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The Case for SMEs to Consider Integrated Thinking and Reporting
by Paul Thompson, Director, European Federation of Accountants and Auditors for SMEs | October 17, 2017 |
The world's largest companies are often regarded as leading the way for small- and medium-sized entities (SMEs). But that's not how it is or at least not how it has to be. The evidence, from government statistics through to academic research, demonstrates that SMEs not only have the greatest impact on economy and society but they are also the primary drivers of innovation and change. And, where SMEs lead in product and service innovation they can also lead in the innovation for integrated reporting.
There’s a fast growing body of compelling evidence on the substantial benefits organizations gain from integrated reporting. But what about the benefits for SMEs? Perhaps most strikingly, the B20 (the G20's business arm) recommended promoting integrated reporting as a key means of improving SME reporting with a view to building trust around past and future performance. And some commentators and researchers have written on integrated reporting’s relevance and value to SMEs.
There is a clear, concise and persuasive case why SMEs and their stakeholders, from owner managers through to end consumers, stand to benefit greatly from considering integrated thinking and integrated reporting. And in a follow-up article we provide a starter kit on how SMEs can best go about doing it with suggested initial steps and directions to helpful resources including illustrative examples.
SMEs globally account for the majority of private sector economic activity, employment, social impact, and environmental footprint. In their midst are tomorrow's largest, most influential, and impactful companies. Amazon, Alibaba, Uber, and Didi Chuxing were yesterday's SMEs. But unlike many larger companies, SMEs often have the latitude to take a long-term view and pursue objectives above and beyond simply profit. Many SMEs are run by owner managers who see business as integral to and a reflection of their lifestyle and values. This lends itself to a way of thinking, and corresponding reporting, that stresses the long term over the short term, the future over the past, and principles over profit.
Integrated reporting is a generally-recognized international framework that helps SMEs better understand and better communicate how they create value (see this short video for additional details). It provides a roadmap for SMEs to consider the multiple capitals and connectivity that make up its value creation story. This makes an integrated report much more than a conventional annual report—it’s a more complete corporate report. But it need not demand much, if any, more effort to compile. And perhaps more importantly, it will help SMEs understand the core drivers of their business so they can implement a business model that will help them grow.
SMEs, like larger entities, leverage a range of resources and relationships to create value. The International Integrated Reporting Framework calls these “capitals”. There are six capitals, including the familiar, financial, and the less familiar, manufactured, intellectual, human, social and relationship, and natural capital. Properly nurtured, these capitals can release value over time while simultaneously growing their capacity as a store of value. How these capitals can operate in an SME are detailed in IFAC’s Creating Value for SMEs through Integrated Thinking: The Benefits of Integrated Reporting.
The guiding principle of connectivity is critical to understanding and communicating the way SMEs create value. It's about the interplay between three aspects of value creation: the capitals, external environment, and significant internal factors. It prompts consideration of the effects of connectivity. For example, between the SME's strategy and business model and the specific risks and opportunities it's facing. Or between the nature and rate of change in technology and how this affects the capacity of the SME to continue creating value in future.
Integrated Reporting Benefits
The International Integrated Reporting Council (IIRC) summarizes compelling research findings in “How Valuable is Integrated Reporting? Insights from Best Practice Companies” and “Realizing the Benefits”. But let's focus on what matters most to SMEs, which include improved risk management and decision making, strengthened internal dialogue and improved stakeholder communication.
Better Understanding, Better Management
An integrated reporting approach helps SMEs build a better understanding of the factors that determine its ability to create value over time. Using what's called "integrated thinking,” SMEs can make better decisions that result in better outcomes. Integrated thinking is a connected view of the SME, including its use of and effect on all the capitals central to its business model and future strategies, that enhances strategy planning, execution, and evaluation.
Integrated thinking helps SMEs gain a deeper understanding of the mechanics of their business. This will help them assess the strengths of their business model, spot any deficiencies, and address them quickly. These insights facilitate a forward-looking stance and sound strategic decision making. This may sound familiar to SMEs already using elements of an integrated reporting approach in substance if not in form or name.
Better Reporting, Better Communication
We live in an age in which information can quickly and easily be collated, summarized, and communicated, and one in which society and stakeholders demand to know more of businesses, big or small. Businesses have a story to tell their stakeholders—from current and prospective equity investors, banks, and other providers of financial capital through to employees, customers, creditors, and other stakeholders—as to their purpose, prospects, profit, principles and planetary impact.
Furthermore, SMEs are increasingly in the business of providing services. Compared with their “mom and pop store” predecessors, these SMEs have few, if any, tangible assets you can see, touch, and hear. Instead, they might rent office space, equipment, and fast internet and pay salaries or consultancy fees to knowledgeable staff. As such, under conventional accounting rules, such as the IFRS for SMEs, their balance sheets, essentially a snapshot of financial capital, will fail to provide a complete picture as to its ability to create value. The other capitals, which manifest themselves as employee expertise, customer loyalty, and intellectual property, are missing. While past financials can be important where they exist, they are only one aspect of an SME’s value creation story. The upshot is that many SME stakeholders are left with insufficient information to make an informed decision. This is where integrated reporting comes in.
The external communications resulting from integrated reporting, most notably an integrated report, invariably include key financials. But that information is kept in context alongside, and connected to, significant “non-financial” measures and narrative information. By providing the full picture—not just “the numbers” but a succinct story as to how the SME creates and will continue to create value—integrated reporting helps fulfill the communication needs of financial capital and other stakeholders. In so doing, an integrated report can optimize reporting.
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