Interim statements or year-end statements: what each tells a lender

Every client review comes down to two sets of numbers. The year-end financial statements usually involve a CPA. The interim statements are the monthly financials the client prepares in-house and sends to you. They answer different questions, and treating one as if it were the other is a common way to be misled.

Year-end statements: checked, but late

Most of the businesses a factor funds are privately held. They don’t publish their financial statements, and there’s no public filing to look up. What you have is what the client gives you. Year-end statements often arrive months after the fiscal year closes, so they describe the business as it was, not as it is.

What they offer is a degree of independence, which depends on what the CPA was engaged to do:

• An audit gives the most assurance. The CPA has tested the figures and gives an opinion on them.
• A review gives limited assurance, based mainly on inquiry and analysis.
• A compilation gives none. The CPA has put management’s figures into financial statement form.

Read the CPA’s report before anything else. A qualified opinion, or a going concern paragraph, changes how you read every figure that follows. And note which kind of engagement it was before you rely on any balance.

Use year-end statements for:

• equity and its trend over several years;
• the shape of the balance sheet: what is owed to whom, and when;
• officer loans, related-party balances and debt with other lenders;
• a fixed point to reconcile everything else against.

Watch for: statements that arrive later each year, a change of CPA firm, or a step down from a review to a compilation. Also watch for a change of fiscal year end.

Interim statements: timely, but unchecked

Interim statements are usually monthly, and nobody outside the business has checked them. They are only as good as the bookkeeping behind them. They are also the only up-to-date picture you have.

The usual weaknesses are predictable:

• Inventory is often estimated rather than counted, so gross margin moves as the estimate does.
• Accruals and prepaid expenses are often missing, so costs land in the month they are paid rather than the month they belong to.
• Depreciation, bonuses and income taxes may be left out until year end, which makes monthly income look better than it will end up.
• Accounts receivable may include balances the year-end process would write off or reserve against.

None of that makes them useless. It means reading them for direction and consistency rather than precision.

Use interim statements for:

• results since the last year end: sales, margin and operating expenses, month by month;
• the receivables balance, to compare with the A/R aging you receive;
• cash, the bank line and accounts payable, including payroll and sales tax liabilities;
• early signs of the problems the year-end statements will confirm months later.

Make them meet

The most useful test is to compare the two at the same date. Take the interim statements for the month of the fiscal year end and set them beside the year-end statements.

If net income on the December interim statements was $180,000 and the reviewed year-end statements show $95,000, ask where the $85,000 went. Usually it’s the year-end adjustments: an inventory write-down, depreciation, bonuses, a bad debt. Sometimes it’s something the monthly figures were hiding. Either way, it tells you how far to trust this year’s interim statements. The same gap is probably building again.

Do the same with receivables. The accounts receivable total on the interim balance sheet should agree with the A/R aging for that month. The year-end receivables should be close to both, after any allowance for doubtful accounts. A difference nobody can explain is a question for the next review, not a footnote.

Tax returns can help too. They’re prepared on a tax basis, not under GAAP, so they won’t match exactly. But a large gap between reported sales and the financial statements deserves an explanation.

When the two disagree

A gap between interim and year-end statements isn’t a reason to stop funding. It’s a reason to understand the business better. Ask the client’s CPA, not just the client, what the year-end adjustments were and why. If the same adjustments come up every year, you can allow for them when you read the monthly figures. If they’re new, or bigger than before, something has changed. A client that’s reluctant to explain the gap is telling you something too.

What to ask for

• The full year-end financial statements with the CPA’s report and the notes, not a summary page.
• Monthly interim statements with a balance sheet, not just an income statement.
• The year-end interim statements alongside the CPA’s statements, with the reconciling items explained.
• Who prepares the monthly figures, and whether inventory is counted or estimated.

Year-end statements tell you where the business was. Interim statements tell you where it says it is. Your job is to judge how far apart those two are likely to be.