3 types of financial reports every entrepreneur should prepare
To keep your company on track, you need financial statements that allow you to not only monitor results and plan for the future, but also keep your external financial partners informed.
One set of financial statements can’t do all those jobs, and that’s why you need to create several different types of financial reports, says Alka Sood, a BDC business consultant.
“You use the same information to generate different types of statements,” says Sood. “The trick is to organize them properly to provide the right information for each purpose.”
Sood offers her suggestions on the financial statements to prepare and what they should contain.
1. Financial statements for external audiences
In most circumstances, your external partners will want to see financial statements prepared by an outside accountant, so they can get a reliable, objective perspective on how your company is performing.
Bankers need to know whether your operations are healthy and generating sufficient profit to comfortably service your debt.
“A banker is only going to look at certain line items and say: ‘Do you have reasonable performance metrics and are you making money? Are you generating wealth?’” says Sood, who works in the greater Toronto area. “They really want to make sure you’re on a sound financial footing.”
Investors are likely to look more deeply, tracking data that allows them to judge whether the capital they’ve deployed to your company is generating an adequate return. This means they will be interested in the profitability of your business and what kind of growth you are generating.
“Generally, they want to know the rate of growth of revenue and whether profits are growing at the same pace,” Sood says. “If profits are growing faster, it means you’re containing your costs. If profits are falling and revenue is going up, they’re going to want to know what’s going on there.”
2. Forecasts of financial results
Financial forecasts for the coming year are another important type of report. Forecasts allow you to create operating budgets and plan for resource requirements. They also give you and your employees something to shoot for, spurring improvement.
“It’s a way to stretch your company, improve and grow,” Sood says.
Her clients often resist making forecasts, saying they don’t have a crystal ball to predict the future. Yet, historical results provide a good starting point to predict how much sales you need to break even and how much revenue or profit you will generate during the year.
“It’s really important to know how you’re tracking against your forecast to make sure that you ultimately break even and earn a profit,” Sood says. “If you see you’re falling short, you’ve got to be able to cut back your costs or increase sales so that you don’t end up in the red.”
3. Management reports
At a much more detailed level are management reports are generated for internal use only.
Where you might provide an investor with summary on marketing expenses, your management report might break this information down into five different elements, corresponding to your spending on different marketing channels, for example.
“Management reports provide information at a much more detailed, granular level,” Sood says. “And we don’t give the privilege of understanding that level of detail to external parties. They don’t need to know how much money I spend on cookies each month. That’s none of their business. It’s enough to say it’s in my food budget.”
Your management report should isolate your sales and expenses by business line or product and can go further to track performance by geographic region or even by customer. You should also track important financial ratios and key performance indicators.
All this information gives you a clearer understanding of how different parts of your business are performing and where the money is earned and where its going.
“We often encourage our clients to do forecasts by segment of the business and formulate budgets for each of these segments,” Sood says. “So, when the results start coming in for each of the segments, we can measure whether they are tracking on plan, and if not make necessary adjustments early on.”