The importance of business reporting is twofold:
- To have retrospective visibility over past performance (that is, to analyse performance data and use it as a tool to course correct for the future).
- To have visibility into the future (knowing what is likely to happen around the corner)
The three key financial statements
At the very least you need to have regular access to three key financial statements. They are:
- The Balance Sheet
- The Cash Flow Statement
- The Profit and Loss Account
Understanding your Numbers
To interpret and understand the numbers contained in your financial statements, you can use financial ratios. The numbers for ratios are taken from the Profit and Loss Account and the Balance Sheet, but not the Cash Flow Statement.
They measure performance in percentage terms rather than raw numbers. This means you can compare your company’s performance with other businesses in your industry, with your previous results and with your projections. They can help you to answer questions such as are your operating expenses too high, is the business carrying excess debt or inventory/stock, and are your customers paying according to terms? Banks and other lenders will want to see your ratios to see how your business performs in comparison with other businesses they’re lending to and with the standards they’ve set for lending.
The four categories of ratios
- Liquidity ratios (which reveal your company’s ability to meet its financial obligations including debt, payroll, taxes, payments to vendors/suppliers)
- Profitability ratios (which help you evaluate your company’s ability to generate profits)
- Leverage ratios (which shows you how – and how extensively—your business is using debt)
- Efficiency ratios (which reveal how efficiently your company is managing certain key balance sheet assets and liabilities).
Which financial ratios should you track?
Some ratios will be more applicable to certain industries and businesses than others. If you provide a service rather than sell products, then ratios like return on assets and inventory turnover are unlikely to be relevant to your company whereas the receivables turnover is critical to your business operations. It’s best to choose the five most relevant ratios to your business and track those as part of your monthly management operating plan. It’s crucial to look at your ratios on a monthly basis so that you can spot trends as they develop.
The benefits of having regular access to high-quality financial management reports are far-reaching. Good reports reveal the efficiency (or otherwise) of the constituent parts of the business. They enable you to deal with potential threats and take advantage of opportunities to grow your business. The compound effect of making regular, quick and high-quality decisions based on a strong set of data and reports cannot be overestimated.
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