PLANNING VERSUS HISTORICAL ACCOUNTING
Financial statements are often misused and abused. They are often ornately presented with accountant's opinions ranging from audits to compilations. Often we even find a statement of cash flows and financial footnotes.
What do these statements tell us? Numbers and data when prettily presented often are an accountant's representation of the financial status of an entity.
I believe that financial statements without narratives, analysis of trends, and a review of expenditures are nothing more than formal proof that the bank account has been reconciled and that everything balances. Data without thorough critique is useless.
A classic example is Good Times, Inc. (a fictional retail operation) whose accountant formally presented the results of the past month's operation that indicated that the company just had its best sales month ever. Good Times, Inc. accordingly beefed up its sales force and administrative staff in order to handle the increased volume.
Unfortunately the financial statements alone failed to reflect several other critical areas of financial distress:
- The line of credit was tapped and no prior efforts had been made with the company's bank to extend the line.
- Spending levels were at an all time high and the profit margins were slipping.
- Trade data suggested that the market's profitability was moving from retail to wholesale.
Approximately, sixty days after the best month ever, the company's increased spending, the additional personnel and the shift in the marketplace began eroding the company's profitability picture. As the accountant had solely processed prior data and presented it as current month and year-to-date data, the trends, and changes in the margins and the company's changing financial situation had been hopelessly lost in the numbers. Now the company was faced with downsizing and refocusing its marketing efforts away form wholesale and towards retail. Good Times, Inc. could have avoided and even planned for the downturn if they had analyzed their trends and compared their results to the available market data.
A company's focus should always be on the marketplace and what it's doing. It should not get caught up in admiring it's own historical data. Careful attention should be paid to product lines and profitability and whether trends indicate a rise or fall. Companies should change their focus from historical review to short-term and strategic planning and should concentrate on how to maintain constant step with the marketplace.
Only in this way will Good Times, Inc. not be left behind. The marketplace is always changing and we owe it to our future to be ready to keep pace.
Please do not hesitate to call if you have any questions.
If you know anyone looking for a Good CPA, please suggest they visit our web-site at www.hiscpa.com
John C Dillard, CPA whom can be reached at 770-814-9304