These are regarded as documents issued by the bank or a financial institution showing a detail analysis of how finances were being paid or withdrawn by individuals or corporate bodies. This is actually an overview of how money is being withdrawn or deposited in an account. It is a form of accountability for the institution to give full detail of money being transacted.
The elements relating to the measurement of the financial position are assets, liabilities and equities. Those relating to the measurement performance are income and expenditure. For an item to be reported in a balance sheet or income statement it must first of all meet all definitions of an element and then satisfy the criteria for recognition. The elements are discussed below: Asset, Liability and Equity
- An asset: is a resource controlled by the enterprise as a result of past events and from which future economic benefits are expected to flow to the enterprise.
- A liability: is a present obligation of the enterprise arising from past events, the settlements of which are expected to result in an outflow from the enterprise of resources embodying economic benefit.
- Equity: is the residual interest in the asset of the enterprise after deducting its liabilities.
Income is an increase in economic benefit during the accounting period in the form of inflows on enhancement of assets or decrease of liabilities that result in increase in equity, other than those relating to contributors from equity participants.
Expenses are decreased in economic benefit during the accounting period in the form of outflows or depletion of assets or incurring liabilities that result in decreasing in equity other than those relating to distribution of equity participant. However the various financial details that would be present in such report are: Income Statement; Balance Sheet; Operating Budget; Cash Flow Statement; and Ratio and Quality Indicator
Different industries have different names for some of the statements and add to or use a combination of the forms above.
Financial statements can be referred to as representation of the financial status of a company in a systematic documented form. Financial statements are required to be audited by authentic, efficient audit firms to avoid manipulation of numbers.
Statements are usually audited by the account firms after a thorough study of the company.
- Income Statement: Also called a profit and loss statement, simply shows income and expenses for a given time period. It gives you a picture of how you are making money or losing money over that time interval.
- Balance Sheet: Looks at the bigger picture of your business comparing all your assets to all your liabilities. It tells you if you closed the business and sold everything today, how much money would you have (or how much would you owe). The reason this is called a Balance Sheet is that Assets need to balance (equal) the Liabilities. The amount you would have if everything were liquidated today is called Net Worth and is listed under Liabilities. If you have more Liabilities than Assets, the Net Worth is negative.
Although some business owners want to see the income statement, ignoring the balance sheet, they need to use both together to see the total picture of their business.
- Operating budget: A budget projects sales and expenses for each month of a year to estimate the flow of cash. This helps to predict times of cash shortfalls and prepare for them. It also allows comparison between performance and projections over the year.
- Cash flow statement: This may be one of the most critical and least understood documents you can prepare. Some of the information that can be gained from this statement are:
- The operating activities generating cash. It is not critical if they are not, but it is a good sign if they are.
- Which working capital components have large uses of cash. What might cause this? This helps to understand how the cash got used.
- How much cash is provided for or used in investing activities? Compare this year’s capital expenditures to last year’s capital expenditure. Were there any significant increases or decreases? A reduction in capital expenditure may indicate a cash flow problem.
- What cash is provided by or used in financing activities? This will tell how much debt has been paid (or borrowed.) It will indicate if more debt is being used or if credit line is paid down in the past year. It will also tell if there were other unusual financing activities which were not highlighted elsewhere in the analysis.
- Ratios and Quality Indicators: Financial ratios look at relationships between various numbers generated by the financial statements. The ratios allow analysis on how different aspects of the business are functioning. If there are problems, they help in locating their causes. The ratios give a deeper insight into specific parts of the business to see what is working and what is not.
Other definitions of financing mechanisms are:
- Asset backed security: A term used to describe security collateralised by non-mortgage assets.
- Capital lease: A property transaction structured as a lease, but where substantially all benefits and burdens of ownership pass to the tenant. For accounting purposes, the tenant is treated as the owner of the property.
- Capital markets: The broad market used for raising capital and usually referring to private placements and public offerings.
- Cash-on-cash: A determination of a yield or rate of return based on actual cash flow rather than nominal principal or interest.
- Commercial paper: Unsecured corporate debt obligations that typically have a maturity of nine months or less.
- Credit enhancement: Insurance, cash reserve funds, guarantees, letters of credit or other mechanisms that enhance the probability of timely payment of principal and interest on a debt security, such as one backed by a pool of mortgage loans.
- Debenture: An unsecured debt instrument backed only by the general credit standing and earning capacity of its user.
- Eurocurrency deposits: Deposits made in a bank or bank branch that is not located in the country in whose currency the deposit is denominated. Dollars deposited in a London bank are Eurodollars; German marks deposited in a London bank are Euromarks.
- In the money: In connection with an option, swap or other derivative, a situation where the exercise price is favourable compared to the current market price.
- Interest rate cap: A transaction in which one party pays another party (in consideration for a premium payment) periodic amounts of the same currency based on the excess, if any, of a specified floating rate that is reset periodically over a specified rate.
- Interest rate collar: A combination of an Interest Rate Cap and an Interest Rate Floor. One party transfers to another party the risk of movements in a specified interest rate or price above an agreed maximum and below an agreed minimum.
- Interest rate floor: A transaction in which one party pays another party (in consideration for a premium payment) periodic amounts of the same currency based on the excess, if any, of a specified rate over a specified floating rate.
- Leveraged lease: A lease arrangement involving debt; often referred to as “off balance sheet financing” for the tenant, who does not have to carry the debt as an obligation on its books.
- Money market: A financial market that brings together investment capital and short-term money instruments (those maturing within a year), such as Treasury bills, notes, commercial paper, etc.
- Out of the money: A put option with a strike price that is below the current market price of the underlying security or a call option with a strike price that is above the current market price of the underlying security.
- Primary market: The market in which an original mortgage is created by extending funds directly to a borrower (versus the secondary market, where existing mortgages are bought and sold).
- Principal or principal transaction: Principal used as a verb refers to committing capital to a transaction, e.g., to Principal the Whole Loan by taking it into position. Used as a noun to describe a transaction in which capital is committed, e.g., to commit to fund a borrower in a Principal Transaction. Contrast with Best Efforts.
- RAP (regulatory accounting principles): The accounting principles required by regulation, which can vary from the generally accepted accounting principles promulgated by FASB.
- Ratings: Measures of creditworthiness assigned to securities by Rating Agencies. On fixed income securities, ratings are typically assigned in descending order as to quality as follows: Investment grade: Triple-A, Double-A, Single-A and Triple-B; Non-investment grade: Double-B and below
- REIT: Formerly, a real estate investment trust only/ but today it means an entity (either a corporation or a business trust) that invests principally in real estate and real estate interest/ which can, unlike an ordinary business corporation, by meeting certain requirements of the Internal Revenue Code (including distributing most of its earnings to its owners), avoid federal income taxation on its earning. The earnings are taxed to the owners of the REIT when the distributions are made to them.
- Secondary market: A market in which securities currently outstanding are bought and sold.
- Synthetic lease: A type of leveraged lease treated as a capital lease for tax purposes and a true lease for accounting purposes.
- True lease (operating lease): A transaction structured as a lease and treated as a lease on the books of the landlord and tenant. Rent payments are treated as an expense by the tenant.
- Underwriting: The analysis of a real estate loan for the purpose of determining the amount of risk involved in making the loan. Basically, it involves review of the borrower’s credit, value of the security property, and certain legal documents.
- Yield maintenance: Additional compensation paid by the borrower in conjunction with a prepayment of principal prior to scheduled maturity.
Reference:
Haynes & Boone, L.L.P. – Glossary of Real Estate Terms for 1995 and Beyond
