Accounting Systems and Consistency in Accounts

In a previous blog post I wrote about Vendor Due Diligence. I referred to accounting systems and the timescales all types of accounting systems should take to produce reliable management accounts. Indeed, with modern accounting systems it should take no longer than a couple of days to do this.

Let me tell you a brief story: one of my clients undertook consulting work for their customers. The work was usually split into several stages. Some of which were partly paid for in advance, while other stages were paid upon completion. These terms meant there was accrued and deferred income to measure in arriving at profits.

Accrued income is where a business has conducted work for which payment has not been received. Such work needs to be recognised as income. Whereas deferred income is where the customer has paid for work in advance for which some time may have been spent by the business at the end of the accounting period. So, part of the money received at the end of the accounting period needs to be carried forward into the following period.

Both numbers had a material effect on profits. During the negotiations to sell the business, the buyer wanted to see management accounts and therefore to preserve the integrity of the accounting function, these systems had to withstand external review and be capable of producing accurate figures in both cases.

My client spent a lot of time perfecting the systems so the accounts could be dependable and not hold up the sales process. Indeed, when completion took place, the accounts required to complete the transaction were produced in a twenty-four period. After completion, the buyer inspected the records. There were no adjustments and the profits stood as reported at completion.

This is an extreme example. However, it shows the importance of ensuring the accounting systems are as accurate and dependable as possible to avoid price reductions or delays and extra costs in the transaction. It is all part of preparing for the tranisition from your business.

The preparation of monthly management accounts can become a chore such that by the time the information is completed it is too late and potentially unreliable for the use of running your business, let alone its sale.

Monthly management accounts are not the only tool which you use to run the business. However, they may indicate your financial trends which other reports do not give you and may also be required for bank covenant purposes. They will also be required when you are in the throes of selling your business.

They are one of the dials on the “dashboard” required to run your business.

Initially, you would like to rate your month-end reporting process:

• Time                                                                 Rating
• Within two working days of the period end      Exceptional
• Two to three working days                               Outstanding
• Four to five days                                              Good, and now considered slow reporting.
• Over five days                                                  Average and potentially dangerous to the business

Rome was not built in a day and the objective should be set to reduce the report process over an agreed period of time.

So, here are some tips to help you speed up the production of accounts. The investment made here will facilitate running your business and the sale transaction, reducing its costs.

The steps for these are:

1. Establish reporting rules within the Finance Team

   • The first thing to realise is that the monthly accounts will never be right. They only need to do enough work to arrive at a reasonable view.
   • Any work done after this point has been reached will not really add value.
   • Therefore, we need some rules about the month-end reports.
   • The month-end report should not be:
     • delayed for details.
     • be consistent between months, e.g., same judgement calls, same format.
     • be a true and fair view and free from any reporting-writing errors.
     • be concise – just a few pages to comprise the financial package such as a one-page report on each major income and expense line so that this can be reviewed by the Board with minor points omitted; and
     • provide trends and bullet points for review by the Board.

2. Stop Spring cleaning at month-end

   • This is not the time for Spring cleaning. It means that the Finance Team and budget holders need to be re-educated.
   • Any mis-coding errors, unless resulting in a material misstatement of the profit and loss account are processed during the following months. Budget holders should be educated to review their cost centre numbers via access to the reports available during the month. They should highlight any discrepancies immediately with the Finance Team.

3. Avoid high volumes of processing invoices at the month end

   • It might be an idea to consider pushing processing back from month-end by avoiding a payment run at month-end. It is better practice to have a weekly or more regular payment runs with none happening within the last and first two days of the month-end.
   • Major budget holders who hold on to invoices should be checked on a regular basis to ensure that they are not sitting on invoice approval. The Accounts Department does not want to receive a large pile of invoices on the last day of cut-off.

4. Avoid late month-end inter-company adjustments.

   • Inter-company adjustments at month-end, except for major internal profit adjustments, should not be made.
   • Where there is a difference, it should be decided in advance whether the accounts payable or accounts receivable is correct and adjust accordingly, leaving the inter-company parties to sort out the issues following the month end.
   • This is a major decision and the Board need to be involved in approving such a decision.
   • For utilities such as insurance, rent and rates and other overheads such as accountants fees, interest and depreciation, it is convenient to post monthly recurring journals for 1/12th of the amount and review these every few months especially when the expense invoice arrives.

5. Early closing of accounts payable ledger and accruals

   • The longer the accounts payable ledger is kept open after the end of the month then the more difficult it is to complete prompt month-end reporting.
   • For a tight cut-off, those approving invoices will need to have cleared all outstanding issues regarding purchase invoices as soon as possible in order to give the Accounts Department time to meet the cut-off deadlines.
   • I would suggest that those approving invoices do it two working days before the month-end.
   • If invoices are booked into the system before being authorised, it should avoid the delays caused by slow authorisation.
   • Authorisation levels need to be reviewed so that budget holders are not overwhelmed by paperwork and only authorise those purchase invoices/credit notes/credit card payments above a certain level.
   • Where there is an order recording system, with values, these may be used to give estimates of the costs where invoices are outstanding.

6. Early closing-off of accounts receivable

   • Accounts receivable should be closed off on the last working day, with the transactions in the afternoon being carried forward to the first day of the new month. Closing off earlier is more important if you have an organisation where the sales department raise a lot of sales invoices on the last working day of the month. A provision can always be made for accrued income.

7. Early capital expenditure cut-off

   • Any capital projects can really be closed off one week before the month end. Any equipment arriving in the last week can therefore be treated as arriving next month. That way the fixed asset registers and depreciation can be calculated prior to the end of the month.

8. a. Early stock and work in progress cut-off

   • These cut-offs can really be done at close of business on the last working day. Any delay here this will cause unnecessary delay in the month-end accounts.
   • If it is causing a problem, then consider closing down the inventory before the end of the month with the production thereafter being carried forward to the next month. This at least gives a day to check the valuation and the records. Consider running the accounts on a week-by-week basis where the stock figure at a weekend is used.
   • A stock count should be avoided at the month-end as it should be conducted on a rolling basis and be held no nearer to the month-end that the third week of the month.

   • 8b) Deferred and accrued income

   • Again, it might be useful to consider running these at the weekend and/or in line with the accounts receivable closedown.

9. From end of business last day to end of business first working day

   • The success of month-end reporting is critical during this period.
   • At end of business on the last working day all the cut-offs should be done. It gives an opportunity to print off the first cut of the numbers. This report will be designed for detailed review and would contain current month, the last three-to-six-month numbers and month’s numbers from last year in a series of columns. The report should be reviewed by the accountant to see where they think the numbers could be wrong.
   • First thing the following day, the areas where further work needs to be done are identified and worked on during this day. It needs to be decided who is ‘reviewing what’ with a view to having a true and fair set of numbers by the end of the day.
   • It is important to catch all material adjustments that are found and see the net result before it is decided to adjust the numbers.
   • Therefore an ‘over’s and under’s’ spreadsheet should be set up. One to trap major adjustments and you would need to decide yourselves what these are and they depend upon the size of the business. The other one for smaller items that can be tidied up during a quiet time in the following month.
   • If adjustments are found, then they need to be entered on the appropriate spreadsheet set up for the purpose.
   • During the course of that working day, you need to agree those items that will be adjusted for so that the numbers are true and fair and that way you will then be in a position to give the Board a one page first report.

10. Provide a first report for the expected month-end numbers at the end of day one.

    • If you are able to issue a profit and loss statement it gives a handful of numbers making up the best estimate of the bottom line for the Board, immediately informing them of any real problems.
    • It is not important to provide too many lines because you may find that the Board are not concentrating on the big picture.
    • Therefore, there is no harm in stating your degree of accuracy (e.g., plus/minus 5%, plus/minus 10%).
    • However, never run off this first report until all the accounts payable, accounts receivable, accruals, prepayments, deferred and accrued income and inventory cut-offs have been successfully moved back to the last working day of the month.

11. Freeze the numbers after the end of the first working day

    • It is important to stop adjusting the month-end result after this first report is issued at the end of business on day one.
    • By maintaining an ‘over’s and under’s’ schedule for all material adjustments, you can monitor the net impact on the bottom line.

12. Perform a review of your month-end routines

    • It is important to remove all the tasks that were only done last month because they were done the month before. Make sure that duplications are avoided as much as possible.

13. Prepare a Flash report

    • The report should have no more than ten input lines as less is better than more, even so, it is important to state the level of accuracy by reference to the net effect on the overs and unders schedule.
    • The lines might be major revenue streams, cost of sales and gross profit together with major overhead expenses. Against each column of figures there might be tabulated to show actual results for he period compared to the forecast and significant variances commented upon.

I trust these tips have provided you with a plan to speed up the production of your internal accounts. Not only are these a key dashboard item for running the business, but they are also likely to be required when you come to sell your business.

Need further help with your accounting systems or in-consistencies in your accounts?

Contact Assynt. If we’re unable to help you directly, we can recommend those that can.