Under free enterprise the sole purpose of any business is to create wealth for the owner or owners by way of annual profits and by the growth of assets over time. The beauty of free enterprise is that to accomplish this it happens that businesses will provide products and services that are needed and will create jobs and quite often will be a source of support and good works within the surrounding community.
Profit is measured in terms of net income, the amount of money available to the owner or owners after revenues for the year (or quarter) are properly matched and all expensed have been deducted. Matching recognizes that how well the owner did (profit) for a certain time period isn’t literally the amount of money received versus the amount of money spent during that time period. To be properly timed cash disbursements and receipts must flow through the balance sheet accounts and then be matched, expenses with revenues, period by period. This is the measure of net income.
The financial picture, including profitability and asset growth, for any given time period is reflected in the balance sheet along with the statements of net income and retained earnings and of cash flows. The four are mutually dependent and equally important, and it is not wise to fixate on measurements and analysis related to one of the statements, say net income, without full consideration of the other three.
Reading Financial Statements In The Proper Context. When working with financial statements for your company (or any company) you will need a frame of reference to evaluate what you see. Is your company just getting started? Has it been around a long time? These questions make all the difference in what you should expect to see. You will find it helpful to define your business in terms of one of the three following contexts before drawing conclusions as to how well the business is doing.
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