11th May, 2016
Your annual financial statements have their uses, but if you rely solely on them you are only seeing part of the picture.
Here are the reasons why — and what you need to do to see the whole picture.
Your annual financials show you history which is at the very least over a year old — and for some nearly two years old. In these changing times, that is just too long ago to be able to act upon meaningfully.
To find out what’s happening in your business right now, you need to prepare regular interim or periodic accounts. These days, low-cost accounting software with live bank feeds makes preparing interim accounts a piece of cake.
Again, with online accounting software it’s so easy to prepare a budgeted profit and loss account, which you can then use as the basis for your cash-flow forecast by adding GST and moving the income and outgoings to the months they will be received or paid.
Many business owners put off the preparation of the annual financial statements as long as possible — some because they are badly organised — which means getting the information together is a real time-consuming chore.
Others put it off because they don’t see the value and therefore don’t want to spend the money.
However, your annual financial statements should be prepared as soon as possible at year-end, especially if the annual financial statements are the only financial reporting available.
The fix: Plan in advance so you can easily identify accounts receivable and payable, work in progress and inventory. Insist that your accountant makes an early start.
It’s common for business owners to say that the annual financials must be wrong because they show a healthy profit despite the absence of any available cash in the bank. This is because the cash has been spent, whether on loan repayments, assets or drawings, none of which are directly taken into account when preparing the profit and loss account.
Yes, to the trained eye all these things are obvious, but for business owners unfamiliar with accounting or bookkeeping, it’s a lot harder to see.
The fix: What you need is for the annual financial statements to include a cash flow statement, even if this costs you slightly more. This will show you how the money was generated and how in turn it was spent.
Many accountants (including those who set accounting standards and tell the rest of us what to do) think that to get a better understanding of the accounts you need to include loads of detail and notes.
For accountants this may be the case, but for the great majority of small business owners, the more detail and the more notes that are provided, the more they are confused. Cumulatively the sheer amount of information can be overwhelming for business owners because it becomes difficult to identify the relevant numbers.
The fix: Don’t be shy about asking questions. If there’s information in your accounts that you don’t understand. Persist in trying to understand, even if you have to get the explanation a couple of times. A good accountant who cares about your business won’t mind spending the extra minutes.
This may seem an odd comment given my point about the accounts being too complex, but what I really mean is to be clear about which numbers you are really looking for.
Seek the numbers that will really improve your business and help you avoid the mistakes of the past.
For example, if you look at your annual financials and your gross profit is reduced — do the numbers tell you why this is? Is it because you reduced your prices, you lost customers or you gained customers who are less profitable? Did your labour productivity fall or did your suppliers increase their prices which you didn’t pass on?
The fix: To make better business decisions and maintain profitability you need to analyse your performance in detail and monitor your key performance indicators, neither of which would be achieved by preparing your annual financials.
In short, your annual financial statements should be the starting point for analysing and improving your business — not the end of the line!