9 Red Flags Revealed in Financial Statements of SMEs and Start Ups – Part 2
- High Inventory Rate Vs Low Sales
When a high inventory rate is recorded, it means the turnaround of the stock is fast to produce the finished goods. However, it does not make sense with a high inventory rate but a registered low sales volume. Leakage in the supply chain could likely be one of the reasons.
- High Loan Amount to Directors
When excessive amounts of loan to the director(s) are recorded, lenders view this as the company is not using its cash inappropriate manner, or directors are misusing company funds or moving cash out of the company.
- High Receivables Vs Unhealthy Aging
Trade receivables are acceptable if it falls within 1-2 months or within the industry credit terms offers to clients. However, a high percentage of receivables for more than 4 months is showing signs of an unhealthy collection pattern.
Cash Flow Statement
It is inaccurate to conclude that the total cash collected is the same as total revenue for the accounting period unless your business is based on hard cash received upon issuance of invoices in the same accounting period.
- Cash paid out to questionable investment.
Cash has been paid out to invest in companies where directors have personal interests, for purchase of assets/properties/stock in individual names or assets which has no relation to the generation income for the company.
- High Revenue vs Low inflow of Cash
Such situations exist when a company has made lots of sales by issuing invoices but cash from sales is yet to be collected. Any uncollected cash from concluded sales of more than 6 months should require the attention of key executives.
- High Paid Out to Directors/Key Management Vs Low cash for Business Operation
It is acceptable to pay out good remuneration but not when the business is facing tight cash-flow to pay the expenses of the business.
As mentioned, this is not an exhaustive list. There are many other observations in financial statements that would benefit business owners. I hope the above 9 Red Flags help in your strategy to excel in your business or new startups. Don’t forget to follow me on my next article to get some insights on Red Flags revealed in Operation Process.