Finance & Accounting

What are Some Red Flags or Warning Signs to Look for in Financial Statements?

If you want to know just how well your business is doing, then looking at some kind of financial statement could be the best way to go. So if you want to make sure that all of your business operations are sound and if you are basically operating within the financial limit of your business, then you will need to make sure that all of your financial statements are sound. You have got to make sure that your financial statements, which are prepared by an external service provider, should be up to the highest standards. There are a few warning signs or red flags that you can look for if you are reading these financial statements.

Companies love to hide their dirty laundry in the fine print of the annual financial reports and notes. As you read through the notes, keep an eye out for these possible red flags.

Big Changes or Significant Events

Significant events are not the only sources of red flags. You can also see signs of difficulty in the way the company values ​​assets or in making decisions it changes accounting policies. The grades, the long-term obligations that the company has its retirees can also be a good place to find some possible red flags.

Look at The Financial Statement Notes

Every time you see notes titled Restructuring, Discontinued Activities, Accounting Changes, it is a smart idea to go looking for red flags that may mean for a number of years continuing costs. The company can detail the cost of each of these changes. Be sure to consider long-term financial implications that can be a burden on the future of the company’s earnings – which can mean suffering stock prices. Often, the company may use those notes as a way to hide financial statement red flags for their annual financial reports

Detailed Lawsuits

Also be on the lookout for potential lawsuits that can result in large settlements. If you see that a lawsuit has been filed against the company, look for stories in the financial press that discuss the process in more detail than what is included in the appendix.

Too Many Accounts Receivable

If you notice that there are a lot of accounts receivables that are listed in the financial statements, then this could be a warning sign that you need to pay attention to. To determine if there are a lot more accounts receivables that are listed, then you should look at the past history of accounts receivables. You can usually get a clearer picture of just how much accounts receivable that the business should have within one quarter. It is important to take note of just the number of the average accounts receivable so that you can check if they have got the right number on their financial statements.

Overvaluation of Assets and Liabilities

Valuation of assets and liabilities leaves room for accounting creativity. If the assets are overvalued, you can be led to believe that the company owns more than it actually does. If liabilities are undervalued, you may think the company owes less than it actually does. Either way, you get a false sense of the company’s financial position. If you do not understand the value of something, ask questions from the company’s financial staff until they present the information in a way that you understand. If you are confused about the presentation of assets or liabilities valuation, do not worry, other financial readers are also confused. So it may be a good idea to get further details on the real valuation of the company’s assets first.

Sudden Changes in Accounting Policies

If there are any recent or sudden changes in accounting policies of the business, then that may be a warning sign.  How a company puts together its numbers is just as important as the numbers themselves. The accounting practices the company takes to drive those numbers. Does a company’s financial statement in the notes indicate that it changes accounting policies? This may be a financial statement red flag that you need to pay attention to. Try to ask the reasoning behind the changes in accounting policies if you want to get the truth behind any of it.

Changes in accounting policies are not always indicative of a problem. In fact, many times, the change of requirements is specified by the governing body.

If you see a change in accounting methods, but you do not see an indication that the law required it. Then you need to delve deeper into the reasons for the change and find out how the change will affect the valuation of assets and liabilities or that Network of the company income. You may find an explanation in the accounting policies, but if you do not understand the explanation there, contact the Investor Relations department.

Undervaluing Future Payment Obligations

Obligations for future payments are a greater burden on a company’s resources than debt obligations. The reference to the financial statements related to pension benefits is probably one of the hardest to understand. Pay particular attention to the charts that show the company’s long-term payment obligations to retirees and the money available to pay those commitments.

These are some of the signs that you need to look for if you want to get a clearer idea of the real picture that the company’s financial statements may fail to present. It would be a good idea to take a closer look at all of the financial statements that your company may have recently processed or received from the accounting department. You can try to look for these warning signs in any financial reports or statements that you are handling.

If you find a clue that the firm is having difficulties meeting the obligations stated either in the text of this note or the charts, it may be a sign of a big cash flow problem in the future. Do not hesitate to ask questions and ask if you do not understand the presentation.