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The Importance Of Transparency In Financial Reporting

Aug 17, 2007
No one can ignore the importance of transparency in financial reporting, because people make big decisions regarding the investments based on financial reporting. Investors want more transparent information about the financial data of the company. In fact, it is the quality of report, which helps investors in making certain investment decision. The irony is that some companies prepare financial reports, which are the tools for giving insight to the investor, in such a way that rather than providing required information correctly they skillfully hide the facts. It is advisable to the investors that those companies who do not understand the importance of transparency in financial reporting should be avoided. Making investments in such companies is risky at best.

Meaning Of The Word Transparent
Before discussing importance of transparency in financial reporting, you must first understand what the word transparent means. The best definition of transparent in business circles is financial statements of high quality. There are so many definitions in the dictionary. However, the relevant meanings here are very clear, easily understood, candid, and frank.

Here is an example. Think of two companies having similar financial leverage, market capitalization and overall market risk exposure. Take for granted that the earnings, growth rate of earnings, and Return On Capital (ROC) are also same. They have only one difference and that only difference is very crucial for the market analysts. The first company is running only one business and the financial reporting is easy to understand. On the contrary, the second company is involved in running several types of businesses and has complex financial reporting. Now which company would you prefer making an investment in? Chances are that experts will favor the first company because of simplicity and transparency in financial reporting.

Companies that understand the importance of transparency in financial reporting, are also well informed about the psychology of the investors. A complex and opaque financial report gives no idea about the true risks involved and real fundamentals of the company. Here is a simple example of this. An important indicator of future growth of a company is how it has invested the money. When, after going through the financial reports, you cannot find any concrete information regarding the investments made by the company because of so many holding companies, then evaluating investments becomes difficult. Obscure statements also hide the level of debt, thereby hiding whether the company is on the brink of bankruptcy.

Additional Help
There are companies you can find online that are capable of helping you find the correct financial analysts for your business. Remember, clarity is of the utmost importance.
About the Author
David Gass is President of Business Credit Services, Inc. His company publishes a free weekly e-newsletter on Small Business Consulting at their web site http://www.smallbusinessconsulting.com.
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