Impact of presentation of actual financial results/performance by MSMEs in their growth and competitiveness

The presentation of actual financial results / performance by MSMEs plays a wider role in their growth and competitiveness. By depicting the financial results, various stake holders like banks, financial institutions, Government Departments, creditors impose their confidence in dealing with such MSMEs. Financial results of a Micro, Small or Medium Enterprises are linked with the proper book keeping. Book keeping is a set of rules for recording financial information in a financial accounting system. Proper book keeping is important for sustaining and expanding a business. It forms the bedrock of managing and determining the performance of a business.

The most important reason for keeping good records is that it’s a legal requirement. MSMEs also need to keep records relating to assets for capital gains tax purposes for a longer period. The other reasons for keeping good business records are:

• Make it easier to complete the activity statements and prepare annual income tax and fringe benefits tax returns.

• Monitor the health of the business and be able to make sound business decisions, for example, by keeping track of debtors and creditors.

• Help MSMEs to manage cash flow so they can pay their tax when it falls due.

• Demonstrate the financial position to banks and other lenders, and also to prospective buyers of their business.

In addition to above, the other purpose of maintaining accounting records is to pave way for easy auditing according to the set standards. It is worth noting that in most parts of the developing economies only large companies would comply with international auditing standards. Small and Medium Enterprises only audits for tax purposes or when needs to access credit. Moreover, lack of accountability may also create loopholes for fraudulent activities. Proper documentation will help in sealing any fraudulent temptation. Besides the proprietor is able to track the progress of the business, prepare financial statement, and in monitoring the tax returns.

It is advisable for small businesses to outsource for the services of accounting firms to assist in book keeping and offer necessary advice on business management. Well documented transaction could also be embraced by using new technologies.

Such gadgets should perform functions not limited to adding and subtracting items, provide tax table and print receipts. The importance of accounting is to assist in acquiring loans from financial institutions “most banks will only accept businesses that are properly documented.

Most business use one of the two basic accounting methods in their bookkeeping systems: Cash basis and accrual basis. Cash basis is the simplest one between the two and is used for small business. Income is recorded when it is received, and expenses are reported when they are actually paid.

With accrual method, income and expenses are recorded as they occur, regardless of whether or not cash actually changed hands. This is highly recommended for any business that sells on credit, as it more accurately matches income and expenses during a given period. Where as cash basis is may be appropriate for a small, cash basis business or a small service company.

Users of Accounting Information

There are two main users of Accounting Information namely Internal (Direct) users and External (Indirect) users.

Internal (Direct) Users:

They are those who are within the organization. They are made up of:

• Board of Directors,

• Management,

• Owners/shareholders

• Employees/Workers.

External (Indirect) Users:

They are those outside the organization but see to the development of the firm. They include:

• Banks,

• Creditors/Suppliers,

• Government Agencies,

• Customers,

• Prospective buyers and Investors.

Importance of Financial Results

Book keeping is a tool for financial control which enables managers to know the financial positions of their businesses and to take certain control measures to improve corporate performance. It provides a wealth of information that is used by managers, investors, leaders, customers, suppliers, and regulators. An analysis of its statements can highlight a company’s strengths and shortcomings, and managers use this information to help improve performance. If management is to maximize a firm’s value, it must take advantage of the firm’s strengths and correct its weaknesses. This is done through the analysis of the financial statements. Financial statement analysis which can be obtained through book keeping involves comparing the firm’s performance with that of other firms in the same industry and evaluating trends in the firm’s financial position over time. These studies help managers identify deficiencies and then take corrective actions to improve situation. From the manager’s standpoint, financial statements analysis is useful both to help anticipate future conditions and, more important, as a starting point for planning actions that will improve the firm’s future performance. Book keeping convey substantial information about the financial strength and current performance of an enterprise. Although they are prepared primarily for users outside the organisation such as the banks and non-banks institutions, managers also find their organisation’s financial statements useful in making decisions. As managers develop operating plans, they think about how those plans will affect the performance of the organisation, as conveyed by the financial statements. From the bookkeeping, financial statements such as the Balance sheet, Income statement, Retained earnings statement and Statement of cash flows are obtained. The balance sheet is the statement that shows the assets, liabilities and equity of an organization at a point in time. Thus, the balance sheet of an organization portrays the financial position of that firm at a point in time. The Profit & Loss Account reports the income and expenditure for the period. The statement of cash flows shows how cash was obtained during the period and how it was used. All these statements help in the decision making process of the firm or organization.

Financial Statements

One of the primary benefits of a good book-keeping system is to generate timely useful financial statements. Most software packages offer capability of producing balance sheet, income statement and cash flow statement.

The importance of Financial Statements is:

1. Enable to asses the short term working capital

2. Set Targets

3. Analysis of improving the profit margins

4. Efficient Organization of sales and expenses

5. Better tax planning

6. Planning for employee benefits

7. Manage proactively

8. Helps in borrowing money from financial institutions

9. Financial planning for investors &

10. Making the business more profitable

Responsibilities of an accountant

In modem times traditionally, the accountant was expected to compile and present the financial information to the owners of the entity at the end of the accounting period. But with the advent of cost accounting, management accounting and financial management the responsibility and field of accountant’s functions have grown enormously.

The function of accounting beyond the traditionally accepted double entry routines can be grouped under:

1. Finance function

Every business faces the problem of raising and using the funds. The responsibility of accountant under finance function is to ensure that:

• funds are obtained at the lowest cost and

• funds are optimally used i.e. highest return is obtained.                                                                                                                                                                     2. Control function

Accountant has to do the following to discharge his responsibility of being the controller.

• To communicate the goals as approved by the management to individuals in their respective fields.

• To make all the managers and various other persons leading their units, aware of their responsibility and assist them in achieving their goals as efficiently as possible.

• Look after the coordination of various activities of all the organizational units so as too optimize results.

• Evaluate the performance and the degree of achievement of various responsibility centres as compared to the goals set for them and assets their efficiency.

• Identify areas of unsatisfactory performance and assist in the formulation of corrective measures at both ends.

3. Planning function

The process of planning involves long term decision as well as short term actions. In the short-term decision has to be taken regarding:-

Selection of one alternative out of many e.g.. bicycle manufacturer should decide whether to manufacture all the parts of the bicycle himself or purchase the parts and only to assemble.

Profit maximization or loss minimization: For problems involved in planning function accountant has to depend not only on accounting information but also on outside information. As regards long term planning, the task is to plan for continuity and development of the firm.

Importance of Tax Compliance

MSMEs can get following benefits on compliance of tax provisions:-

• MSMEs can save themselves from penal provisions by timely depositing the advance tax and TDS.

• The risk of tax inspections, both formal and informal, is significantly reduced.

• MSMEs with clean record of tax payment to the Government helps them to avail opportunities to access bank finance quickly as the banks/FIs impose faith on them.

• Opportunities to get government contracts – usually restricted to tax registered entities.

• In a VAT regime, small un-VAT-registered firms lose business opportunities

• Tax compliance by MSMEs paves way to strengthen relations between the local small business community and the local government.

Compliance of Statutory requirements

The following are the statutory requirements which the MSMEs have to comply while preparing their financial statements:

1. Maintenance of Books of Account under Income Tax Act: 

Section 44AA and Rule 6F of the Income Tax Act requires for compulsory maintenance of books of account by different taxpayers. In case of any business the following conditions applies:- 

• Where income from such business exceeds Rs. 120,000 in any of the 3 preceding previous years or is likely to exceed during the current previous year (or)

• Where the turnover from such business exceeds Rs. 10,00,000 in any of the 3 preceding previous years or is likely to exceed during the current previous year or

• Where the assessee has claimed lower income than as prescribed u/s 44AE, 44BB or 44BBB or

• Where the assessee has claimed lower income than as prescribed u/s 44AD and his income exceeds the maximum amount which is not chargeable to income-tax during such previous year.

In all such above cases, they are required to maintain “books of account and other documents” as may enable the Assessing Officer to compute their taxable income under the Income- tax Act. Any business other than mentioned above is not required to maintain books of accounts.

Specified books of Accounts:

• Cash book

• Journal,

• Ledger;

Rule 6F(5) provides that the books of accounts and other documents are to be kept for at least 6 years from the end of relevant assessment year. Failure to maintain books of accounts and other documents or to retain them as required u/s 44AA attracts penalty of Rs. 25000.

2. Accounting Standards 

Accounting Standards are formulated with a view to harmonise different accounting policies and practices in use in a country. Accounting standards are concerned with the system of measurement and disclosure rules for preparation and presentation of financials statements. They appear with a set of authoritative statements of how particular types of transactions, events and other costs should be recognized and reported in the financial statements. Accounting standards are devised to furnish useful information to different users of the financial statements, to such as shareholders, creditors, lenders, management, investors, suppliers, competitors, researchers, regulatory bodies and society at large and so on. 

In India, Accounting Standards, are a set of accounting standards notified by the Ministry of Corporate Affairs which are converged with International Financial Reporting Standards (IFRS). These accounting standards are formulated by Accounting Standards Board of Institute of Chartered Accountants of India. Now India will have two sets of accounting standards viz. existing accounting standards under

Companies (Accounting Standard) Rules, 2006 and IFRS converged Indian Accounting Standards.

Accounting Standard	Description
Accounting Standard (AS) 1	Disclosure of Accounting Policies
Accounting Standard (AS) 2	Valuation of Inventories
Accounting Standard (AS) 3	Cash Flow Statements
Accounting Standard (AS) 4	Contingencies	and	Events  Occurring
	After the Balance Sheet Date
Accounting Standard (AS) 5	Net Profit or Loss for the Period, Prior
	Period    Items    and    Changes    in
	Accounting Policies
Accounting Standard (AS) 6	Depreciation Accounting
Accounting Standard (AS) 7	Construction Contracts
Accounting Standard (AS) 8	Accounting	for	Research	and
	Development
Accounting Standard (AS) 9	Revenue Recognition
Accounting Standard (AS) 10	Accounting for Fixed Assets
Accounting Standard (AS) 11	The  Effects  of  Changes  in  Foreign
	Exchange Rates
Accounting Standard (AS) 12	Accounting for Government Grants
Accounting Standard (AS) 13	Accounting for Investments
Accounting Standard (AS) 14	Accounting for Amalgamations
Accounting Standard (AS) 15	Employee Benefits
Accounting Standard (AS) 16	Borrowing Costs
Accounting Standard (AS) 17	Segment Reporting
Accounting Standard (AS) 18	Related Party Disclosures
Accounting Standard (AS) 19	Leases
Accounting Standard (AS) 20	Earnings Per Share
Accounting Standard (AS) 21	Consolidated Financial Statements
Accounting Standard (AS) 22	Accounting for Taxes on Income
Accounting Standard (AS) 23	Accounting	for	Investments	in

 

 

 

 

ssociates  in  Consolidated  Financial

Statements

Accounting Standard (AS) 24   Discontinuing Operations

Accounting Standard (AS) 25   Interim Financial Reporting

Accounting Standard (AS) 26   Intangible Assets

Accounting Standard (AS) 27   Financial Reporting of Interests in Joint

Ventures

Accounting Standard (AS) 28   Impairment of Assets

Accounting Standard (AS) 29   Provisions,  Contingent  Liabilities  and

 

Contingent Assets

 

Accounting Standard (AS) 30	Financial	Instruments:	Recognition
	andMeasurementandLimited
	Revisions  to  AS  2,  AS  11  revised
	2003), AS 21, AS 23, AS 26, AS 27,
	AS 28 and AS 29
Accounting Standard (AS) 31	Financial Instruments: Presentation
Accounting Standard (AS) 32	Financial	Instruments:	Disclosures,
	and  limited  revision  to  Accounting
	Standard (AS) 19, Leases

 

 

 

3. Annual Filings with the Registrar of Companies (RoC)

 

As a part of Annual e-Filing, Companies incorporated under the Companies Act, 1956 are required to efile the following documents with the Registrar of Companies (RoC):

 

Sr.	Document			e-Form
No.
1	Balance-Sheet	Form 23AC to be filed by all Companies
2	Profit   &   Loss	Form 23ACA to be filed by all Companies
	Account
3	Annual Return	Form  20B  to	be	filed	by	Companies	having
		share capital
4	Annual Return	Form  21A  to	be	filed	by	companies	without
		share capital
5	Compliance	Form 66 to be filed by Companies having paid
	Certificate	up capital of Rs.10 lakh to Rs. 5 crore

Analysis of financial results

1. Budgeting as a Control Tool

A budget serves as a control tool to provide standards for evaluating performance.

A budget can cover any of the following:

• Profit planning – forecast of revenues and expenses

• Cash budgeting – forecast of cash needs and sources

• Balance sheet forecasting – anticipating future assets, liability and net worth position of the business

• Profit Planning

The sales forecast and corresponding costs and expenses are the major inputs to a Profit Plan. It enables the entrepreneur to see the complete picture and to analyze how each cost and expense item behaves in relation to changes in the level of sales. Budgeted amounts are then compared with actual results and variances are analyzed and corrected.

• Cash Budgeting

A Cash Budget is used to determine anticipated cash inflows and outflows so that the business maintains the optimum level of cash. It also provides information on whether or not additional financing is required to address cash shortfalls.

The first step in preparing a Cash Budget is to list down all transactions having cash flow implications. Among the items included under Cash Receipts are: collection of accounts receivable, cash sales, and proceeds of borrowings. Cash Disbursements, on the other hand, may include cash operating expenses, raw material purchases, equipment and other asset purchases, and repayments on bank loans (including interest). From this exercise, a Net Cash Balance is derived. This is then carried over to the next period (month or quarter, depending on the level of detail of the cash budget) as the beginning cash balance. Some businesses choose to have a pre-determined minimum required cash balance which they maintain at all times.

• Balance Sheet Forecasting

This involves estimating asset levels to support the forecasted sales targets. For example, if the higher sales targets would necessitate opening more retail outlets, then necessarily, an investment in fixed assets is a must. Moreover, changes in the funding mix (i.e., a higher level of long-term loans vs. short-term borrowings) may also occur.

2. Financial Management 

Financial management (FM) among Indian MSMEs is a serious issue. FM is the barometer to measure business performance on an on-going basis. Ironically, FM is also a low priority as most of the MSMEs and MSME owners often tend to ignore this part of the business. Awareness needs to be created about FM’s importance for business success.

Indian MSMEs are facing challenges in nurturing and developing their management skills. Apart from this, marketing and innovation, finance and HR are some critical areas where MSMEs have a lot of scope to work on. MSMEs must understand that these are important and business critical aspects.

Entrepreneurs ignore book keeping and financial accounting at their own peril. They miss out on compliance, raising finance and managing business — in that order as they grow from micro to small to medium enterprises. This is directly in proportion to the increase in the size of their business. It is extremely important to adopt the best possible financial processes within their business operations.

In business, one must appreciate short-term and long-term considerations. Moreover, one must know how to balance cost-benefit. This is where entrepreneurial ability is important. A wise decision on marketing initiatives is indicative of future and business growth.

Even though the best of the tools are available today to assess the viability of projects, the two age old principles that work in finance are trust and credibility. MSME owners must concentrate on building business and at the same time building credibility with entire lending ecosystem – be it banks, Venture Capitalist, Private Equity or the public.