Financial Statements

A standard set of financial statements includes the balance sheet, income statement, statement of cash flows, and associated footnotes. These statements can be issued on a daily, monthly, quarterly, or annual basis. Additional statements may include, for example, the analysis of stockholders equity section. If accounting is the basic language of business, then financial statements are the fundamental scorecards that report organizational performance. Every paradigm has its own particular language and set of rules, especially the medical field, and to play in this arena health care professionals need to understand both. Do individuals need to understand detailed accounting constructs such as debits or credits? No, but they do need to understand how financial statements are developed, how the income statement, balance sheet, and statement of cash flows articulate with one another and some of the underlying assumptions that are used to develop the financial statements.

Accounting is not an exact science. Although financial statements are produced under the authoritative guidelines of generally accepted accounting procedures (GAAPs), health care professionals should understand some fundamental concepts and assumptions about financial statements. First, almost all the numbers in financial statements are based on managerial estimates. Yes, that is right. Probably the only really firm number on the financial statements is cash. It is like a group of people looking at Sears Tower, asking, How tall is this building? How many different guesses would you receive? On average the group would probably be pretty close but not exact. To become more precise, the group would have to exert more time and energy. The same is true of financial statements. There is always a tradeoff between more accurate information and the cost to produce such information.

Another assumption is that GAAP financial statements are based on materiality thresholds. If you examine an audit opinion, you will see that the auditors usually say something like the following: “In our opinion, the financial[Page 213] statements referred to above present fairly, in all material respects, the consolidated financial position of company and subsidiaries at December 31, 2008, and 2007, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2008, in conformity with generally accepted accounting principles.” So are numbers included in financial statements 100% accurate? No, they are materially correct.

GAAP financial statements are also prepared under the principle of conservatism. For example, organizations cannot include the intellectual capital of employees on their balance sheets. Organizations also cannot show, for the most part, the appreciated market value of their assets. Why is this? Well, how much value can one place on employee knowledge? Would an independent third party ascertain the identical value you placed on the asset? Thus intangible assets do not appear on financial statements unless someone (or some company) buys the assets in an actual transaction. The same is true for appreciating assets. Because market values are difficult to determine, accountants usually use historical cost transactions to develop the financial statements.

Although many other accounting assumptions influence the way financial statements are developed, it is important to understand that although accounting financial statements provide valuable information, health care professionals need to be aware of the assumptions used to prepare them. Accounting financial statements still provide valuable data that are reliable, comparable, and consistent. In addition, financial data must be timely to provide people with the ability to assess future cash flows and assist in decision making (an information role) and to monitor debt covenants and bonus arrangements (a stewardship role).

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