Admittedly this is a particularly boring subject and probably very basic for seasoned managers, but it's an important subject. For any growing business, the management and owners can save themselves a ton of trouble by understanding the accountant's month close.
Lets start with the basics, you have two methods of accounting, cash or accrual. If you're on the cash basis, and it provides you with the information needed to file taxes, get loans, and make decisions, then good. You can stop right here. If you're using the accrual method, keep reading. If you don't know what method you're using, click here, send us a message so we can help you figure out.
Closing a month is important because managing by numbers is important.
The importance of prediction in managing a business cannot be overstated, and part of predicting is reviewing the accuracy of your predictions. You need solid and unchanging month end numbers to have something to compare your predictions with to judge accuracy and identify problems and variances. In addition, your bank and auditors will also appreciate having dependable monthly numbers. The whole month end process should take no more than three to five business days.
In using the accrual method of accounting, it is imperative that you include all expenses in a month that relates to the operations of that month and no more. One example is that if you have an annual insurance bill for $2,400 then you should only show a monthly expense of $200 in one month since only 1/12th of the expense actually relates to the month. In the month the bill is paid, $2,200 of the bill is considered a prepaid asset for future periods while $200 is considered a current month expense.
To ensure each month includes only the related expenses and no transactions are booked erroneously or after management has finished their analysis of the month, the month needs to be "locked" in the accounting software and only transactions and adjustments approved by management should be booked to the closed month. In addition, the controller of the business needs to oversee that the appropriate journal entries are entered into the system to account for prepayments, accruals, fixed assets, and etc.
Once the month is closed, it's ready for management review. How to review financials should be its own blog post, but a quick overview is that management needs to review the month's results against the planned results, against the prior years results, and a rolling number of months leading up the closed month side by side. Doing so will make any anomalies in the month obvious so they can be addressed by management.
One side benefit is that in addition to financial reporting, locking a period in your accounting software locks non financial numbers like shipping quantities, time card entry, or inventory adjustments if you have an enterprise resource planning system. This means any key performance indicators depending on system numbers will be more accurate.
How's your business' month close process? Is it accurate? Can you depend on the numbers? If you think they could be better give us a call at (304) 697-7083 or click here to drop us a message.
To help you out, click here to get our free month close checklist.