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September 2014 Tip of the Month

THEY'RE NOT OUR FINANCIALS - THEY'RE YOURS

Another disclaimer from the accountants at Abo and Company?  No, just a reminder that we believe a company's financial statements should serve your purposes as well as meeting the needs of third party readers.  By the way, if you are not an actual business owner, we'd certainly appreciate your passing this along to your employer and entrepreneurial colleagues.  We think they'd appreciate it as well.

So now we ask, are your income statements providing you with a reliable measurement of the operating performance of your firm? You might be surprised by this question, but frequently company managers obtain data that is deficient for sound decision making. For example:

  • Operating statements prepared on a cash basis may be highly effective for measuring cash flow but they fail to reflect the true results of operations since they don't reflect sales and expenses that have not been paid.
  • Key elements may be missing from the statements. For example, sales may only be reflected on a net basis, but the information would be far more meaningful if the statement showed gross sales less return and allowances and net sales.
  • Many of the estimates used in the income statement may not be reflective of the actual economic deterioration associated with the wearing out of assets. This is often the case in terms of the depreciation that is recorded or of repair and maintenance costs that are required to keep assets in good working condition.
  • Failure to properly take into account obsolescence of inventories or the carrying costs of goods can easily distort gross profit margins reflected in the income statements.
  • Lapses in insurance coverage may result in significant risk exposure which would not be reflected in insurance expense or elsewhere in the income statement.
  • Since the income statement may reflect a number of business activities or products that are producing revenue for your firm, good results in one 

may actually obscure negative results in another, unless the activity is separately identified and the results for each product or service are measured separately to determine their contribution to your firm's income.

  • Individual income statements generally fail to provide a valid measure of business progress, unless a series of statements are compared and trend analysis is performed.

In short, to help you obtain reliable information about the results of your operations, you must 

  1. use a method of accounting that truly reflects the economic events affecting your business; 
  2. have a chart of accounts that provides adequate details about the revenues obtained and expenses incurred in operating the business; 
  3. utilize estimates that are realistic in measuring the decline and deterioration of the assets that are producing your business revenue; 
  4. have cost measurement systems that provide revenue and cost data by product and activity, and 
  5. obtain operating statements with sufficient frequency to enable you to measure the trend of revenues and expenses and changes in your firm's growth momentum. 

The knowledge and skill of your in-house financial staff and Abo and Company, as your independent CPAs, are major factors in the accuracy, reliability and usefulness of the accounting data you are able to obtain and analyze for effective decision making.