Making sense of the numbers – Part 2 Accrual Accounting

If you have been following this blog, by now you will understand your key numbers and how they are calculated. Refer to blog "Managing Your Business Part 1" for how to get to this point. The next step is making sure you get accurate numbers so you can see progress and trends. This means you need to understand accrual accounting.

Basically, accrual accounting is simply recording the transaction (sales or purchase) as it happens instead of when the money turns up in your bank account (cash accounting).

What this means for your business:

1. Record sales as they happen by raising an invoice (and invoice as you go, don't save it for the end of the month)

2. Process creditors and supplier invoices on the date of the invoice which should represent when you received the product or service. (Again do it as you receive the invoice)

3. For any regular monthly commitments, record them each month as a recurring invoice in the month they apply (not when paid)

4. Ensure wages are processed in the month that they are incurred rather than when paid (if possible).

Why accrual accounting is important:

• You will have a more accurate view of your business

• Your obligations are clear - i.e. what you owe to your creditors and when payments are due

• You can see who owes you and you can ensure processes are in place to follow up unpaid invoices

• Gross profit and Net profit are truly reflective of your business performance, as the revenue and expenses are matched correctly for the period

• You can plan cash flow and see where it's coming from and where it's going (see below)

• Your monthly reporting process becomes an integral part of your business. This is essential as an owner of a business so you can see the true profitability of the business

If you are aware of what you owe and what is owed to you, you can take ownership of your business and plan for the future.

Key takeaway: Make sure your business uses accrual accounting for processing business transactions.

PS:  Want to make an impact on your cash then consider:

1. Your sales: Have invoices (your sales) on the shortest terms of trade that you can have. For example 7 days – the customer pays you in 7 days once you issue the invoice.   This means you would invoice on the 12th February  and they pay on you the 19th. This will get you cash in the bank faster – hence the recommendation to invoice as you go.

2. Your supplies/cost: With suppliers, order product at the beginning of the month for the month. Ensure you have standard terms paying on the 20th of the month following the date of the invoice. Ensure for example, that the invoice for 1 January is not due to be paid until 20 February.

Implementing both these steps will get your cash in faster and give you time to pay creditors. This will have a positive impact on your cashflow if managed well.