Have you ever been so far off the grid – on a wilderness expedition, maybe – that your smartphone doesn’t know where you are? If you click on your “maps” app, your phone just shows you a blue dot, figuratively shrugs its shoulders and says, “You’re on the blue dot. But I have no clue what’s around you, where you’ve been or where you’re going.”
That uncomfortable “lost” feeling applies to more than just wilderness trekking. It can apply to your business – when you have no clear idea of which products or services are most profitable, how much you can afford to spend on new equipment, and whether you are on track to your goal (maybe, a comfortable retirement?).
So what’s the “maps app” for your business, so you can see how to get where you want to go? It’s your financial reporting system.
Financial Reporting – One Key to Profitable Growth
To be successful, you and your senior managers need regular access to accurate insights into your business. You need to be able to spot problems when they first emerge; measure and assess what’s working; identify and capitalize on opportunities, and recognize and manage threats.
When you know the reality of how your business is actually performing, you have a platform to confront the reality and can make decisions based on facts rather than speculation, bias and anecdotal evidence.
The importance of business reporting is twofold:
- To have visibility into the future (knowing what is likely to happen around the corner).
- To have retrospective visibility over past performance (that is, to analyze performance data and use it as a tool to course correct for the future).
A lot of businesses wait too long to introduce a proper business financial reporting structure. But without the right information collected in a timely way, effective analysis and robust planning is impossible.
Well-constructed business reports are the secret weapon for CEOs and business owners of ambitious growth companies. They will reveal how your company is performing and how far you are from reaching your goals.
Three key aspects to your financial GPS
While large companies have sophisticated financial systems tied to human resources metrics, production equipment, and inventory controls, you don’t need to get that elaborate – yet.
Start with mastery of three key financial statements:
- The Balance Sheet
- The Cash Flow Statement
- The Profit and Loss Account
These reports can reveal such information as:
- How effective your team is at controlling costs and deploying expenses to generate sales
- Which of your products or services are the fastest growing and the most profitable
- Your highest growth potential and most profitable customers
- Where your break-even point is (how much sales the business needs to produce to cover all its costs)
Having all your business data at your fingertips means that you can spot gaps and weaknesses at a glance, have clear visibility over the future and course correct daily to ensure you are still en route to your destination.
Your company’s balance sheet: shows what your company owes and what it owes at a given time. It reveals:
- The net value of your company (which is useful if you plan to raise capital to finance future growth, sell your business, etc.)
- Current and long-term debt obligations
- Asset management (how effectively you’re managing your assets) and liquidity ratios
Lenders, investors and potential customers can use your balance sheet to assess your company’s creditworthiness, as well as its stability and liquidity – indicating its ability to fund growth without resorting to outside financing.
Profit and loss account: while the balance sheet is like a still image posted to Instagram, the P&L account is more like a video. It is the main way businesses determine how well they’re performing over time.
This is the main tool businesses use to gauge their profitability. It shows how well (or not) your company performed over a particular period of time in terms of revenue, expenses and earnings.
The Profit and Loss Account reveals the steps you can take to increase profitability (for example, whether to focus on more profitable product lines or services or to cut unnecessary expenses).
Investors will use your Profit and Loss Account to assess the ability of a Company to generate cash from operations, service current financing obligations and assess the level of risk involved in extending additional credit or venture capital to your company.
Cash flow statement: reveals how your company spends its cash (cash outflows) and where the money comes from (cash inflows) during a period of time. It is divided into three sections related to your company’s business operations: cash flow from operations, financing, and investing transactions.
Essentially, the Cash Flow Statement reveals whether or not your company has the cash to cover its daily activities, pay bills on time and maintain a positive cash flow. It also helps you to determine whether you’ll need additional working capital to buy inventory or to fund seasonal fluctuations.
Interpret your key financial statements using ratios
To interpret and understand the numbers contained in your financial statements, you should use financial ratios. The ratios are computed from numbers taken from the Profit and Loss Account and the Balance Sheet.
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. _
Typically, owners, managers, and stakeholders look at four categories of ratios to analyze a company’s performance:
- Liquidity ratios – show your company’s ability to meet its financial obligations
- Profitability ratios – help evaluate your company’s ability to generate a return on its resources
- Leverage ratios – show how your business is using debt, relative to capital
- Efficiency ratios – reveal how effectively your company is managing assets.
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 revenue 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.
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 and 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.