Why does your company need reliable financial reporting?
Every company needs reliable financial reporting in support of the company mission, but it is often an overlooked or neglected area of the company, at times seen as a necessary, yet unwelcome, expense. However, companies with high quality financial reporting, including a strong financial management team, tend to thrive in the long-term and make better business decision.
Preparing precise financial statements is critical to all stakeholders, since business owners, operators, creditors, bankers and regulators all rely upon accurate and timely financial reporting to determine the financial stability of the business and the strength and reliability of its operating results. Financial statement preparers are the linchpin of high quality, reliable and timely financial reporting and often have the difficult task to manage the challenges regarding transactions, judgements and risk areas.
Who is responsible for preparing reliable financial statements?
Maintaining accurate, complete and timely financial statements should be a top priority of the CEO and other senior leadership to support the company’s decision-making process. Far too often a business uses untimely and unreliable financial data to perform fundamental analysis, and this failure is exacerbated when management teams do not fully understand how to interpret the financial results. This is particularly prevalent in small to mid-size private businesses, where there may be a lack of understanding concerning how financial reports, including income statements, balance sheets and cash flow statements, reflect the health of the company. Unaddressed problems, which could have been identified by sound financial reporting, can lead to the distress or failure of an otherwise viable company.
What happens when financial statements are not properly prepared?
Numerous risks can occur when a company lacks reliable financial statements that prepared on a regular basis using a systematic approach. These can include the following:
- Poor Decision-Making – Incorrect core information that has not been properly reconciled or analyzed can lead to poor decisions made by the operating and financial management.
- Lack of Confidence – Inaccurate financial reporting can erode the confidence of investors, bankers and suppliers, making it potentially more difficult to obtain credit from vendors or needed funding from lenders and investors. Vendors may also charge higher prices for critical materials or supplies due to perceived future operating risks.
- Compliance Failures – Lack of timely and accurate financial reporting can lead to missed compliance deadlines for reporting to investors, regulatory agencies and financial institutions. Such delays can be perceived to reflect fundamental issues with business internal controls – whether such issues exist at all.
- Fraud or Misappropriation – Internal fraud often results from a combination of inadequate review of financial key performance metrics and insufficient discipline around internal financial controls, leaving the company exposed. This is particularly prevalent in smaller companies where it is difficult to ensure the proper division of duties.
- Valuation Issues – Historical presentation of the company’s financial performance is a key indicator of future performance. Consistently prepared financials that demonstrate positive trends can result in a significant premium on a company’s valuation. Conversely, when the financial history reflects many anomalies and variability that do not necessarily match the operations tempo of the business, but instead are the result of inaccurate and inconsistent reporting, then the potential value of the business can be negatively affected and take away from a potential buyer’s confidence.
- External Review & Audit Issues – Having a consistent and timely reporting package that is substantially supported enables auditors and other external professionals to perform their reviews with less disruption to the business and at a far lower cost. Not having reliable financial reports and systems can lead to significant delays, increased costs and even fines or penalties from external auditors and professionals performing reviews on the company.
How do you prepare reliable financial reports?
The reliability principle is the concept of only recording those transactions in the accounting system that you can verify with objective evidence. Examples of objective evidence are sales orders, purchase receipts, invoices, cancelled checks, bank statements, promissory notes and appraisal reports. To prepare reliable financial statements, you need policies and procedures that define how these transactions are recorded in the financial system of record.
Depending on the size of the company and the volume of transactions, these financial reporting systems range from simple accounting software packages with basic recording capability to sophisticated Enterprise Resource Planning (ERP) systems, which manage day-to-day business activities such as accounting, human resources, payroll, procurement, project management, risk management, compliance and supply chain operations.
Regardless of company size, financial information that is timely, accurate, reliable and usable is required for decision-making and answer questions from the wide variety of internal and external stakeholders in the company. Financial management, especially the CFO, must work with these stakeholders to determine what each constituency needs, making sure those needs are met with accurate and usable reports.
The preparers of financial reports must also ensure that high-quality, reliable reports also meet the objectives and principles of Generally Accepted Accounting Principles (GAAP). Preparing financial statements on what is known as a “cash basis” is a tax concept that, while meeting the standards for preparing tax returns, are inadequate for producing the information needed to run a growing company of any size. The need for properly prepared GAAP financials is highlighted by the investment sector’s use of what are known as non-GAAP measures, which can be significantly misstated if the base financials are not prepared according to GAAP.
What makes a good financial reporting package?
A financial package should tell the story of the company from a financial and operating perspective in a way that is useful to all stakeholders, serving as the “one source of truth.” Too many times, a company will attempt to prepare different reporting packages for management, the Board, bankers and sureties, when a single package can suffice. Once the core package is developed, it can be separated to provide the required level of information to different stakeholders.
The following are some basic criteria about what should be included in the preparation of a robust financial reporting package:
- Key Performance Indicators (KPIs) – KPIs are a set of quantifiable measurements used to gauge a company’s overall long-term performance. KPIs capture information regarding profitability, liquidity, efficiency and valuation, which help to guide decisions about a company’s strategic, financial and operational path. There are many KPIs relevant to different businesses, so carefully determining which ones are relevant to your business is critical.
- Trended Financial Statements – Financial statements include the income statement, balance sheet and cash flow statements and should include enough detail for various users to review at the level for which they are responsible. For example, the CEO and CFO may simply look at the consolidated statements to determine whether they met expected performance levels by comparison to the budget. The Controller may delve a little deeper to see that the individual division statements are correctly prepared and that all reconciliations are complete and accurate. Regardless of the level of review, “trended” financials that reflect not only the current month’s performance, but also some of the previous months, are critical for proper analysis. Typically, a trended financial statement will reflect the current month and the previous 11 months, also know as trailing 12-month reporting.
- Balance Sheet Reconciliations – All balance sheet accounts should be properly reconciled. Reconciliations are not simply roll-forwards but must include a description of what actually is included in the account at the transaction level. Movement in balance sheet accounts have a significant impact on the income statement and cash flow statement, so identifying balance sheet anomalies on a timely basis ensures that any significant movement is understood, and misstatements can be quickly rectified.
Should you outsource to prepare reliable financials?
Most companies use an accounting software to produce a standard set of financial statements, along with someone (or a team of people) in the accounting department to oversee that task. For some, this approach works well; but for many others, they could experience a myriad of issues with completing this reporting task with accuracy and reliability. Sometimes they simply need more support as they experience growth. If you answer “yes” to any of the following questions, chances are you are ready to outsource some or all the activities related to your financial reporting.
- Do I lack confidence in my finance/accounting department?
- Does my finance team struggle to keep pace with the growth of the company?
- Do I need help with the increasing complexity of my business?
- Am I preparing my company for sale?
- Do we need improvement to our overall business processes?
- Am I ready to put the company in a better position for growth?
- Does the company need a valuation?
If you choose to outsource financial reporting activities, it is important to understand what aspects need improvement within your existing environment. This should be documented and shared with your advisor to ensure that your needs are clear. Many times, the outsourcing option allows you to insert highly qualified resources that can help design and implement improvements in a manner that either existing or new staff can then take forward at a much lower cost. Over time, this can be a much more effective approach than attempting improvements through in-house means using a trial-and-error approach.
How can Windham Brannon can help you with your financial reporting?
Windham Brannon has a dedicated team of experienced professionals with complementary skillsets to evaluate, design and implement improvements to deliver reliable financials with confidence. Our professionals have significant hands-on experience in many industries that allows us to make the recommendations needed to help you and your business grow organically or through acquisition.
For more information, reach out to your Windham Brannon advisor, or contact Laura Berry.
