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How improved financial reporting can aid small businesses

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19th Mar 2009
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Ian Hook of data analytics technology specialists Future Route outlines a new model for SME financial reporting to accelerate economic recovery.

Lack of credit and credit insurance is strangling business and the economy at large. Recapitalisation of the banks is only part of the answer. A fundamental change in the way companies, and SMEs in particular, report financial information to their lenders and insurers is critical to minimising the impact and longevity of the recession. A new solution is required and new generation secure internet based accounts review technology provides the blueprint.

Despite the government pledging billions of pounds to recapitalise the banks and provide loan guarantees, businesses in general (and SMEs in particular) are struggling to access the credit they urgently need to survive the current economic turmoil. This is compounded by the continued scarcity of credit insurance.

As trading conditions have worsened, those who provide financial products to SMEs - such as credit insurers, factorers, invoice discounters and banks - are compelled to place greater emphasis on client specific risk as opposed to aggregated sector exposure.

Yet assessing pricing and monitoring business specific risk requires the acquisition of more detailed, regular and up-to-date financial information than is currently available, the absence of which has contributed to credit insurers reducing their cover and lenders refusing finance, or at best increasing the cost of borrowing.

It is clear that while strengthening banks’ balance sheets is vital, cash injections and mass loan underwriting at an institutional level are only part of the solution.

Welcome back prudence?
To paraphrase City minister Baron Myners, banks have moved from a state of ‘reckless optimism’ to ‘reckless caution’, a problem that is mirrored in the credit risk industry.
Whether reckless or not, the banks’ caution is driven by a need not only to deal with the ‘toxic’ debts that triggered the crisis, but by the looming aftershock as the economic downturn creates more bad debt.

Prudent financing is all very well, but in such an uncertain environment, spotting the credit-worthy from the not so worthy becomes harder, especially within the SME community.

The problem is that when prudence was last in charge, it was closer to its customers, understood its business and was in a far better position to assess risk. Recreating this for a 21st century economy requires a fundamental change to the way in which company financial information is collected and disseminated.

This was something that the ‘Big Four’ accountants called for a few years ago, although there was little appetite for this at the time and the enabling technology was still some way off.

The need for change
In contrast to other banking disciplines, risk assessment in commercial lending to SMEs has barely moved forward. There is still a heavy reliance on annual accounts from Companies House that can be a year out of date from the final month of the reported period, and over two years from the first month of that financial year.

Of course, information is obtained from other sources such as county court judgments, media reports and information direct from their customers, but this happens in an ad-hoc fashion which is slow, inefficient, inconsistent, and rarely in a format to suit the capabilities and needs of the recipient.

Lenders are nonetheless increasing their demands for more detailed monthly reporting in order to assess and manage business-specific risk, which places an added burden on companies that they can ill afford.

In contrast to statutory filings, the need for timeliness and accuracy is paramount when, as any company using invoice discounting will testify, the continued availability of credit facilities is dependent upon it. Armed with monthly detailed information, lenders and credit risk raters can reconcile between monthly periods and against annual accounts to identify errors or anomalies far easier than before.

A blueprint for the future
In order to mitigate the debilitating inefficiencies inherent in monthly reporting for both borrower and lender, a solution is needed that enables companies to file accurate comprehensive monthly statements with minimum time and effort. These statements need to offer online authorised access to reports for banks, invoice discounters, insurers, credit risk raters, advisors or any other interested parties in the format they require. Who receives the information and to what level of detail must remain in the control of the provider: the SME.

Technically, the emergence of advanced accounts review solutions provides a blueprint; in other words it offers a solution that can:

  • Extract and interpret data from multiple sources in a common format.
  • Assist the provider in reviewing and verifying the accuracy of the information prior to publication.
  • Provide receivers with timely, detailed, standardised reporting and analysis through a medium that requires little or no training and setup.

The impetus for change is rapidly gathering pace, most notably among factorers, invoice discounters, credit risk insurers and ratings agencies; organisations whose business model is founded on the accessibility, accuracy and timeliness of company financial information because they need to price business risk at the moment they extend financing facilities or give credit risk ratings. For businesses (the providers of the data) the motivation is clear: access to finance. More accurate ratings will allow for borrowing rates that are appropriate to the true risk profile of the company itself.

Implications for accountants
This new style accounts review technology offers benefits to companies and their accountants that extend far beyond facilitating access to credit.

The accounts review process underpins much of the commercial value that a company can obtain from its accountant, whether internal or external, yet in the quest to minimise the cost of statutory filings, this gets overlooked and lost. By transforming the speed and thoroughness of this key accounting activity, there is the potential for costly book-keeping errors, anomalies or fraudulent activity to be identified and addressed. Accurate and insightful performance analysis and accounts can be produced quicker and easier, which will in turn lead to improvements in the effectiveness of companies’ financial controls and management decision making.

For accountants in practice, the new model will be both a catalyst for more frequent client contact and an enabler for delivering higher quality yet cost-effective review-and-report services. By embedding accounts review technology into their working practices, they will be able offer a profitable monthly management accounts preparation service that comfortably meets their clients’ quality and cost expectations. For those who embrace the opportunity early, it will move them up the value chain, away from increasingly commoditised compliance engagements to proactive high value business support services.

Conclusion
SMEs have long been hailed as the engines of UK economic growth. If they are to survive and thrive, more than macro-economic stimuli alone will be required. In order to ensure the efficient distribution of business finance that is so badly needed, it is clear that providers of financial products to SMEs require more accurate, up-to-date and detailed financial information than is available from statutory filings or through other manual collection methods.

Therefore, a fundamentally new model for gathering, validating and disseminating company financial information is vital to ensuring rapid economic recovery. The emergence of advanced secure internet based accounts review technology (which is already in use by companies and accountants in practice across Europe), provides the blueprint. This is a solution that promises not only to facilitate the efficient flow of credit, but to provide wide-ranging productivity benefits for companies and the finance and accounting industries that serve them.

Ian Hook
[email protected]
www.future-route.com

Future Route is the developer of Validis, the award winning accounting data analysis service, and an incubator for other advanced data analysis technologies, applications and services. For more information on Validis visit www.validis.com

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Replies (2)

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Garry Mumford
By insight
22nd Mar 2009 19:43

Who is this for?
Personally I have a pet hate of the term SME. It can mean so many different things to so many people. According to our EC friends it's a business with up to 250 employees. That is a very different animal to the vast majority of smaller businesses at best employing just a handful.

I believe the distinction is very important in the context of this article. Exactly what type of businesses do you think this applies to?

Most small businesses (by which I am probably talking sub £2m t/o maybe?) struggle even to keep an accounting system running that can produce rudimentary monthly management accounts, and if they do manage it they probably don't understand them!

I can see there are some pretty fundamental issues to address before we start worrying about uploading the results for everyone to see!

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Teignmouth
By Paul Scholes
22nd Mar 2009 13:56

I have a headache
I see that 1077 people have read this before me but you can count me as another 3 as that's how many times I'm managed to get all the way through it in order to try and get some idea of what it's all about.

Ian, in your 1st paragraph you say (in one breath) "new generation secure internet based accounts review technology provides the blueprint" and then in your conclusion "a fundamentally new model" etc etc is needed but you don't seem to (maybe I missed it) set out what this is, why is different, what it does etc etc.

I guess that the answer is in following the link to your website but it's broken and I'm too tired.

Not sure this article should have been a News item?

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