities circulating.
Because there is a balance in the relationship between heritage assets and liabilities must satisfy the following basic conditions:
The financial resources and permanent-ll / t should be used for investments in ll / ti, a part of current assets (working capital).
The resources-financial ac / t have to finance part of investment ac / t.
The working capital now twofold:
It’s the working capital needed to sustain the pace of business activity.
It’s the amount of permanent resources allocated to the company to achieve stability funcionamet their activity.
It is worth mentioning that the fund maniob.es a very generic concept and can be used to analyze an asset as to carry out a financial analysis.