Why Preparing Annual Financial Statements is Important for your Business

Financial Statements accurately reflect a business's performance and financial position.

When it comes to business, there are no documents more important than financial statements. In this post we’ll look at the reasons why they should be in every business owner's toolkit.

What are financial statements?

Financial Statements are documents that show how your business is doing financially and operationally.

As the statements are historical, they show you how your business has been operating in areas such as profitability, cash flow, assets and liabilities.

The three financial statements that Australian SMEs mostly use are broken down into these categories:

Profit & Loss Report: displays the profitability of a business over a period of time. Also known as ‘income statement’.
Statement of Financial Position: summarises all business assets and liabilities at a particular moment in time, to show how much money remains if the business were to sell all assets and paid off all debts. Also known as ‘balance sheet.
Cash Flow Statement: displays how much cash is moving in and out of business over a certain period.

These statements are important to help you:

meet any regulatory requirements
understand and manage the overall success of your business
plan for future growth.

They should be prepared at least annually. The accountants here at Balanced Beans help businesses prepare financial statements to ensure their financial information is accurate, up-to-date and presented in a way that’s easily understood.

Who are they for?

Most business owners aren’t accountants, which means you may not have a deep understanding of the financials of your business.

It’s fairly common for business owners to focus on the cash flow statement but if you’re ignoring other reports such as your balance sheet, income statement and retained earnings – you don’t have a clear picture of your true financial position or net income at a certain point in time. For this reason, Financial Statements are an extremely handy tool for you, the business owner!

Financial Statements can also be used by investors, lendors, business brokers, trade creditors and other stakeholders to evaluate the financial health and potential for growth of a business.

For instance, if you are applying for a loan or an overdraft, the lender will look closely at both your Profit and Loss report and the Balance Sheet in conjunction with bank statements and accounts payable. The better and more robust these financial reports are, the more reliance a lending institution can place on them.

If you are planning to sell your business, potential buyers will request the Financial Statements as part of their due diligence processes. Accurate Financial Statements can also help attract investors and show proof of business success.

Other important reasons you need financial statements

Here are some other key benefits:

Identify Business Profitability. The profit and loss report helps to determine whether your business is truly profitable. Income statements generally include your gross revenue minus your total expenses (or direct costs) to ultimately identify the net income (or loss) of your business. Basing an assumption off your bank account balance doesnt give an accurate picture as future outgoing costs and incoming revenue are not accounted for. Therefore, you must be considering all income and overheads to get a full picture.
Improve Debt Management. Keeping accurate account receivable and account payable reporting ensures that these correct figures can give you an accurate idea of whether or not your business can continue to operate. Poor management can cripple a business, often due to delays in receiving income while needing to meet outgoing payment deadlines. When you have an adequate period of data, businesses can usually use this as a reference point to accurately predict future cash flow as well.
Identify & Mitigate Errors. Having accurate financial statements are crucial in being able to catch costly mistakes (or even illegal practices). Detection of discrepancies when reconciling numbers to prepare financial statements will be able to address this.
Improved Decision Making. If you’re looking to grow and invest back into the business, financial statements such as your statement of financial position (balance sheet) can provide a clear visual representation to identify where investment opportunities may lie. Additionally, using these financial statements for forecasting and planning for the future is essential to ensure your business is ready for any changes within the business environment.
Assist with Benchmarking. Accurate financial statements asisst to benchmark your business against others in your industry using ATO statistics. Benchmarks help you determine how you compare and whether you need to make any changes.

Here at Balanced Beans, not only do we prepare financial statements, we will also explain to you what the numbers are saying so you can better understand the financial position of the business. This gives you the data and confidence to make decisions around the key business drivers.

How are financial statements prepared?

Annual financial Statements are typically prepared by an accountant. The process involves aggregating accounting information into a standardised set of financials. Tasks ususally include:

Verify Supplier Invoices. Compare the receiving log to accounts payable to ensure that all supplier invoices have been received. Accrue the expense for any invoices that have not been received.
Verify Customer Invoices. Compare the shipping log to accounts receivable to ensure that all customer invoices have been issued. Issue any invoices that have not yet been prepared.
Accrue Unpaid Wages. Accrue an expense for any wages earned but not yet paid as of the end of the reporting period.
Calculate Depreciation. Calculate depreciation expense and amortisation expense for all fixed assets in the accounting records.
Value Inventory. Conduct an ending physical inventory count, or use an alternative method to estimate the ending inventory balance. Use this information to derive the cost of goods sold, and record the amount in the accounting records.
Reconcile Bank Accounts. Conduct a bank reconciliation, and create journal entries to record all adjustments required to match the accounting records to the bank statement.
Post Account Balances. Post all subsidiary ledger balances to the general ledger.
Review Accounts. Review the balance sheet accounts, and use journal entries to adjust account balances to match the supporting detail.
Review Financials. Print a preliminary version of the financial statements.
Accrue Income Taxes. Accrue an income tax expense, based on the corrected income statement.
Close Accounts. Close all subsidiary ledgers for the period, and open them for the following reporting period.
Issue Financial Statements. Print final version of the financial statements. Prepare footnotes to accompany the statements. Prepare a cover letter that explains key points in the financial statements.

Importance for tax preparation and compliance

Tax compliance

Financial reports are necessary for complying with your tax obligations. The ATO details the records an entity must keep and report to substantiate the business expenses that you claim as tax deductions. (You must not use estimates when lodging your tax returns).

If you have well-prepared financial statements, you can use them as proof that you’re paying your fair share of taxes. You can also produce these in an audit, if the ATO nominates your business for closer inspection.

Tax preparation

Financial Statements also help with tax preparation. For instance by maintaining Profit & Loss statements we already have much of the information needed for lodging your taxes promptly.

Financial statements assist to evaluate your tax liability. Once we know what your tax liability is, we can explore opportunities to reduce the amount to pay on your business activity statements.

Incorporated businesses need to include income statements, cash flow statements and balance sheets in their financial reports. They can use these to report to the ATO as well as regulatory authorities and shareholders.

Newcastle Accountants who prepare Financial Statements

Financial Statements give you clear insights into the current financial status of your business. Balanced Beans Accountancy and Bookkeeping is 100% cloud based allowing us to help you understand your business financials wherever you are located.