It is clear that the objective of accounting is to provide information to users for decision-making. But, who exactly are these "users of financial statements"? And what information do they actually need? Let's enumerate.
Stockholders of corporations need financial information to help them make decisions on what to do with their investments (shares of stock), i.e. hold, sell, or buy more.
Prospective investors need information to assess the company's potential for success and profitability. In the same way, small business owners need financial information to determine if the business is profitable and whether to continue, improve or drop it.
In small businesses, management may include the owners. In huge organizations, however, management is usually made up of hired professionals who are entrusted with the responsibility of operating the business or a part of the business. They act as agents of the owners.
The managers, whether owners or hired, regularly face economic decisions – How much supplies will we purchase? Do we have enough cash? How much did we make last year? Did we meet our targets? All those, and many other questions and business decisions, require analysis of accounting information.
Lenders of funds such as banks, financial institutions, and bondholders, are interested in the company’s ability to pay liabilities upon maturity (solvency).
Like lenders, trade creditors or suppliers are interested in the company’s ability to pay obligations when they become due. They are nonetheless especially interested in the company's liquidity – its ability to pay short-term obligations.
Governing bodies of the state, especially the tax authorities, are interested in an entity's financial information for taxation and regulatory purposes. Taxes are computed based on the results of operations and other tax bases. In general, the state would like to know how much the taxpayer makes to determine the tax due thereon.
Employees are interested in the company’s profitability and stability. They are after the ability of the company to pay salaries and provide employee benefits. They may also be interested in its financial position and performance to assess company expansion possibilities and career development opportunities.
When there is a long-term involvement or contract between the company and its customers, the customers become interested in the company’s ability to continue its existence and maintain stability of operations. This need is also heightened in cases where the customers depend upon the entity.
For example, a distributor (reseller), the customer in this case, is dependent upon the manufacturing company from which it purchases the items it resells.
Anyone outside the company such as researchers, students, analysts and others are interested in the financial statements of a company for some valid reason.
The users may be classified into internal and external users.
Internal users refer to managers who use accounting information in making decisions related to the company's operations.
External users, on the other hand, are not involved in the operations of the company but hold some financial interest. The external users may be classified further into users with direct financial interest – owners, investors, creditors; and users with indirect financial interest – government, employees, customers and the others.
I'll leave you a question to help you better appreciate the purpose of and need for accounting.
Assume you are an investor and are looking at two companies – Company A and Company B. Suppose you have $50,000 and are planning to invest your money to receive annual returns from share in profits. In which company would you invest in – Company A or B? Can't pick just yet, right? You'll need financial information.
In accounting, users refer to parties that are interested in information about an entity's financial information. They include: