Per generally accepted accounting principles (GAAP), companies are responsible for providing reports on their cash flows, profit-making operations, and overall financial conditions. The following three major financial statements are required under GAAP:
- The income statement
- The balance sheet
- The cash flow statement.
The income statement recaps the revenue earned by a company during the reporting period, along with any corresponding expenses. This includes revenue from operating and non-operating activities, allowing auditors, market analysts, investors, lenders, regulators, and any other stakeholders, to evaluate the company's financial cycle and results. It is sometimes referred to as the profit and loss (P&L) statement.
Key Takeaways
- Per generally accepted accounting principles (GAAP), companies are responsible for providing reports on their cash flows, profit-making operations, and overall financial conditions.
- The following three major financial statements are required under GAAP: the income statement, the balance sheet, and the cash flow statement.
- A company's balance sheet summarizes assets and sets them equal to liabilities and shareholder's equity. These three categories highlight what a company owns and how it finances its operations.
Balance Sheet and Cash Flow
A company's balance sheet summarizes assets and sets them equal to liabilities and shareholder's equity. These three categories highlight what a company owns and how it finances its operations. The balance sheet is an open snapshot of a company's assets and liabilities at a specific point in time.
GAAP also requires a cash flow statement, which acts as a record of cash as it enters and leaves the company. The cash flow statement is crucial because the income statement and balance sheet are constructed using the accrual basis of accounting, which largely ignores real cash flow. Investors and lenders can see how effectively a company maintains liquidity, makes investments, and collects its receivables.
The Securities and Exchange Commission
In the United States, publicly traded companies are regulated by the Securities and Exchange Commission (SEC). Since its inception, the SEC has delegated its accounting and financial reporting standards responsibilities to private-sector groups. The Financial Accounting Standards Board (FASB) is responsible for generating rulings under GAAP, and the SEC enforces those standards on the financial community.
Origins of GAAP
GAAP was ultimately created in response to the Stock Market Crash of 1929 and the subsequent Great Depression. Many economists believe that these historical events were at least partially the result of questionable reporting practices by some publicly-traded companies.
After the federal government started consulting with accounting groups to develop standards and practices for accurate and consistent financial reporting mechanisms GAAP began emerging with legislative measures like theSecurities Act of 1933and the Securities Exchange Act of 1934.
