ATENEO DE NAGA UNIVERSITY

GRADUATE SCHOOL OF BUSINESS

NAGA CITY

Reflection Paper
On

Basic Financial Statement:

It’s Importance

By:
Policarpio R. Malonda
Summer 2007
 Objectives:

To be able to discuss the

importance of Financial Statements in
making sound management decisions
and evaluating the over all
performance of the company in
meeting its objectives.
 Discussion:
In the private sector, the General
Manager’s primary goal is to
maximize the value of is or her firm’s
stock while investors are very
particular about the security of their
investments. They used both
qualitative and quantitative data to
track the operation of the business.
Most of these data are found in the
annual report.
 Qualitative data includes
description of the firm’s operating result
during the past year and discusses new
developments that will affect future
operations. Quantitative data are the
accounting pictures of the firm’s
operations and financial positions; these
are usually reflected in the financial
statements.
 In the public sector the utilization
and disposal of the government funds
and properties whether local or national
level are also reflected on their annual
year financial reports
 For the Purpose of this paper company
refers to private and public corporations. I
will also be using theories intended for both
private and government sectors but the
examples exhibited were taken from the
government actual financial reports for
calendar year 2006. These reports are
mandatory requirements for reportorial
purposes and transparency of all government
transactions. Failure to submit this report
have corresponding sanctions provided by
law.
 Philippine Accounting Standard
(PAS) defined financial statements: “As
the means by which the information
accumulated and processed in financial
accounting is periodically
communicated to those who use it”.
 For the private companies the
primary users of the financial statements
are the managers, owners or investors, the
creditors and the government. Through
the aid of these statements they could
picture the firm’s profitability, financial
position and conditions, safety ness of the
investment, accuracy of tax payments and
the overall performance of the
management in running the operation of
the business.
 In the public sector financials
statements users includes, Local and national
officials whether elected of appointed in the
positions, the Department of Budget and
Management, the Commission on Audit, the
Congress and the Senate and the Office of
the President and more. All of these users
used the year end annual financial reports to
assess the effectiveness and efficiency in
administering the government operations.
 Financial Statements also serve as
the communication link between the
company/government and various
interested parties like the suppliers,
customers, local and foreign investors,
creditors which includes banks and
other financial intermediaries and many
more.
 Any misrepresentations in these
financial statements have tremendous
effect on its users.
 For the private sector a good
example of this is the story about the
Enron; in the early 2001 Enron appeared
to be on top of the world. The high
flying energy firm had a market
capitalization of $60 billion, and its
stock was trading at $80 a share. Wall
street analysts frequently touted its
innovations and management success,
and the most strongly recommended
stock in the world market.
 Less than a year latter, Enron had
declared bankruptcy, its stock was
basically worthless, and investors had
lost billions of dollars. The dramatic
and sudden collapsed left many
wondering how so much value could
destroyed in such a short period of time.
 Story revealed that the company
“cooked its book” and inflated its profits
and cash flows. Financial Statements are
been misleading and so many users had
been deceived.
All of this had led to a series of
investigation that will almost certainly
results in new guidelines and regulation
regarding the construction of financial
statements.
 For the public sector the strict
examination of the Commission on
Audit on the accuracy of these
statements had been in placed to prevent
such scenario.
 A complete set of basic financial
statements includes the following
components: 1) Balance sheet; 2)
Income Statements; 3) Statement of
changes in equity or statements of
recognized gains and losses; 4) cash
flow statements; 5) Notes to the
financial statements.
 Balance sheet (Exhibit 1) is the
formal statement showing the financial
position of an entity as of a particular
date. It presents the three elements of
financial position, namely assets,
liabilities and equity. Creditors,
Investors and other users analyze the
balance sheet to evaluate the liquidity,
solvency, financial structure and
capacity for adaptation of the business.
 Liquidity is the ability of the entity
to meet currently maturing obligation,
solvency is the availability of cash over
the longer term to meet maturing
obligations. Financial structure is the
source of financing for the assets of the
entity and capacity for adaptation is the
financial flexibility of the entity to use
its available cash unexpected
requirements and investment
opportunities
 Financial flexibility may be
accomplished by raising cash at short
notice through borrowing or issuance of
securities or by raising cash through
disposal of assets without disrupting
normal operations.
 Income statements (Exhibit 2) is a
formal statement showing the
performance of the entity for a given
period of time. The performance of the
entity is primarily measured in terms of
the level of income earned by the entity
through the effective and efficient
utilization of its resources.
 Information about the performance
of an entity, in particular its
profitability, is useful in predicting the
capacity of the entity to generate cash
flows from its existing resources. It is
also useful in forming judgment about
the effectiveness of employing
additional resources.
 Statement of changes in equity (Exhibit
3) had been divided into two parts by
Philippine Accounting Standard (PAS 8)
namely: 1) Change in Accounting Estimate
and 2) Change in accounting policy. The
effect of a change in accounting estimate
shall be recognized currently and
prospectively by including it in income or
loss of the period of change if the change
affects that period and the period of change
and future periods if the change affects both.
 The effect of change in accounting
policy shall be applied retrospectively,
means that any resulting adjustment
from the change in accounting policy
shall be reported as an adjustment to the
opening balance of retained earnings.
 Cash Flows Statements (Exhibit 4)
shows the actual cash flows generated
by the entity for the year. It usually
contained three main areas: 1) cash
flows from operation, 2) cash flows
from investments, and 3) cash flows
from financing transactions, such as
issuing stock and borrowing or repaying
debt. Information about cash flows is
useful in order to assess the
 Notes to the financial Statements
(Exhibit 5) composed of a summary report
of significant accounting policies and
explanatory notes. These are information
that does not fit into the body of the
statements in order to enhance the
understandability of the statements. They
provide additional information and help
clarify the items presented in the financial
statements. Notes provides a narrative
description or disaggregations of items
disclosed in the financial statements.
 In general the purpose of the notes to
financial statements is to provide the
necessary disclosures required by the
Philippine Financial reporting standards.
Specifically the notes to the financial
statements of an entity shall: 1) Present
information about the basis of preparations
of the financial statements and the specific
accounting policies selected and applied for
significant transactions and events,
 2) Disclose the information
required by Philippine Financial
Reporting Standards that is not
presented in the face of the financial
statements, 3) Provide additional
information which is not presented on
the face of the financial statements but
is relevant to an understanding of the
financial statements.
 The notes to financial statements
should be highly detailed, precise,
complete and easily understood by a
reader who was a reasonable
understanding of business affairs.
 In presenting the notes to the financial
statements it must be in order as follows: 1)
statement of compliance with GAAP, 2)
Summary of Significant accounting policies
applied, 3) Supporting information or
computation for line items presented and
aggregated in the financial Statements, 4)
Other disclosures, such as commitments,
contingent liabilities, and other financial and
non financial disclosures.
 Truly financial statements are helpful
tools in making sound decision making but
it has some limitations which includes: 1)
Variations in application of accounting
principles- although financial statements are
prepared in accordance with GAAP, the
application of these principles vary because
of the different methods that may be used in
income statements and in determining the
financial condition of a business,
 2) Financial statements are interim in
nature although they give an impression of
being accurate- statements are prepared only
for an accounting period and not for the
entire life of a business entity, 3) It does not
reflect changes in the purchasing power on
the monetary unit, 4) It does not contain all
the significant facts about a business-
recorded transactions, other information
such as the quality of organization, location,
and quality of demand for its products are
not included therein.
 Although financial statement is not
by no all means perfect, it is an
important source of information to
assess the entities activities.
Thank you!
References:
Roque, Rodelio, Managerial Accounting System, Roques Press Inc., Malabon
Metro Manila, 2000

Valix, Conrado T. and Jose Peralta, Financial Accounting, Volume 1, GIC

Enterprises & CO., Inc., Manila Philippines, 2006

Valix, Conrado T. and Jose Peralta, Financial Accounting, Volume 2, GIC

Enterprises & CO., Inc., Manila Philippines, 2006

Brigham, Eugene F. and Joel F. Houston, Fundamentals of Financial

Management, Tenth Edition, Thomson Learning, 2004

Scott, David F. Jr., John D. Martin, J. William Petty, Arthur J. Keown, Basic Financial
Management, Pearson Education Asia, Prentice Hall, Inc. Upper Saddle River, New
Jersey. 1996

Manual on the New Government Accounting Systems (NGAS), Volumes 1, Volume 2 and
Volume 3

Manual on Electronic New Government Accounting Systems (E-NGAS) Volume 1

Mejorada, Neneiot D., Business Finance, Goodwill Trading Company Inc.,, Makati City,
second edition, 2000