13 Ways an Effective Accounting System Can Improve Business Decisions

An accounting system can be an extremely powerful tool for business owners.  When structured with the specific needs of the business in mind,  it has the power (through the magic of debits and credits) to convert data into a format that tells an interactive, completely personalized story about your business.  By providing feedback on how your business is doing it allows you to understand its strengths and weaknesses which ultimately helps you to improve profitability, cash flow and growth of your business. 

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How Much Money Do You Have In Your Bank Account?

Many business owners, in the absence of an accounting system, will just look at their bank balance to determine their available funds.  This method has limitations in that it does not reflect transactions that have not yet been processed including outstanding cheques, deposits, pre authorized payments etc.  This can result in unnecessary overdraft charges and payments being declined, which can be detrimental to your credit rating (along with headaches of dealing with the payee, bank etc.) Ensuring that all banking transactions are properly recorded in your accounting system allows for a thorough review, which helps to prevent against unauthorized and erroneous transactions.  Accounting software also facilitates the bank reconciliation process which allows you to verify that every bank transaction has been entered thereby ensuring the completeness and accuracy of your records.  Once you have set up a system to track all banking transactions, the amount available funds in your accounts is readily accessible and decisions, based on this essential information, can be made. 

How Much Do Your Customers Owe You?

Knowing your exact accounts receivable balance, i.e. what customers owe you at any given time, is one of the key benefits of your accounting system.  Even if you only have a handful of customers who pay on credit, it is important to know the amount of funds to expect once they are paid and to ensure that the payments received match the amounts invoiced.    Your business may be generating significant revenue, but if you have not received the funds it can have an adverse, unexpected effect on short term cash flow.  Also, following up on delinquent customer receivables on a regular basis is far more effective when done earlier, rather than months after the goods or services have been provided and can help reduce bad debts.  Finally, some accounting software can generate statements that can then easily be sent to customers, regularly (e.g. monthly or quarterly) that can help to save time and improve the chances of collection.

How Much Do You Owe Your Suppliers?

Entering your bills, as they are received, into your accounting software can help you to optimize your cash flow and avoid unpleasant surprises.  Ensuring that you only pay bills when they are due, can free up your funds for other other purposes.  You may also be able to save money by taking advantage of discounts that are sometimes offered for early payment.  Additionally, you can also build a history of amounts paid to suppliers which can be helpful when renegotiating terms, preparing annual budgets or looking for new suppliers.

How Much Did You Sell?

Knowing your total sales is indispensable information and necessary when comparing to benchmarks such as your breakeven point and setting up budgets/forecasts.  A well structured accounting software will allow you to structure your data so that you can track sales by different groupings including:

• Sales by product

• Sales by service

• Sales by geographic region

• Sales by customer

Knowing the breakdowns which are the most important drivers of your business can help you focus your sales/marketing efforts on products or regions that are more profitable.

What Were Your Total Expenses?

Any accounting system will allow you to track your individual expenses so that you can quickly identify how much you are spending, by different categories e.g., labour, rent, supplies, raw materials etc.  Tracking your expenses on an excel sheet, does not allow you to review history and comparatives.  Once you have entered your expense data, you can analyze it by the various categories (in a profit-loss statement) or review expenditures by suppliers, types of items purchased and various other groupings e.g. how much you spent at an event or for a specific customer.  By creating a chart of accounts that captures the essence of your business and modifying as your business evolves , you can derive the information you need through the use of reports. There are also other ways of grouping information such as tags and classes.  For example if you are a manufacturer of pickles, you might want a separate account for cucumbers to assess how much you spent that will communicate to you if you are charging enough. It might also give you some leverage with suppliers if you can demonstrate how much you have actually spent that informs how much you will spend in the future.   

What Were Your Gross Margins?

A key metric for businesses that sell products is referred to as gross profit or gross margin, which is calculated by deducting direct costs (aka cost of goods sold) from sales .  As a percentage of sales, this can communicate whether you conform to industry standards, how to implement greater economies of scale, and how much you have left over to spend on overhead. It is a key metric to determine how much you need to sell to breakeven (where sales are equal to costs).

How Profitable Is Your Business?

Understanding the profitability of your business is perhaps the most important number for the majority of business owners. This is important both as an absolute number i.e. what was your profit last year and as a comparison to previous years or to how much your forecasted.  It is also the primary determinant of many business decisions including how much to pay employees in bonuses, ensuring that your pricing is accurate, how much cash flow you are generating etc.

How Much Did You Contribute To The Business?

Many business owners contribute to their businesses, particularly in early stages, either by investing directly or through loans that will be repaid back once the business is generating enough cash flow.  Your accounting system will help you keep track of how much you have contributed to the business, which is done by accumulating the amounts in a shareholder loan or equity account.  You can also calculate your return on equity dividing the net profit of the business by the amount of equity that was invested.  The return on your equity (or investment) helps you to determine whether investing in a business results in a higher return than simply investing in another investment such as real estate or the stock market (which would be a lot less work, although perhaps not as gratifying).

How Much Cash Flow Did You Generate?

Knowing your cash flow position is essential to the survival of any business.  A cash flow deficit that cannot be covered can mean the end of an otherwise successful enterprise. There are businesses that are profitable, but may have a negative cash flow due to high accounts receivable (amounts owing by customers), investments in equipment, too much inventory etc.  Most accounting software will let you know exactly how much cash you have on hand at the present and provide budgeting data so that you can estimate what your requirements will be in the short term. This also helps you to determine if and when you need to take on debt.

How Much Inventory Do You Have on Hand?

For companies that manufacture and sell products, selecting an accounting software that can handle inventory such as item classification amount of inventory on hand, price levels etc. can have a huge impact on how your service your customers’ needs, and allow you to control the amount of inventory you have at any given time. There is a cost to both not having enough inventory and having too much inventory.  You should be able to understand your inventory needs, seasonality, supplier lead times and any other relevant metrics. Additionally, you can review your inventory and determine what is selling well vs your duds and make purchasing decisions that will ultimately help you to be more profitable.

How Much Debt Do You Have and What Are The Related Interest Costs?

The total amount of debt owing should be tracked regularly to ensure that payments are made on time, interest expense is accurately calculated and debt to equity and other ratios are monitored to ensure compliance with debt covenants. Financial institutions and lenders can be very strict where it comes to maintaining conditions on borrowing, so you don’t want to be offside where it comes to fulfilling these requirements which could result in a default of your line of credit or loans .

How Much Do You Owe in Sales And Income Taxes?

Most accounting software have sales tax modules, specific to your country or region, that allow you to track exactly how much you owe (or are owed) at any given time.  Since sales taxes can be a significantly liability that impacts your cash flow, it is very important to know how much you owe and ensure you have the funds to pay it by the due date. 

Business income taxes are not usually specifically tracked in accounting software, but can be easily estimated periodically.  You can also track instalment payments that are made towards taxes and set reminders as to when the payment is due.

How Can You Save Money?

A well-structured accounting system will provide you with enough info to identify areas where you can save money whether you simply spend less on certain items, renegotiate terms with a supplier, reduce bank charges or buy greater quantities, there are numerous opportunities to reduce costs. You also adjust your prices to increase profitability and review changes to your sales and expenses to determine the ideal balance.

While your accounting reports may not necessarily be a Nobel prize winning novel, it does have the benefit of being all about your business.  It is descriptive as well as prescriptive and if interpreted correctly can be the difference between a bestseller and a dud.

Ronika Khanna is an accounting and finance professional who helps small businesses achieve their financial goals. She is the author of several books for small businesses and also provides financial consulting services.

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