Financial Statements are one of the best scorecards you have for how your business is performing, but only if they make sense and are set up properly. These simple tips can help you build better financial statements that can help you make decisions about resources in your business.
Use Account Numbers to give you a more meaningful income statement. In Quickbooks, you can only order your income statement alphabetically, so Bank Service Charges is usually right up in the top 3 items on your Income Statement. I just love wasting my time looking at the single most insignificant expense at the top of list. If you use account numbers, you can assign the numbers in an order that provides a logical progression as you move down the Income Statement. I like to see the most important and largest items at top. Personnel, Sales Costs, Marketing, Software expenses is what I want to see at the top. Postage, Bank Service Charges, Coffee- I’m not sure if I really care to see them separately at all, and I always want to see them at the bottom of my Income Statement. See our Standard Chart of Accounts.
Set up your accounting on the accrual basis, even if you file your taxes on a cash basis. Most small business pay their taxes on a cash basis and that’s fantastic. You don’t want to pay tax on money you haven’t received yet. But your internal accounting should better reflect the economics of what really happened in your business. Accrual basis, by the way, is fancy talk for recording revenue and expenses when they occur, not when they are paid. You ship an item today, you record revenue today. You receive items from a vendor today, you record an expense today. Think how skewed your cash basis income statement can look if you just delay paying expenses. You want to match your revenue and expenses in the same accounting period (usually a month or quarter) and the only way to do that is with the accrual basis of accounting.
Review your Balance Sheet monthly. If you are not reviewing the Balance Sheet, start. So much can get buried in the Balance Sheet and if you aren’t reviewing it, you’ll never notice. What if purchases are being added to Inventory, but never being moved to Cost of Goods Sold as they are sold? You income is way overstated. What if when your bookkeeper doesn’t know where to put an expense, he or she posts it to “Prepaid Expenses” to sort through later? Your income is overstated. What if your Accounts Receivable never decreases even though you are sure you are receiving payments? The receipts are probably being posted as Income, which means…. Income is overstated. What if your Accounts Payable is increasing month after month? You probably have a cash flow problem. You cannot run your business based on your Income Statement alone.
Look carefully at your expense accounts. It is so common to have a Bank Service Charge account that only gets a few dollars a year, but an Advertising account that shows $75,000 in costs. I could usually care less about my bank fees, I care quite a bit what makes up that Advertising account. How much of it was online, trade shows, or print? Someone should not have to go back and prepare a spreadsheet to break out your large expenses. Create your chart of accounts appropriately to begin with and you won’t have to. Combine those smaller, unimportant items and move them to the bottom of your income statement.
Same for your Revenue accounts. Do you dump sales into one big pot? Would you like to know how much is online sales, wholesale sales, Product v. Service revenue? Again, setting up your Chart of Accounts correctly can make all the difference in pinpointing what is going on in your business.
Do your expenses show huge fluctuations from month to month? Is that real, or is it the result of not having a good cut-off? Cut-off refers to making sure the revenue and expenses for a period (in this case a month) are recorded in the month they occurred. For example, you purchase $5,000 worth of advertising each month, but since the vendor didn’t invoice you, it doesn’t show up for months and then suddenly $25,000 is booked. One easy solution is to tell the vendor to bill you promptly. The other option is to “accrue” the expense, meaning you make a monthly entry for the expense, with the other side going to Accounts Payable. Then the Accounts Payable entry can be adjusted to the actual invoice when it arrives. However, with online access to bank and credit card accounts and emailed invoices, it should be easier than ever to book expenses regularly, preventing erroneous month-to-month fluctuations.
Your financial statements are the best scorecard you have for how your business is performing, so make sure they are providing you with the information you need. Sometimes a few tweaks in your financials can make a huge difference in your ability to make appropriate business decisions.
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