How do you decide when you raise capital? Or when to expand your business to a new location?
For many businesses, these decisions are often made based on gut intuition & competitors rather than on data from the business.
As you might have already guessed, making decisions in this manner can be fatal; in fact, it is such decisions that cost businesses millions and may even lead to them closing their doors.
There are many benefits to gain if a business bases its business decisions on information from financial statements.
Importance of Financial Statements in Decision Making
Here’s why financial statements are important in decision making:
1. To Know the Current Status of The Business
At the end of every year, financial statements are prepared to check business performance or just for the sake of it.
The combined information in a business’s financial statement is important to inform stakeholders about how the business has performed.
This information is important to direct the strategy and improvements the business would make going forward.
2. To Analyse Trends & Make Forecasts
But looking at a year’s financial statement does not provide enough data to explain or measure the performance of the business.
With a look at the historical financial information, business owners can analyse the trend of different metrics, compare them and forecast how the business would perform in the future.
No doubt this step unlocks more decisions and gives a fuller picture of the performance of the business. Without which a business would have made a hasty decision based on just the current data.
3. To Identify Strength And Weakness
Financial statements are tools to help identify the weakness and strength of the business.
Many small businesses are making impressive amounts of sales and have an impressive market share, but a close analysis of their financial statement may paint a very ugly picture.
Business owners rely on financial statements to assess the strength of the business, so they are better equipped to take advantage of them as well as their weaknesses, so they can take corrective actions.
4. Provides complete and specific business insights
A proper analysis of financial statements reveals a fuller picture of what is going on in a business.
Beyond the current or past performance of the business. Financial statements when analysed right give immeasurable insights into the business.
For instance, if you analyse your books properly, you would know when you should change your prices and the best prices you can set to be profitable, it would inform you how efficient your business has been with its resources, both human and capital through ratios.
5 Practical Ways To Use Financial Statements To Make Smart Decisions
What are some of the practical instances where small business owners like yourself can use financial statements as a tool for making smarter business decisions?
Here are the top 5 practical cases, business owners can use financial statements to make better decisions:
1. How to Maximize your Resources
Want to know if you need to employ more people or get more machinery or if it is a smarter decision to rent or buy an asset? Look at your books.
You can calculate the efficiency of your resources, and use that information to decide who is bringing you the most or least value. Or which machine is not fully utilized.
Such information will guide you to make smart decisions about maximizing your human and capital resources. And ultimately increase your profits.
2. When You Want to Reduce Costs
Many business owners make the hasty decisions of cutting business costs arbitrarily.
This is a terrible decision you can avoid by utilizing your financial statements.
By studying your financial statements, especially your operating expenses & your costs of goods sold, you can reduce the cost of your business.
By focusing on areas where your business is spending unnecessarily, too much or that is not bringing you value.
This way, your cost reduction is more strategic and would not have any risk of affecting your business negatively.
Your financial statement would highlight areas where you can cut business costs and areas where those cost savings should be reallocated to.
3. Return on Investment/Impact
The best way to measure the impact of your actions on your business is through your books – your financial statements.
If you increased your advertising expenses, for instance, the best way to know the impact it has had on your business is to look into your books. And determine if it achieved the goals you set for it.
4. When To Get a Loan
Your financial statement can show when it is healthy or not for your business to take up a loan.
If you look at your balance sheet and your liability has swiped out most of your equity, it is probably not a good idea to get another loan.
It is also an important indicator that can guide you to avoid overspending.
5. When You Want to Plan For The Future
When you want to make decisions that affect the future of your business, your financial statements have a critical role to play.
Whether you’re building a budget or reviewing your business plans the best way to make smart decisions about the future of your business is to base them on real data.
As we said when we wrote about the role of financial statements in decision-making, they offer complete insights into what has happened in the past, what is happening now and what the future of the business may look like.
This insight is critical to the decisions that business owners would make about the future of the business.
It is such an important task because if it is such decisions are based on half information or guesses – it can bear fatal consequences.
We hope you see that one of the best and easiest way to make smarter business and financial decisions is why using your financial statements.
It is so important in making important decisions that affect your business.
If you’re scared of looking at your finances, or you’ve tried to a couple of times, but it’s all so confusing you should try out our Accounting-As-A-Service
It is the best way to get grounded on your finances.
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