If you ask hardwood flooring guys what accounting system they use, you may get an answer such as, "Well, I look at my checkbook, make deposits, pay my bills and spend what is left over." It's not exactly a business-savvy strategy. But who can blame them. Hardwood flooring people are artisans and craftsmen who create beautiful floors — not balance sheets. Running a business, however, also means dealing with accounting. Having a good grasp on basic accounting principles helps to increase profits, especially as a company grows. The more key people within an organization who understand the basic concepts of accounting, the better business decisions will be. In this age of accountability, owners need to protect themselves in as many ways as possible — which includes knowing how the company's financial matters are conducted.
Accounting is a lot more than keeping track of how much money comes in and how much goes out. Accounting operations deal with all financial matters, including payroll, payments, purchases, tax returns and financial statements. Comprehensive record keeping is essential to understanding how well the business is doing. Financial statements — a summary of assets and debts — should be prepared at the end of each accounting period, typically every month or every quarter. That's just the beginning. Here are some more things to consider as you keep track of your business's money:
Bookkeeping: The phrase "bookkeeping" is sometimes used interchangeably with "accounting"— which isn't accurate. Bookkeeping is the recording of transaction data. Accounting goes further to use this data to customize the bookkeeping process, generating reports, accounts and statements that are the basis for important management decisions.
GAAP: Your books should be handled according to GAAP. Don't know what that is. You should. It stands for generally accepted accounting principles. The Financial Accounting Standards Board's GAAP rulebook has over1000 pages. If your financial statements violate GAAP, your business could be subject to lawsuits. Because new rules are added every year, accountants need to stay current on the latest changes. If you or someone in your company isn't capable of that, you should consider hiring an outside certified public accountant (CPA) to conduct an audit to make sure your books are on the up and-up. As a bonus, audits can also help prevent theft.
Financial Statements: Accountants prepare income, cash-flow and financial condition statements. Unfortunately, many managers aren't familiar with those three primary financial statements. Income statements summarize the amount of money made from sales and the amount spent on expenses to show a final profit or loss. Cash-flow statements summarize cash inflow and outflow and how it is used. The financial-condition report is a balance sheet that summarizes assets, liabilities and the owner's equity in the business at a particular moment in time, generally the last day of the year.
In order to be effective managers and maximize profits, all business managers— especially those who work for smaller companies and have to be jacks-of-all-trades —- need to understand financial statements and how they are derived.
Income Tax Laws: Hiring well-educated bookkeepers and accountants is crucial for keeping up with income tax laws and financial reporting requirements. Solid trails of paperwork are required should the unfortunate day arise when an IRS auditor walks through the door.
Other Tax Laws: Being knowledgeable about tax laws also saves money. Employer taxes, Social Security and Medicare, unemployment taxes, workers' compensation, real estate and tangible personal property taxes can take a big chunk out of a company's profit if they are not managed well. Savvy accountants know the legal ways of minimizing taxes owed and are vigilant about documenting deductions.
Accounting Personnel: Along with being educated, these people need to be trustworthy — careful background and reference checks are a must. Every accounting system requires built-in internal controls that are designed to detect mistakes or deter theft, which can occur even in the smallest business. No matter how well you know your employees, stick to the rule from The Godfather: "It's not personal; it's only business."
Cash assets: These are usually checking accounts and transaction money for customers, varying in size depending on the needs of the company. The trick with cash assets is having enough but not too much; excess cash doesn't earn the company any interest. Not having enough may cause a company to miss out on a sudden opportunity that requires a quick response.
Profits: These are the main goal of just about every business. How do you measure profit or net earnings. Essentially, it is sales revenue minus expenses, which include payroll, insurance, property taxes, utilities, telephone, depreciation of operating assets,advertising, office supplies, external audits and interest paid on loans. Depreciation expenses spread out the cost of fixed assets over several years. If you sell products on credit, that can complicate the picture. Profits go up when the profit margin per unit is increased, sales volume is increased or fixed expenses are cut. Boosting profits requires uniform accounting practices,a budgeting plan, and an ownership structure that minimizes income taxes.
Profit models: These allow owners to compare their actual income statements to hypothetical situations where a variable is changed, such as raising prices, decreasing sales volume or lowering fixed expenses. A model may show, for example, that as tempting as it is to lower fixed expenses, such a move might actually depress sales and lead to poor customer service. Profit models also help determine the break even point at which sales revenue equals total expenses.
Ownership structure: This can have a dramatic impact on income taxes paid by the business and its owners, and ultimately on profitability. Ownership can be as a corporation, partnership (both general or limited partners), limited liability company (LLC), or sole proprietorship. The basic differences between these are the way taxes are paid and the amount of liability. A corporation's owners who are issued stock, and only the corporation's assets are at risk if a lawsuit arises. Limited partnerships and LLCs are popular because they have limited liability but more flexibility in distributing profit to owners. General partnerships and sole proprietorships have unlimited liability, which means that if owners can't pay all their liabilities, creditors have the right to sue for their personal assets — a definite risk.
Knowing basic accounting allows hardwood flooring business owners to better understand how their companies work. Wise accounting practices are especially important to those small- to mid-sized businesses that have tighter margins, fluctuating supply costs or dry spells in cash flow. Profit modeling can help owners determine the best business path to follow in the coming year to maximize profits.
Cash Flow Highlights
• Bookkeeping is the recording of transaction data. Accounting uses this data to generating reports and financial statements vital to management decisions.
• Your books should be handled according to GAAP — generally accepted accounting principles.
• To maximize profits, all business managers need to understand financial statements.
• Solid trails of paperwork are required in case of an IRS audit.
• Every accounting system should have built-in internal controls designed to detect mistakes or deter theft.
• Profit models help determine the break-even point.