Why is it important to have a strong understanding of interpreting financial statements?

Financial statements are communication tools which represents the financial activities or the financial standing of a commercial entity or a person. The statements are written from an accounting point of it and can be can be understood by a person who has basic knowledge in business and economics. Many people who did not major in economics, accounting and business studies do not have the knowledge to interpret and analyze financial statements. Having the knowledge to interpret financial statements is beneficial in various ways as discussed in this paper.

Personal financial statements are used by people to determine their financial position. One of the basic personal financial statements is a budget. A budget allows a person to live within their means by balancing income and expenditures including savings. Financial statements are used by banks when processing personal loans and by the government for taxation purposes. Having the knowledge to interpret financial statements correctly allows a person to take advantage of tax benefits and to apply for personal loans that the person can manage to pay back. This is because personal financial statements can be used to accurately determine the financial position of a person.

Corporate financial statements also give the financial position of a company. The ability to correctly interpret corporate financial statements can benefit a person either as a worker or as an investor. As a worker, the knowledge is useful when bargaining for salary and promotion when compensation is based on performance such as sales level. Investors make decisions on which investments to make based on financial statements. The knowledge of financial statements enables a person to make good investments decisions in a timely manner increasing financial returns. The ability to interpret financial statements allows a person to plan into the future and take care of dependents. For instance, financially literate people are able to write wills that leave adequate financial support for their dependents and make provisions for their retirement. Financial literacy allows people to become responsible citizens because they are able to understand and offer critique to public finance.

The ability to read, understand and analyze financial statements is an important skill that all people should develop. Such knowledge enables a person to take control of their finance through budgeting, prudent investments, making sustainable borrowings, and providing for dependents. In addition, the skill enables citizens to provide checks for public finance and reduce corruption in the community.