The main objective is to provide financial information about the reporting entity to users of the financial statements that is useful in making decisions about providing resources to the entity, as well as other financial decisions. In order to provide useful information to the stakeholders of a business the financial statements must fairly present the position and performance of that business (or show a ‘true and fair view’)
The 4 main users (stakeholders) of financial statements are commonly grouped as follows:
- The public may wish to assess the effect of the company on the economy, local environment and local community. Companies may contribute to their local economy and community through providing employment and patronising local suppliers. Some companies also run corporate responsibility programmes through which they support the environment, economy and community by, for example supporting recycling schemes.
- Investors and potential investors are interested in their potential profits and the security of their investment. Future profits may be estimated from the target company’s past performance as shown in the income statement. The security of their investment will be revealed by the financial strength and solvency of the company as shown in the statement of financial position. The largest and most sophisticated groups of investors are the institutional investors, such as pension funds and unit trusts.
- Lenders need to know if they will be repaid. This will depend on the solvency of the company, which should be revealed by the statement of financial position. Longterm loans may also be backed by ‘security’ given by the business over specific assets. The value of these assets will be indicated in the statement of financial position.
- Employees and trade union representatives need to know if an employer can offer secure employment and possible pay rises. They will also have a keen interest in the salaries and benefits enjoyed by senior management. Information about divisional profitability will also be useful if a part of the business is threatened with closure.
- Government agencies need to know how the economy is performing in order to plan financial and industrial policies. The tax authorities also use financial statements as a basis for assessing the amount of tax payable by a business.
- Suppliers need to know if they will be paid. New suppliers may also require reassurance about the financial health of a business before agreeing to supply goods.
- Customers need to know that a company can continue to supply them into the future. This is especially true if the customer is dependent on a company for specialised supplies.
Remember: management and competitors would also use the financial statements of a business to make economic decisions. Management, however, would predominantly use monthly management accounts as their main source of financial information. It is also unlikely that a business would prepare financial statements for the purpose of aiding competitors!