Balance sheets, income statements and cash flow statements tell a story about the financial situation of the company. However, numbers don’t always tell the full tale. In order to make an informed business decision, it’s important to take a look at the whole picture, which means also considering the non-financial factors in accounting. These can be included in the financial documents or added on separately, and help you go beyond just the cold, hard numbers.
TL;DR (Too Long; Didn't Read)
Non-financial factors such as an unresolved lawsuit are typically disclosed in the footnotes attached to financial documents.
Understand the Full Disclosure Principle
The Full Disclosure Principle in accounting basically states that if any material information is important for an investor or lender, then it should also be included in the financial statements. As a result, you will often see several pages of footnotes attached to financial documents. There is a wide range of information that can be included in those footnotes.
If your company is involved in a major lawsuit, for example, this is material information that affects the financial standing of the company. If, when you prepare your financial statements, there is no verdict in the lawsuit, then it’s not clear if your company will have to pay a significant amount of money if you lose. Whether or not you win the case will directly affect your business, and as such, it is a non-financial factor of accounting that should be included with your statements.
Take into Account the Market and External Conditions
The overall state of the economy affects every business. In addition, consumer behavior and consumer insight regarding your business play a major role in whether you succeed or fail. It’s also important to take note where your business fits into the market at the time of preparing your financial statements. For example, if your business emits greenhouse gas emissions and there is a lot of backlash from the general consumer base regarding air pollution, then this may affect your sales that year.
In addition, the strengths and weaknesses of your competitors are something to note as they will have a direct impact on your business. If your competitor develops a new product that you currently don’t sell, this will give them a leg up in the market.
Review Changing Government Guidelines
Local and federal governments have various checks and balances set in place for businesses, which can fluctuate and cause disruption to your operations if you’re not prepared. This non-financial factor is important because it affects the legality of your business. Be sure to keep up to date with current and future legislation that relates to your company. For example, if health and safety regulations for your industry will change within the next year, you need to ensure the machinery in your factories can meet those new guidelines – and this can come at a great cost.
Intellectual property plays a major role in many organizations too. Examine any potential threats to the IP of your business and see whether it’s a material non-financial factor you need to consider.
Beware of the Internal Human Factor
The way the company is run affects everything down to the number of vacation days employees are allowed to use and the kind of stock options they are allowed to take advantage of. Numbers alone don’t run an organization – people do. The kind of strategies in place within a business can dictate whether it rises or falls. It’s also imperative to keep improving your staffs' morale and focus on recruiting new, top talent. Building relationships with suppliers, vendors and customers are necessary for success, regardless of the kind of industry you’re in. Understanding the culture of your business is also paramount when considering the financial position of the company. Don’t ever underestimate the human factor.