Financial accounting information is used for reporting to external parties

Financial reporting is the accounting process for communicating financial information. All companies do some form of external or internal financial reporting — or both. External financial reports must conform to accounting and reporting standards, and internal reports should do so, too, though the two types of reports can look different because they serve different purposes:

• External reporting is used by company outsiders, like regulatory agencies, tax authorities, investors, lenders and trade partners, so it has more rigid requirements.
• Internal reporting is used by a company's senior management team to inform decision-making, so it can be more tailored to their specific informational needs and the company's business objectives.

Whether external or internal, the challenge for most companies is creating accurate, timely financial reporting in an efficient way. Here's what's involved and how to make it better.

What Is Financial Reporting?

Financial reporting — the communication of financial information to external and internal stakeholders — is most often achieved by the "core" financial statements: balance sheet, income statement and statement of cash flows. But it can also come in many other forms, depending on the information needs of the reader.

For example, public companies file quarterly 10-Q and annual 10-K statements with the Securities and Exchange Commission (SEC) containing extensive notes to the financial statements, supplementary schedules and the management's discussion and analysis (MD&A). For internal stakeholders, financial reporting can comprise any financial reports that management wishes to generate, such as detailed sales reports, trends and key performance indicators (KPIs).

Key Takeaways

• Financial reporting is an accounting process that communicates financial data to external and internal stakeholders, such as shareholders, lenders and senior company management.
• External financial reporting requirements are different for public and private companies, but the reports are universally required by law for tax reporting.
• The financial statements, SEC forms, annual report and MD&A are some items included in financial reporting packages.
• Integrated financial reporting software helps make financial reporting more accurate and timelier through automated processes, which have the added benefit of allowing resources to be redeployed to analysis and action.

Financial Reporting Explained

Companies of all sizes engage in some form of financial reporting, whether for compliance with outside regulatory agencies or industry custom, or for internal management decision-making. Large public companies must comply with stringent financial reporting obligations issued by the SEC; private firms might have financial reporting obligations to lenders or owners; and even small firms must do some degree of financial reporting when they prepare their tax filings.

Financial reporting is a continual process, with periodic deliverables throughout the fiscal year. Annual financial reporting happens at the end of a company's fiscal year, while interim financial reporting covers periods less than one year, typically months or quarters.

Why Is Financial Reporting Important?

Financial reporting — and its components — tells a story about a company's financial health. An important underpinning is that the information in financial reporting packages must conform to U.S. Generally Accepted Accounting Principles (GAAP) or International Financial Reporting Standards (IFRS); this conformity provides reliability and consistency. More specifically, financial reporting is vital for the following four purposes:

1. Raising capital.

   A company's financial story is especially important when the company is looking to raise capital, whether through public markets, private investments or loans. Outside parties use financial reports to assess creditworthiness and the strength of the company's operations.

2. Reassurance.

   While most financial reporting is retrospective, investors, partners and even customers/suppliers can also use it to form predictive opinions regarding future performance and viability. For example, suppliers might use a company's financial reporting to determine whether to start doing business together, based on the trajectory of the company's sales.

3. Financial analysis.

   Financial reporting is also indispensable to internal management, serving as a foundation for analyzing operations, measuring KPIs or even calculating compensation for employees. For example, analyzing a dashboard of accounts receivable KPIs, such as day's sales outstanding, can help senior management gauge the effectiveness of the billing and collection staff, as well as predict cash flow.

4. Compliance and law.

   Financial reporting is also important because it satisfies compliance requirements and laws. Most companies have at least one stakeholder whose continuing involvement requires periodic financial reporting. For public companies, that could be the SEC. Private companies might have a loan that requires periodic reporting of certain debt covenants. Beyond that, financial reporting is legally required by the Internal Revenue Service (IRS) — every US business's "universal stakeholder."

What Is the Purpose of Financial Reporting?

Financial reporting provides insight and transparency into a company's financial position and its operations. It's meant to give stakeholders in the company the right information, in the right amount of detail, to make better-informed decisions. This is true, whether for an external investor, a taxing agency or internal management. Good financial reporting gets different parties on the same page with a single version of the truth, and gives credibility to the company and its management. On the other hand, fraudulent or inaccurate financial reporting can torpedo a company's reputation and value.

What Is Included in Financial Reporting?

A lot of effort goes into financial reporting, derived from several different areas in a company. Financial controllers and their accounting staff are responsible for the financial reporting process in most midsize companies. In larger, public companies, the CFO and CEO are required to certify the reported information, as are external auditors, while the investor relations department handles distribution of financial reports to the public via press releases, websites, earnings calls and other external communication channels. In smaller companies, the lead staff accountant, or even the business owner, controls most of the financial reporting function, sometimes with the help of external accountants. Fortunately, requirements for small businesses are usually proportionately scaled down.

Regardless of company size, items typically included in external financial reporting are:

• Financial statements
• Notes to the financial statements
• MD&A
• Annual report
• SEC filings, including the 10-K and 10-Q, along with many potential others, like a prospectus, proxy statement or 8-K (for unusual events), among others.

A key point for financial reporting is timeliness. Even the most accurate and complete financial report has less value if it is out of date.

Key Types of Financial Statements and Reporting

Financial statements — standardized summaries of a company's financial profile — are the primary component of financial reporting. Each financial statement has its own focus, so it is most useful for conveying a company's story when grouped together with other statements typically included in a reporting package, such as the quarterly 10-Qs and annual 10-Ks of US public companies. The detailed accounting data underlying financial statements can be sliced and diced for internal reporting in dashboards when supported by automated accounting systems and analysis tools. Key types of financial statements and dashboards used for financial reporting are:

1. Income statement:

   The income statement reports revenue, expenses and net income/(loss) for a fiscal period. It's often considered the most important of the three basic financial statements because it focuses on operating results. It's commonly presented in comparison to prior fiscal periods.

2. Balance sheet:

   A balance sheet shows a company's financial position as of a certain point in time. It lists a company's assets, liabilities and equity in accordance with the accounting equation: Assets = Liabilities + Equity. The balance sheet is used to gauge a company's net worth, its overall financial strength and its ability to fund future growth.

3. Cash flow statement:

   The cash flow statement presents a summary of how a company received and disbursed cash and cash equivalents over a stated period. It classifies sources and uses of cash into operating activity, investing activity and financing activity; strips away noncash activity (e.g., depreciation) from net income; and reveals the amount and source of a company's liquidity. By analyzing the cash flow statement, stakeholders can draw their own conclusions about a company's ability to meet its cash needs.

4. Financial dashboard:

   Used for internal reporting, a financial dashboard is an automated, graphical representation of a company's underlying accounting and operational data. Different dashboards can be configured to show any KPI or analysis that is appropriate for a particular manager. Real-time dashboards provide the most useful internal financial reporting.

5. CFO dashboard:

   This is an important example of a role-based financial dashboard and is one that summarizes the key data required by the most senior financial officer. Typical reporting on a CFO dashboard might be working capital KPIs, accounts receivable and accounts payable turnover, credit utilization, payroll data and budget trending, as well as summary financial statements.

Benefits of Financial Reporting

A financial reporting package serves many purposes beyond satisfying compliance and legal requirements. Key benefits of financial reporting include:

1. Identifying trends:

   Internal analysis of a company's financial reports can help the company spot trends in the business so that it can exploit emerging opportunities and mitigate risk from potential challenges.

2. Managing cash flow:

   Financial reporting helps a company stay on top of its cash balances and monitor cash inflows and disbursements, all of which is vital to businesses of all sizes and industries.

3. Enhancing working capital management:

   Real-time financial reporting helps senior management calculate and balance adequate current assets in order to meet current liabilities without creating an underutilized surplus. In a similar fashion, it helps manage debt, especially debt related to revolving credit lines and other short-term credit facilities, like credit cards.

4. Kickstarting budgets and forecasts:

   Financial reporting, especially the income statement, provides a solid foundation when creating future-looking analyses, as might be required for budgets, forecasts and pro-forma scenarios.

5. Optimizing operations:

   You can't manage what you don't measure. Internal financial reporting is a tool for helping a business become more effective and efficient, through KPIs and other regular reports.

6. Improving business partner relationships:

   A company enhances its relationships with its business partners, suppliers, customers, creditors and investors by being a good company to do business with. Financial reporting can help managers make more timely payments to suppliers, set competitive prices for customers, establish creditworthiness with creditors and conduct meaningful communication with investors.

Financial Reporting Requirements

Financial reporting requirements are constantly changing. The various standard setters, like the Financial Accounting Standards Board (FASB), International Accounting Standards Board (IASB) and Government Accounting Standards Board (GASB), are always tweaking the accounting standards to make financial reporting more accurate and useful. The SEC and the IRS update their rules in line with those tweaks, as well as in response to changes in the national economic climate and in government laws and programs.

Small, privately owned companies have fewer external financial reporting requirements than public companies. While the former are not required to release financial statements or other financial data to the public, they are required to file tax estimates and annual tax returns with the IRS. Additionally, lenders usually require various regular financial reports, such as specific debt covenant calculations. For those small companies interested in raising capital through smaller registered offerings, there is a dedicated SEC Office of Small Business Policy that provides guidance on financial reporting requirements.

Larger privately held companies sometimes voluntarily release financial reports to the public as a form of marketing. By giving the public some generalized information, they build interest among potential partners and acquisition targets, trading partners and the media. Their financial reporting usually is similar to that of large public companies, aiming both to satisfy their nonpublic stakeholders and to meet internal management purposes.

Public companies have the most stringent financial reporting requirements, which are primarily dictated by the SEC. The SEC financial reporting manual is hundreds of pages long, not including its guidance publications, called Staff Accounting Bulletins, which help CFOs and controllers interpret the rules. Most common SEC financial reporting requirements are the quarterly 10-Q, the annual 10-K, the 8-K for reporting significant events and Schedule 13D, which is filed when any person or entity attains 5% ownership of a single class of stock.

10 Use Cases for Financial Reporting

When a company tells its story through financial reporting, different stakeholders are listening for different reasons. Broad reasons are to track and analyze a company's current health — hence, the ever-present primary financial reporting use case of complying with regulatory, legal and tax requirements. But there are many other specific external and internal use cases for financial reports. Here's a list of 10 more:

External

1. By potential investors who are considering buying stock in a company.

2. For family, friends and private investors who are contemplating making an equity investment in a company.

3. For banks' analyses of credit applications for loans, lines of credit and letters of credit for overseas activity.

4. By credit card issuers evaluating a corporate or business credit card application.

5. For potential merger or acquisition activity.

6. For bargaining with labor unions.

Internal

1. For senior management, to analyze profitability at all levels: consolidated, by subsidiary, by location and by product.

2. To identify, analyze and manage cash flow for mature companies or assess burn rate for startup companies.

3. To build budgets, projections and forecasts.

4. To support decisions regarding business expansion or reduction.

Financial Reporting Examples

Private companies disclose limited financial information on their corporate website, usually in the form of press releases. However, there are thousands of publicly available examples of financial reports from public companies. Their reports are posted on their websites and in press releases, and are included in the SEC's publicly accessible EDGAR online database.

Here are the main examples:

Form 10-Q (quarterly earnings release):

At the end of each quarter, public companies file a form 10-Q with the SEC, a key financial report used by investors and the public markets. The 10-Q includes unaudited financial statements and summary commentary from company management, as well as supplementary disclosures and schedules for the just-ended quarter and for the fiscal year to date. In many ways, it is like a “mini” annual 10-K. These are important financial reports because they provide the public with three periodic updates throughout the year on how a company is doing, rather than having to wait 12 months for an annual 10-K.

They can have a significant impact on a public company's stock price, since they may signal significant trends, for good or bad. For example, a recent 10-Q from a major pet e-tailer attributed its 27% increase in net sales (compared to the same quarter in the prior year) to an increase in new customers, combined with a rise in how much continuing customers were buying. However, the e-tailer also discussed how supply chain challenges related to the COVID-19 pandemic might hamper future increases. The company's stock price dropped 9% the day after the 10-Q filing.

Notes to the financial statements:

The notes and supplemental schedules found in 10-K filings can be as informative as the financial statements themselves. For example, one interactive entertainment retailer commonly located in malls across the US discussed in the notes to its most recent 10-K the impact that recent changes in lease accounting standards (ASC 842) had on its financial results and its ability to renegotiate many of its 300+ leases.

Form 10-K, Part 1 — aka "The Business":

Another interesting part of 10-K financial reporting can be found in Part 1, which is a qualitative discussion of a company's business, including strengths, weaknesses and other important matters that provide context for the quantitative data in the company's financial story. For example, an interesting discussion of the impact that the COVID-19 pandemic had on one large fitness chain's operations can be found in Part 1 of its most recent 10-K.

Annual reports:

Annual reports are considered more "friendly" than 10-Ks because they contain charts, illustrations, photos and a letter from the CEO. Historically printed on glossy paper, annual reports are geared toward shareholders and contain much of the same basic financial data as financial statements. Additionally, they are often used as marketing material for employees, customers and the company's community of business partners. There are several searchable, commercial online repositories to help find annual reports, but they can also be found directly on most companies' websites. Digital annual reports are designed to reflect a company's brand and be interactive, combining financial data with playful illustrations, video and audio. For example, an athletic sports brand used chart generators and animation in its online annual report, earning it awards.

Management's discussion and analysis (MD&A):

The MD&A gives company management a platform to tell its story in an easy to understand, yet data-heavy, narrative. It's found in annual reports and 10-Ks, and discusses a company's performance over the past three fiscal years, with an emphasis on the most recent year's sales and income compared to past years. The MD&A is also an opportunity to discuss unusual events, trends and outlook. For example, a large technology provider discussed the operational results of its various cloud, licensing, hardware and services lines of business, and the reasons it anticipates future growth, in a recent MD&A.

Get Accurate, Real-Time Insights With NetSuite

Simply reporting correct numbers can be a challenge for many companies — and going beyond that to create truly useful financial reports can suck up far more resources. Meeting rigid external deadlines and ensuring timely reporting adds to the task. Using robust automation is the most efficient way to get the financial reporting process completed successfully in every fiscal period, with resources left over to analyze and act on the data provided by internal financial reporting. A solution like NetSuite Financial Reporting integrates a company's financial and operational data to provide templated and customized financial reporting that's updated in real time and securely available from anywhere with internet connectivity.

Conclusion

Financial reporting is the way businesses communicate financial data to external and internal stakeholders. External stakeholders — like regulatory agencies, current and potential shareholders and investors, and lenders — use financial reports to draw conclusions about a company's current and future financial health. Internal financial reporting is less rigid and used by internal management to inform decision-making. Rules and guidelines from GAAP, IASB, SEC and others provide a standard framework for financial reporting. Accounting departments can provide the most accurate and timely financial reporting by using integrated financial reporting software.

#1 Cloud
Accounting Software

Financial Reporting FAQs

What are the four basic financial reports?

There are three basic financial statements: the income statement, balance sheet and statement of cash flows. When a fourth is referenced, it's usually the statement of retained earnings.

How is financial reporting done?

Financial reporting is typically the last step in the accounting close, although automated software can provide real-time access to the data. It is done in compliance with GAAP, IFRS and SEC rules. Internal financial reporting is done by using financial dashboards, scheduled reports and ad hoc reports.

Is financial accounting for external users?

Is financial accounting for external reporting?

Is financial accounting used for internal or external?

What report is used in external reporting?