With the End of Financial Year (EOFY) fast approaching, SMEs are now starting to prepare financial reports. But more than a mandatory report to be submitted to the taxation office, financial reports play a critical role in building a successful business. Financial reporting and analysis offer insights into financial data that will help you make better business decisions, eventually improving the business’s financial performance.
We’re providing you with a comprehensive guide to help you understand how crucial financial reporting and analysis are to your business. In this article, we will explore the importance of financial reports and how they benefit different business stakeholders.
What is Financial Reporting?
Financial reporting is a standard accounting practice that documents the company’s financial data. This data helps companies understand their financial health and performance in a specific period. Based on the report, they can make informed business decisions.
Financial reports are useful for businesses and for, investors and banks. Based on these reports, an investor or a bank invests or gives loans to a company. Suppose you plan to expand your business, and a bank will grant a loan based on your company’s financial report. If the company is financially healthy, then you can expect a loan for your business expansion.
How are financial reports generated?
The use of spreadsheets for financial reporting is widespread across businesses worldwide. However, spreadsheets can fall short of capabilities to generate efficient financial reports as a business grows and more users, data, and formulas are added to the reports. Financial reporting has become more efficient and sophisticated thanks to digital technology.
More and more businesses are now adopting the use of ERP platforms to streamline their accounting, automatically generate financial reports and even provide data-backed insights. Integration with other solutions, such as Accounts Receivable automation, further improves accounting software’s capabilities to create fast and accurate financial reports.
Types of financial reporting
1. Income Statement
An income statement or profit and loss statement essentially show a business’s loss or profit during a specific period. It’s a summary of key sales activities, costs of production, and any other operational expenses within the accounting period. This statement aims to understand if the business is making any money or suffering losses.
2. Balance Sheet
A balance sheet provides an overview of a company’s overall assets, liabilities, and stakeholders’ equity. Broadly, the balance sheet reflects the financial health of a company. By analyzing this sheet, the company’s management can see where the business is heading.
The balance sheet is not only useful for the management but also for investors. By assessing the balance sheet, investors can form an opinion on whether to invest in a specific company or not. The sheet has all the vital information like the company’s finances and other data to help them make an informed investment decision.
3. Cash Flow Statement (CFS)
A Cash Flow Statement (CFS) documents the amount of cash coming into the company and the cash flowing out of the company during a specific period. The statement includes elements of both the income statement and balance sheet. CFS is critical because it tells the business owner or management about the company’s cash position. Businesses need sufficient cash all the time. They require cash to pay expenses, loans, taxes, and equity purchases. A cash flow report tells if the company has sufficient cash for carrying out such activities.
Now that we have seen what financial reporting is let us explore some benefits of financial reporting.
Benefits of Financial Reporting
1. Helps In Effective Debt Management
The poor management of debts can be disastrous for any company, whether small or big. When it comes to debt management, several financial reporting platforms are available that will help you track your company’s current assets, current liabilities, accounts receivables, and liquidity. AR automation software provides data on your customer’s credit scores that can help you gauge how to manage debts effectively.
2. Trend identification
Financial reporting helps identify seasonal trends or cycles that can help you plan ahead. Understanding trends and the historical context of numbers empowers you to improve your business’ performance effectively.
3. Real-time insights
Updated financial reporting provides you with real-time insights into your financial health. Thanks to advancements in technology, access to real-time data are possible and provides you with the ability to take action to either correct issues or take advantage of opportunities. Cash Flow statements, for instance, provide you with information about the company’s availability of funds which will help you ensure you always have money to cover payments.
4. Liabilities tracking
Managing liabilities is paramount for any business, especially if the business is looking to apply for a bank loan for expansion. Defaulting loan payments is seen as a red flag by banks that can reject the application for a loan. A financial reporting template allows for exploring current liabilities. Based on the data, the company can determine if it is required to reduce liabilities before applying for a bank loan.
Complying with the rules is essential for the survival of any business. Maintaining updated financial reports help your business comply with the regulations set by the governing body.
6. Cash Flow
Management of cash flow is essential to any business. If you face challenges with the cash flow, financial reporting metrics will let you know the root cause of the problem.
With benefits covered, let us get to the crux of the topic – The Importance Of Financial Reporting.
Why Is Financial Reporting Important?
Financial reporting offers a wealth of insight into financial data that helps make better business decisions. Apart from this, there are many other reasons. Let us look at each one of them in detail.
1. Taxation purposes
The biggest reason for performing financial reporting is taxes. For instance, you need to lodge EOFY tax returns and other financial reports in Australia. These reports are mandatory by law to ensure that a company pays its fair share of taxes. Before filing taxes, an audit is also necessary, and accounting and auditing firms review financial reports to ensure accuracy and credibility.
2. For Attracting Investors, Bank Loans
Financial reports are critical for attracting investments. If you are looking to expand your business, the investor will surely ask for the company’s financial report. The investors will examine the report to see how the company is performing. Is it earning profits? Or is it at a loss? How is the company managing its cash flow? These are some key indicators that investors examine.
If your company’s financial health is not optimal, no matter how excellent your product/service is, most investors will decline to invest in your company. Similarly, when you apply for a business loan from a bank, the bank examines your company’s financial report before lending the loan. Based on the information gathered from the report, banks can determine if the company can repay the loan.
3. For Better Business Decision-Making
A financial report is one of the essential tools for making better business decisions. For instance, if you want to open a new branch, a financial report can help you gain insights. You can assess crucial information like the company’s cash flow to identify if you have enough capital to expand and maintain solvent for daily operations. However, it is necessary to have detailed financial reports based on accurate data to make such decisions.
In a survey conducted by Deloitte, most respondents identified an insufficient level of details as the main issue in financial reporting, as this can affect financial performance assessments. The advent of modern accounting software has mitigated inaccuracies from old financial reporting techniques, leveraging data and automation to reduce errors in financial reports. These software solutions often have an intuitive dashboard that provides businesses with critical information in an easy-to-understand format to help them make better financial decisions.
4. Builds Trust With Stakeholders
Financial reports help in fostering trust with stakeholders. Accurate and transparent financial reports – backed by data – help convince stakeholders about your business’ performance. Leveraging technology helps build detailed, accurate reports that provide your stakeholders with the information they need to understand your business’s financial position and performance.
Who Uses Financial Reporting and Analysis?
Throughout the article, we’ve often mentioned several entities that can benefit from financial reporting and analysis, such as investors or lenders. Here is a list of other entities.
1. Business Managers
Business managers use financial reports to help them track and measure the performance of an organization. With deeper insights, they can then devise intelligent strategies to improve the company’s financial health.
2. Tax Agents And Various Government Agencies
These groups use financial reports to check if the businesses comply with tax regulations. Financial reports are also reviewed as part of the auditing process.
Customers use financial reports to judge whether a company is reliable to do business with. They examine the statements to ensure that the company is financially healthy and determine whether it can stay for a long period.
Financial reporting is essential for any business, regardless of its size. It helps you better understand the company’s financial performance and enables you to make the right decisions that help in the growth of your business.
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