The primary objective of an accounting system is to “summarize transactional data into useful management reports that management can use to manage the business”. In other words, the whole point of an accounting system is financial reporting, or to use today’s term, business intelligence. However, many companies seem to miss this most important point. Too often companies tend to view an accounting system primarily as a tool for getting money in and out the door. While invoicing and payables are important, they fall short of the more critical activity of monitoring and managing the overall health of a company through financial reporting. Information – In order for financial information to be valuable to a company, it must be shared in a timely manner throughout the organization. For example, the sales manager and sales representatives should receive periodic sales reports. Accounts receivable clerks should be provided with an aged listing of invoices so that the appropriate collection calls can be made. Accounts payable clerks should receive a listing of bills that need to be paid, listed by due date in order to take advantage of early payment discounts. Management should receive financial reports by division, department, manager, product line, location, etc. Too often this information exists, but is not provided in a timely manner to the appropriate personnel.
- Lack of Sophisticated Financial Information – Each company should produce sophisticated analytical reports related to virtually each balance sheet, revenue, and expense item. Calculations such as days in receivables, days in payables, and days in inventory can instantly reveal problem areas or unfavorable trends. Creative calculations related to costs per unit, gross margins by item, trend reports, and statistical information is essential to properly managing a company. Often, these sophisticated calculations are never prepared and this critical information is not available to decision makers.
- Financial Information is Ignored – Even when basic and sophisticated financial information is prepared and shared with the appropriate personnel, often the recipients of this information either do not take time to adequately study this information, or they do not possess adequate skills to understand the information. In either case, preparing and presenting the information is pointless if the recipient refuses to use it.
- Inaccurate or Incomplete Information – The financial information prepared by many companies is either inaccurate or incomplete. In many cases, the recipients know that the data is inaccurate or incomplete and they have told me so. I’ve had bookkeepers tell me that inventory, cash, and accounts receivable balances are dramatically wrong. Usually, reasonable extenuating circumstances seem to explain these discrepancies. For example “customer returns have not been entered in to the system” or “the balance sheet does not reflect all consolidated divisions”. Yet the company continues to produce reports that for all practical purposes are completely useless.
- Lack of Comparison Data – In order for a number to be useful, it needs to be compared to another number. For example, if a company reports a gross margin of 22% – is this good or bad? You can’t tell. To answer this question, you need to know what was the gross margin was in prior periods; what is the budgeted gross margin; or what is the industry average? Only after you have compared this gross margin to the 20% gross margin in prior periods, 21.5% budgeted amount, and 19.5% industry average can you report that 22 % is favorable. Too often companies fail to include comparison data in their reports.
- Lack of Forward Looking Reports – Too often companies drive down the road looking in their rear view mirror at where they have been – this is known as historical cost accounting. Too infrequently do companies drive down the road looking out their windshield to see where they are going – this is known as projections. The problem is if you are constantly looking at where you were, you might run head on into an obstacle that you could have avoided. Reports such as cash flow calendars constantly predict cash balances for the upcoming three month period and can signal warnings in time to take corrective measures. Too often companies fail to produce projections, especially revised projections throughout the year.
- Lack of Event Triggered Reporting – Today’s accounting systems have the ability to crunch large volumes of calculations on a continuous basis and compare the results to predefined criteria. For example, today’s automated accounting systems can warn the appropriate people when cash balances fall too far, when inventory levels are too low, or when the gross margin for a specific item has declined below acceptable levels. These events typically trigger e-mails which are sent to the appropriate personnel in order to take corrective measures. Too often companies do not take the time to establish such criteria and set up trigger events notices.
The problems mentioned above are not isolated to small operations; larger corporations with hundreds of millions of dollars in revenue are often just as guilty of poor financial reporting. In some cases the accounting systems utilized by these companies are simply unable to produce many of the reports described above. In other cases, the companies have not taken time to create these reports. Sometimes the company has this information but for various reasons has failed to share it with the necessary personnel. In most cases the company personnel are not adequately trained in the use of the accounting system, and the ability to properly read and interpret the resulting reports. For whatever reason, many companies would receive poor grades for their financial reporting efforts.
The key to solving these problems is fairly simple. First, install an accounting software system and financial reporting solution that is capable of meeting your needs. Next, identify, design, and prepare the financial reports your company needs and disseminate this information periodically. Finally, teach each recipient of these reports how to properly read and understand the data in those reports.
These measures sound simple, and they are. However, many companies still fail to specifically address financial reporting. Compare the above list of common financial reporting problems against your company’s normal procedures. If you fall short, perhaps you would benefit by conducting your own evaluation of financial reporting needs in an effort to identify the holes in your system.
Adapted from an article by J. Carlton Collins, CPA, posted on http://www.asaresearch.com/articles/financialreporting.htm