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Not All Risks Come With Reward - Why Every Business Needs Timely Internal Reporting

Business Evolution Pyramid - Business Framework

March 3, 2020

  

Michael Sabatini, Partner, Citrin Cooperman

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For most businesses, annual external reporting is a necessity. Whether it be a requirement of the company’s governance agreements, or for an external lender pursuant to a debt agreement, requested by a customer, vendor or a landlord to secure a new contract, or just for purposes of providing to the external accountant to prepare a tax return, most businesses currently engage in some form of external reporting, many times with a report from the external accountant attached.  This annual external reporting tends to not be finalized until many months into the next fiscal year. It also does not necessarily contain certain details that the senior management team, business owner, and, if applicable, the board of directors might find very useful in managing the business and making decisions. Accordingly, it may prove not to be very useful to them at all.

Key considerations in establishing internal reporting requirements

Internal stakeholders in a business need to consider what information they need and how the timeliness of that information will be most useful to them in running the business and making decisions. Based upon their needs, internal reporting requirements and timelines should be established. In today’s environment, with the advent of more sophisticated IT systems, the data is available to prepare the internal reporting that management needs to run the business. Here are a few tips that internal stakeholders might want to consider in establishing internal reporting protocols:

  • Many companies prepare “Flash” reporting of key metrics such as sales. The frequency of a sales flash can vary depending on the availability and reliability of the data captured by the IT systems and what, if anything needs to be done by the operations or accounting departments to summarize or adjust the data into a useful format for evaluation purposes. Some companies can prepare flash reports daily for instance; for others it may be weekly. Perhaps a useful version of a sales flash report would contain a comparison to forecast or prior year and/or will also contain gross margin information. A flash report can be something that is contained within a simple email rather than a more formalized presentation. No matter what format, details, or frequency a flash report comes in, undoubtedly having this information timely is beneficial to internal stakeholders.

  • On a monthly basis, a closing of the books and internal financial information with appropriate detail should be prepared in a consistent and timely manner. Again, what format this takes and what additional detail is provided in addition to an income statement, balance sheet, and cash flows is really dependent upon the nature of the business and what information is useful in making decisions. For instance, maybe detailed sales trends by product line or customer is important to evaluating results in a particular business. In some cases, detailed accounts receivable and inventory information might be useful. If a business has key performance indicators (KPIs) that it measures itself against, those should be analyzed and reported as part of the monthly closing process.  

One thing that is important in all situations – timeliness. The longer it takes to prepare this information, the less relevant or useful it becomes. Some businesses may prefer to do a quicker “soft” close focused on ensuring information from subledgers is reconciled and reported to get this information out to its internal stakeholders as soon as possible and then focus on completing accounting adjustments to reflect accruals, prepaids, etc. 

  • On a quarterly basis, reporting generally takes a more formalized nature in a prescribed format more in line with what is dictated by annual external reporting requirements typically found in loan agreements. Usually these requirements tend to provide a longer runway in timing (usually somewhere between 30 to 45 days). Because of this, it is still generally preferable to continue to prepare what is done on a monthly basis for internal purposes so management still has its normal tools to run the business and make decisions. 

  • A narrative discussion accompanying the monthly or quarterly internal reporting packages generally proves to be a useful tool in helping to give a better picture or story behind the numbers, analyzing variances to budget or prior year and explaining trends. 

Key benefits of timely internal reporting 

In today’s business environment, things tend to move and change very quickly. The decision makers need to address change as it happens; failure to do so can have a significant negative impact both in the short-term and the long-term. Take for instance the implementation of increased tariffs on the importing of goods which has been clearly in the news in the last several months. For a business relying on the importing of goods from overseas, it is critical for that business to see the impact additional tariffs will have on its cash flows and assess what it can or should be doing to lessen the impact; i.e. should it roll out a price increase on its products. Without having timely and accurate data and reporting, it may not be so easy for the business to assess and react.

Another benefit to timely reporting is that management can more quickly see and react to a trend that is occurring such as decline in actual sales vs forecast. In this case, management might, if it determined that such decline is indicative of a true change in the business as opposed to something temporary, want to consider other changes. It might want to have the rest of the business respond throughout the organization to the decline; such as adjusting its planned purchasing levels, reconsidering the timing of discretionary spending, and adjusting its forecasts and budgets for the rest of the year, to name a few. In this manner, management would also be able to timely identify a possible future issue with a loan covenant and be able to react to it, discuss proactively with their lender, etc. Usually, a proactive discussion about a potential issue yields a more positive result than an after the fact “surprise.

A third benefit to timely reporting is that it can prove useful in identifying something that appears amiss in the business such as an unusual trend or an unexplained relationship between accounts. Identifying this quickly can allow management to investigate what is happening and internal stakeholders to react and make decisions. For example, an unusual relationship between sales and accounts receivable such as an unusual spike to a business’s days sales outstanding might be indicative of a true collectability matter on accounts receivable from a certain customer or customers or even be indicative of an internal problem within the company. Management and the company’s internal stakeholders will clearly benefit from having this information to be able to address a situation before it turns into a bigger problem.  

Ultimately, without timely and relevant internal reporting, internal stakeholders are lacking the information they need to make timely and necessary decisions that can result in very negative consequences in both the short and long-term. And since most businesses have the information already being captured by its IT systems in some fashion, this is clearly a risk not worth taking.