Meaning, Nature and Objectives of Financial

Statements
The financial statements of a company reflect a true picture of its
financial performances. They depict not only profits and losses, but
also assets and liabilities. It is only at the end of all accounting
processes that we can generate these statements. Let’s take a look at
the objectives of financial statements along with their features.

Meaning of Financial Statements

Financial statements are basically reports that depict financial and
accounting information relating to businesses. A company’s
management uses it to communicate with external stakeholders.
These include shareholders, tax authorities, regulatory bodies,
investors, creditors, etc.

These statements basically include the following reports:

1. Balance sheet
2. Profit and Loss statement
3. Statement of cash flow
4. Income sheet

Nature of Financial Statements

Financial statements are prepared using facts relating to events,
which are recorded chronologically. Thus, we have to first record all
these facts in monetary terms. Then, we have to process them using
all applicable rules and procedures. Finally, we can now use all this
data to generate financial statements.
Based on this understanding, the nature of financial statements
depends on the following points:

1. Recorded facts: We need to first record facts in monetary

form to create the statements. For this, we need to account for
figures of accounts like fixed assets, cash, trade receivables,
etc.
2. Accounting conventions: Accounting Standards prescribe
certain conventions applicable in the process of accounting.
We have to apply these conventions while preparing these
statements. For example, the valuation of inventory at
cost price or market price, depending on whichever is lower.
3. Postulates: Apart from conventions, even postulates play a
big role in the preparation of these statements. Postulates are
basically presumptions that we must make in accounting. For
example, the going concern postulate presumes a business
will exist for a long time. Hence, we have to treat assets on
a historical cost basis.
4. Personal judgments: Even personal opinions and judgments
play a big role in the preparation of these statements. Thus,
we have to rely on our own estimates while calculating things
like depreciation.
Now that we understand the meaning and nature of financial
statements, a glance at their objectives would be appreciable.

Objectives of Financial Statements

Stakeholders of a company heavily rely on financial statements to
understand its functioning. They portray the true state of affairs of the
company. Here are some objectives of financial statements:

 These statements show an accurate state of a

company’s economic assets and liabilities. External
 stakeholders like investors and authorities generally do not
possess this information otherwise.
 They help in predicting the extent of a company’s capacity to
earn profits. Shareholders and investors can use this data to
make their financial decisions.
 These statements depict the effectiveness of a company’s
management. How well a company is performing depends on
its profitability, which these statements show.
 They even help readers of these statements know
the accounting policies used in them. This helps in
understanding statements more comprehensively.
 These statements also provide information relating to the
company’s cash flows. Investors and creditors can use this
data to predict the company’s liquidity and cash
requirements.
 Finally, they explain the social impact of businesses. This is
because it shows how the company’s external factors affect
its functioning.

Uses of Financial Statements and their

Limitations
Financial statements of a company perform several important
functions. Firstly, they reflect the true state of affairs of the company.
They also help in taking important financial information.
From shareholders and investors to government and creditors, many
people use them. Let us understand some uses of financial
statements.

Uses of Financial Statements

1. Bridging the Gap in Management
Financial statements basically reflect a company’s financial
performances. They show profits and liabilities of the business. They
show how successful a company’s decisions have been. Since
shareholders have access to these statements, they can gauge their
company’s performance. This further helps in bridging the gap
between lapses in management and expectations of owners.

2. Availing Credit from Lenders

Every business needs to borrow funds for functioning. They have to

rely on lenders like banks and financial institutions for this purpose.
Financial statements play a huge role in this purpose. Since they
show a company’s liabilities, debts and profits, investors can use
them to make informed decisions.

3. Use for Investors

Investors also extensively use a company’s financial statements to

asses its finances. That helps them figure out how the company’s
solvency will be in the longer term. Thus, the better a company’s
financial position is, the greater the investment it will receive.

4. Use for Government

Governmental policies pertaining to corporates depend heavily

on financial statements. This is because these statements depict how
companies are functioning in general. The government can use this
information to decide taxation and regulatory policies.

5. Use for Stock Exchanges

Regulatory bodies like SEBI and stock exchanges like BSE and NSE

also use financial statements for many reasons. SEBI can assess a
company’s internal matters using them to ensure the protection of
investors. Even stock advisers require them to frame their quotes.
They are also a great source of information for stock traders and
investors.

6. Information on Investments

The shareholders of a company rely on these statements to

understand how their investments are paying off. If a company is
earning profits, they might decide to invest even more money. On the
contrary, stagnant profits or even losses will prompt them to pull out.
Despite all these uses of financial statements, there are some
limitations to them as well.

Limitations of Financial Statements

1. Not a reflection of the present Financial Position

Firstly, financial statements do not show how well a company is

performing in the present times. This is because they are made at the
end of every financial year. Hence, they only depict performances of
the previous twelve months. Even the value of assets and liabilities
change as money’s purchasing power fluctuates.

2. Possibility of Bias

Financial statements might not always be an accurate representation

of a company. This happens because they are based on several
personal judgments, conventions and internal policies of accountants.

3. The Absence of Vital Information

Accountants might skip a lot of vital information while making

financial statements. For example, the nature of agreements signed by
the company is important information, but it is never mentioned in
annual statements.
 4. Lack of Qualitative Information

Although companies portray their numbers and finances in annual

statements, a lot of qualitative data is skipped. Hence, details of the
company’s industrial relations, employees’ productivity, etc. are
generally missing from these statements.

5. Lack of Details

Financial statements might state the total value of assets, but they do
not disclose the nature of these assets. Similarly, a lot of minute
details like these do not find mention.

STAKEHOLDERS OF FINANCIAL
STATEMENTS

The main users of financial statements include investors and

shareholders, employees, customers, suppliers, lenders,
government, the general public, and management.

They are usually the owners of the company so they want to know how much financial
Investors benefit is the company giving them and how much the company is worth. They usually
and concern whether the benefit the company provides is worth the risk they are facing by
shareholders investing in the company

Their job security is 100% related to the company so they usually want to know how
the company is doing. If the company is making a good profit, they can expect secure
EMPLOYEES employment and the possible pay rise. Otherwise, if the company is doing badly, they
might face the risk of losing their job.

Customers The general customers who do not depend much on the company’s supplies might not
concern about the company’s performance.
 However, some customers are dependent much on the company’s supplies. Hence,
they usually want to know how the company is doing and whether the company can
continue to supply them the goods or materials into the future or not.

This might occur with specialized products; e.g. if a company makes phone screens, its
customers that manufacture the phones would require specialized phone screens from
it and they may not have many options to choose suppliers.

Suppliers usually provide the credit term for the goods or materials the company
purchases, hence they want to want to know if they will get paid after goods or
Suppliers material delivered to the company. They might decide to provide goods or materials to
the company only on cash purchase if the company is doing badly.

They are the people who provide loans to the company; hence they want to know if the
company can to pay back the loan so they can get their money back. They also want to
Lenders know if they should provide more loans to the company or not based on the
company’s position and performance.

Government might concern how it should set policies based on the economy and how
the company impacts the economy.

Another reason the government wants to know about how the company is doing is
Government
related to the tax that the company needs to pay. The tax payable by the company
itself is based on the company’s income statement which tax authorities usually use as
the basis of their assessment.

The general public might concern about many things related to the company such as
how it impacts the economy, the environment, the community, the wellbeing of the
General society and the jobs that the company provides to the local community, etc. Some
public companies also support the community by providing the CSR (Corporate Social
Responsibility) programs.

Management Management would concern about the company’s performance and its position in the
market. In this case, financial statements will be useful in showing how the company is
doing.
However, management mostly uses the monthly management accounts as their main
sources to make decision in the company. This is due to monthly management
accounts provide them more detail information such as the detail report of the
company’s profitability, liquidity and efficiency.