How to read your Financial Statements
Essentially, the financial statements tell a story about money. They show where an entity’s money came from and where it went over a specific time period, which is usually over a year. They also show where the money is at the end of that period. In NZ, the standard financial year starts 1st April, and ends 31 March the following year. We’ll have a look at three main statements:
Statement of Financial Performance. Sometimes referred to as a Statement of Profit & Loss (P&L) or Income Statement:
The Statement of Financial Performance shows your income, costs & profit earned for a financial year.
Up the top of the Statement of Financial Performance, it shows the total revenue earned from all sources within this period which we call “gross income”. Following below, it shows all of the associated costs that the entity incurred to earn that revenue. If the total revenue exceeds the total cost, there will be a net profit (which is what you pay tax on), and if the costs exceed revenue, there will be a net loss. Personal or non business related transactions are kept off this report, and are shown on a different statement.
Statement of Financial Position or Balance Sheet
The balance sheet shows snapshot of entity’s assets, liabilities and equity on the last day of the period end. In NZ, the standard “balance date” is 31 March.
Equity = Assets less Liabilities
Assets are things that are owned that have value, including physical assets, inventory, money in bank accounts, accounts receivable (debtors), livestock, etc.
Liabilities are what is owed to others at that specific point in time. These could be bank loans, accounts payable (creditors), tax obligations etc.
Equity is the money that would be left over if all of the assets were sold and the liabilities were paid off. For example, if a company owned a building worth $500,000 (asset), and had a bank loan of $100,000 (liability), the company’s equity would be $400,000.
The Deprecation Schedule or Asset Schedule
The word depreciation means ‘a reduction in the value of an asset over time, due in particular to wear and tear’.
The depreciation schedule shows a list of all the fixed assets owned (plant & equipment, motor vehicles, land, buildings etc).
The depreciation schedule records fixed assets at Cost less Depreciation which equals Book Value.
Assets devalue over time, and each asset has a different rate of how quickly they devalue. The IRD has a list of different depreciation rates for all types of assets that accountants use to depreciate assets. For example, a phone has a high depreciation rate; a 67% reduction in its worth over a year, compared to a bulldozer which is not expected to devalue as fast, with only a 13% depreciation rate per year. The reduction in value is shown as ‘depreciation expense’ in the P&L, and reduces net income.