What Is An Annual Report? (Definition And How To Use One)

Updated 13 December 2022

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Shareholders, investors and analysts receive information from companies in different formats. An annual report is one of these key documents. This report contains varying amounts of information, depending on the business and provides investors with updates on the company's financial position along with its performance. In this article, we discuss what is an annual report, understand some of its components, find out its importance and review some steps on how to use one.

What Is An Annual Report?

A better understanding of "What is an annual report?" can help stakeholders and customers make better investment decisions. Companies publish their annual reports to summarise their previous year's activities. It is a regulatory report that gives shareholders and investors all the financial and operating details of a company. Annual reports can show how a company is progressing towards its objectives and the state of its finances. To reduce future debt, the internal leadership of the company reviews the annual report each year.

Contents Of An Annual Report

In general, annual reports follow a specific format that organises the information in a simple and comprehensible manner. It includes the following items:

Letter from the CEO: It provides a summary of the company's performance and achievements in the previous year.
Basic information about the company: The first page of an annual report usually features information about the company, its location and the management structure.
Risk factors: This section provides a detailed overview of the company's risk factors and their impact on its financial position. A risk assessment may also examine potential risks the company anticipates arising in the coming year and ways to avoid them.
Property information: The information in this section relates to all of the company's properties, both owned and leased. There may be a description of each property, what the company uses it for and how much it costs to maintain, rent or pay other associated expenses.
Important changes to operations: An analysis of business operations generally includes any significant changes over the past year.
Important changes to finances: Most businesses also report any notable changes in the company's financial position over the past year.
Stockholder information: It provides information about a company's shares, dividends, shareholders and any other information regarding market equity. The share price of the stock and who owns it are important factors for investors.
Analysis of financial condition: This section summarises the company's financial condition and future prospects. This section is also known as management discussion and analysis (MD&A).
Cash flow statement: The cash flow statement gives details of the amount of cash that is available for use. The statement helps analyse investments, operations and financing activities.
Auditing report: Auditors audit companies to determine whether their accounting systems meet the necessary requirements and industry standards.
Market segment information: Depending on the report, companies may also choose to include customer segment information, which analyses and provides information regarding the company's customer base. This can help businesses target the right audience and position their brands accordingly.
Research and development goals: Businesses may use this report to share their research and development goals for the next year. A strategic plan describes the goals and the resources the company requires for accomplishing its mission.

Why Is An Annual Report Important?

The following are some reasons why a company's annual report is important:

Business communication

Annual reports are imperative for business communication. It serves to introduce the Board of Directors to key stakeholders and personnel within the company. The chief executive officer (CEO) or board chairperson shares a morale-boosting message through the report. The message addresses the employees thanking them for their hard work during the past year. It also provides them with encouragement for the succeeding year. Such a report sets a positive tone. The article also discusses the marketing strategies adopted, adaptation to changing business conditions and the company's future plans.

Marketing tool

Annual reports can serve as a marketing tool for the company. A common theme used in annual reports is one that focuses on a historical milestone or how their technology is improving lives. Including positive stories about the company's employees, customers and key moments in its history can appeal to investors and customers.

Focus on key milestones

Annual reports provide a summary of the company's achievements and information about its mission and history. A timeline of key company milestones depicts the company's progress over time. It also lists the company's research advancements, market share gains and honours received. Stakeholders and customers can use this information to make informed investment decisions.

Company financial information

In their annual reports, companies retain award-winning designers to showcase financial information to appeal to investors. Reports contain balance sheets, cash flow statements, income statements and financial summaries in an organised manner. Some reports may also include contributions to provident funds or stock options. The financial information in this section assists the reader in understanding how the company operates, revenues it generates and the company's growth trajectory.

Who Uses Annual Reports?

An annual report is a valuable resource for anyone considering or currently holding financial investments in a business. Shareholders receive annual reports that contain pertinent information about the company's financial performance and changes to its operations over the past year. These reports are available for anyone to read:

Current shareholders: Annual reports help shareholders to understand the current state of the company and make investing decisions. In addition, it expresses the company's future goals and objectives, which encourages current shareholders to invest long-term.
Potential shareholders: Aside from providing information to existing shareholders, annual reports can also attract new shareholders. Potential investors use annual reports to make investment decisions.
Employees: Many employees are also shareholders of a company because of stock option plans and other investment schemes. Employees can learn of a company's different focus areas through an annual report.
Customers: The purpose of annual reports is to provide a comprehensive overview of companies and help prospective customers decide which to invest in. Annual reports allow companies to highlight the company's core values and objectives to attract customers interested in working with them.

How To Use An Annual Report?

You can maximise the information you get from reading an annual report by following these steps:

1. Examine debts carefully

Investors may examine your debts before contributing to the company. A company with low-interest rates or few debts may present less of a risk to investors in the long term. The annual report details the company's debts, its lenders, the interest rates and its plan to repay those debts. In addition, it is pertinent to consider if the company can generate enough income to pay off its debts and begin turning a profit within a reasonable timeframe. By paying off its debts early, a company can become more profitable.

2. Analyse the executive structure of the organisation

Leadership in a company can have a significant impact on its performance. Consider the team's credentials, their outlook on the company and their strategies for reducing debt and increasing profits. A company's long-term goals, along with information about its management team, can help investors decide whether they want to invest.

3. Assess the company's risk factors

A risk factor is any factor that affects a company's financial health, such as debts outstanding or legal cases. Investors may prefer companies with fewer risks. The information in the annual report of a company can help investors make informed decisions.

4. Review the company's market performance

Analysing a business's financial factors also requires consideration of the company's market performance. An excellent track record of steady growth and low debt can result in a higher stock price for a company. As a form of liquidity, a company can buy or sell company shares quickly, allowing it to cover unexpected expenses or supplement its cash flow. It is also important to consider the stock's change in value over the last year. Trends that indicate good growth often signal strong company fundamentals.

5. Examine the debt-to-equity ratio

By dividing a company's total liabilities by its shareholders' equity, the debt-to-equity ratio (D/E) reveals a company's financial leverage. Corporate finance uses D/E ratios to measure performance. This ratio indicates to what extent the company is borrowing money to finance its operations as compared to wholly owned funds. It is a measure of debt coverage provided by shareholder equity in a downturn.

6. Ensure consistency

For a complete understanding of how the company's various sectors interconnect and contribute to its success, read the report in full. The uniformity of the report indicates the content is accurate and well-written. It ensures that all information is accurate and transparent. Furthermore, it makes the information more accessible to all readers.