Financial accounting tools represent the statements, ratios or other equations accountants use to prepare and evaluate financial information. Financial statements include the balance sheet, statement of cash flows and income statement, each providing specific information. Ratios and equations are mathematical tools accountants use to break down the information contained in the financial statements. Ratios also provide the ability for benchmarking, which is the comparison of two or more companies’ financial statements.
The balance sheet is quickly becoming one of the most important financial accounting tools. This statement provides information on the economic wealth generated by the company, which is the real value of the company. The top half of the statement lists all assets owned by the company; the bottom section includes all money owed to investors, creditors or shareholders. The difference between the two is either the positive or negative net worth of the company.
The statement of cash flows lists all cash movements from the various operations within the firm. Accountants track this information so owners and managers can determine if the company is unable to generate enough capital from selling goods or services. If the statement of cash flows indicates continuous negative cash flows, the company will need to find alternate sources of capital. The income statement lists all income and expenses earned or spent by the company, respectively. Among the different statements used as financial accounting tools, the income statement represents an accounting figure listed as net income. This figure does not represent the economic wealth of the company, which is why the balance sheet is becoming more important for financial reviews.
Ratios and equations are very common financial accounting tools. Ratios allow accountants to determine the long-term viability of the company, amount of debt the company uses to purchase assets, gross profit percentages for goods and services and the ability of the company to repay creditors during periods of low sales or cash flow. Accountants often prepare a list of ratios requested by management. The ratios provide a deeper analysis, rather than listing numbers on a statement. For example, the cash account may increase for a specific accounting period. This does not mean much, however, if the company takes out more loans to pay for operations. Using financial ratios for comparison, the accountant can explain whether the increase actually benefits the company.