Managing your Business

Managing Your Business

We have covered the areas of accounts, debits, credits, and the accounting equation. In order to control your business you must manage key areas. These areas are Cash, Sales, Income, Expenses, Assets, Inventory, and Payroll. We will discuss each of these areas in the following sections.

Managing Cash

Bank Reconciliation

Typically, a business will use a bank checking account to help control the flow of cash. Cash received during the day is deposited periodically in the bank account and checks are written on the account whenever cash is paid out.

When the bank account is opened, each authorized person signs a signature card. The bank can use the signature card at any time to make sure that the signature on the check is authentic and that money can be paid out of that account.

When cash is deposited into the account, a deposit ticket is filled out listing the check number and the amount of each check and any additional currency.

As the business makes payments, it will write checks on the bank account and record each check payment in the checkbook or on the check stub. Every month, the bank will send the business a bank statement, along with the cancelled checks paid that month.

The bank statement shows the balance at the beginning of the month, it lists each check paid, each deposit, any other charges or credits to the account, and it shows the balance at the end of the month.

Usually the ending balances on the bank statement will not match the current cash account balance shown in the checkbook. This is because there may be checks that have been written and recorded in the checkbook but have not yet been processed and paid by the bank. There may also be service or other charges the bank has deducted from the bank statement balance but which have not yet been recorded and deducted from the checkbook balance.

For this reason, it is necessary at the end of each month to reconcile your bank statement. This is simply the process of making the proper adjustments to both the bank statement balance and to the checkbook balance to prove that they do in fact balance.

There are three steps to reconcile your bank statement.

Step 1: Compare the deposits shown in the checkbook with those shown on the bank statement. Any deposits not yet shown on the bank statement are deposits in transit, that is, they are not yet received and recorded by the bank. Subtract the total of the deposits in transit from the final balance in your checkbook.

Step 2: Compare the canceled checks as shown on the bank statement with those recorded as written in the checkbook. Checks that have been written but not yet processed and paid by the bank are called outstanding checks. Add the total of the outstanding checks to the final balance in your checkbook.

Step 3: Now look at the bank statement and see if there are any service charges or credits that are not yet recorded in the checkbook. Add the credits and subtract the charges from the final balance of your checkbook. The adjusted balances of your checkbook will now be equal to the ending balance on the bank statement.

All the checks and deposits entered in this program automatically list on the checkbook reconciliation screen. This saves time and makes the reconciliation process quick and easy.

Petty Cash

As we had discussed earlier, the principal method for maintaining internal control of cash is using a checking account. However, a business usually has minor expenses, such as postage or minor purchases of supplies that are easier to pay for with currency rather than with a check.

To handle these minor expenses, a petty cash fund is set up. A small amount of money, like $100, is placed in a petty cash box or drawer and an individual is given responsibility for the funds. This individual is the petty cashier.

When money is needed for an expense, the cashier prepares a petty-cash ticket, which shows the date, amount, and purpose of the expense and includes the signature of the person receiving the money. This ticket is then placed in the petty cash box. At any time, the total amount of cash in the box plus the total amount of all tickets should equal the original fixed amount of cash originally placed in the box.

As expenditures are made, the petty cash fund will eventually need to be replenished. This is usually done by writing a check to bring the amount in the fund back to the original amount of $100.

Managing Sales

Sales made by businesses can be broken down into the following main categories:

• Cash sales

• Sales on account

Cash Sales

Some businesses sell merchandise for cash only, while others sell merchandise either for cash or on account. A variety of practices are followed in the handling of cash sales. If such transactions are numerous, it is probable that one or more types of cash registers will be used. In this instance, the original record of the sales is made in the register.

Often, registers have the capability of accumulating more than one total. This means that by using the proper key, each amount that is punched in the register can be classified by type of merchandise, by department, or by salesperson. Where sales tax is involved, the amount of the tax may be separately recorded. In accounting terms, a cash sale means that the asset Cash is increased by a debit and the income account Sales and a liability account Sales Tax Payable are credited. This displays in the table below:

                 Debit Credit

Cash         110.00

Sales                           100.00

Sales Tax                     10.00

Total        110.0       110.00

In many retail establishments, the procedure in handling cash sales is for the sale clerks to prepare sale tickets in triplicate. Sometimes the preparation of the sales tickets involves the use of a cash register that prints the amount of the sale directly on the ticket. Modern electronic cash registers serve as input terminals that are online with computers, that is, in direct communication with the central processor. At the end of each day, the cash received is compared with the record that the register provides. The receipts may also be compared with the total of the cash-sales tickets, if the system makes use of the latter.

Sales on Account

Sales on account are often referred to as charge sales because the seller exchanges merchandise for the buyer’s promise to pay. In accounting terms, this means that the asset Accounts Receivable of the seller is increased by a debit or charge, and the income account sales is increased by a credit. Selling goods on account is common practice at the retail level of the distribution process.

Firms that sell goods on account should investigate the financial reliability of their clients. A business of some size may have a separate credit department whose major function is to establish credit policies and decide upon requests for credit from persons and firms who wish to buy goods on account.

Seasoned judgment is needed to avoid a credit policy that is so stringent that profitable business may be refused, or a credit policy that is so liberal that uncollectable account losses may become excessive.

Generally, no goods are delivered until the salesclerk is assured that the buyer has established credit -that there is an account established for this client with the company. In the case of many retail businesses, clients with established credit are provided with credit cards or charge plates, which provide evidence that the buyer has an account. These are used in mechanical or electronic devices to print the client’s name and other identification on the sales tickets. In the case of merchants who commonly receive a large portion of their orders by mail or by phone, this confirmation of the buyer’s status can be handled as a matter of routine before the goods are delivered.

Managing Expenses

The Expense Authorization system is a commonly used method to keep track of and control expenses. It is based upon the use of tickets. These tickets are written authorizations prepared for each expense.

With this system, before a check is written, a ticket is prepared authorizing payment. This system provides an excellent control over expenses. It does this by making sure that each expense is justified and by requiring more than one person to be responsible for preparing and authorizing the payment. A ticket is prepared for every transaction that results in an expense.

When an invoice for a purchase is received, it is attached to a ticket, which is then filled out and signed. The information that goes on the front side of the ticket verifies the information on the invoice. Once the information is verified, an approval signature is required to authorize the expense. Once the ticket is approved, it is recorded in an expense register.

Tickets are recorded in the register in date order. Once recorded, the ticket is put into an Unpaid Ticket File where it remains until it is paid. The tickets are filed according to the date they should be paid in order to take advantage of discounts.

When it comes time to pay a ticket, it is removed from the Unpaid Tickets File and a check is issued. The check number and payment date is recorded on the ticket and in the Ticket Register next to that ticket entry. Each ticket is paid by check. As each ticket is paid, the payment is recorded in a Check Register. With the ticket system, the Check Register is the book of original entry for recording payments and it takes the place of a cash payments journal.

In a computerized accounting system, the function for controlling expenses is controlled by the Accounts Payable program. You would enter, track and pay your invoices with Accounts Payable.

Managing Inventory

Merchandise Inventory

Merchandise inventories are the goods that are on hand for the production process or available for sale to final customers. There are two basic methods for determining inventory:

• Perpetual inventory method

• Periodic inventory method

With the perpetual inventory method, the cost of each item in the inventory is recorded when purchased. When an item is sold, its cost is deducted from the inventory. This results in a perpetual record of exactly what is in inventory.

The perpetual inventory method is best suited for those businesses that have a relatively low number of sales each day and whose merchandise has a high unit value. For example, a car dealer might use the perpetual inventory method to keep track of inventory because it is easy to keep track of each item as it is purchased by the business and then resold.

This program uses the perpetual method and automatically tracks your inventory value. This program makes it easy for businesses such as department and grocery stores that have a large number of sales each day to track inventory value on a real-time basis.

For businesses that manually maintain track inventory value, it wouldn’t be practical to adjust the cost of inventory each time an item is sold. Instead, these types of business use the periodic inventory method, which involves periodically taking a physical count of the merchandise on hand, usually once a year at the end of the accounting period.

Once the physical count is done, the exact quantity of merchandise on hand is known. The costs of all items on hand are then totaled to give a total cost of the inventory on hand at the end of the year.

Calculating Inventory Value

A company can raise or lower its earnings by changing the way it calculates the cost of goods sold. As inventory items are purchased during the accounting period, their unit cost may vary. A costing method is a way of calculating the cost of goods sold. The first time you purchase a product, the value is whatever you paid. Once you receive more stock at a different price, it is necessary to use one of the three standard methods to determine the value of what you sell. The three most popular methods used to determine the value of the ending inventory are:

• First in, First out (FIFO)

• Last in, First out (LIFO)

• Average cost

Important Note: You should consult your accountant regarding the method that best suits your needs.

First in, First out (FIFO)

This method assumes that the first item to come into the inventory are the first items sold, so the most recent unit cost is used to determine the inventory’s value. FIFO assumes that the oldest stock you have is sold first. At a time when your cost is constantly increasing, the first items sold are the least expensive ones, therefore your cost of goods sold is low and your income is greater.

Last in, First out (LIFO)

This method assumes that the last item to come into the inventory are the first items sold, so the oldest unit cost is used to determine the inventory’s value. With LIFO, the newest stock is sold first. An inventory value should generally reflect the replacement cost of your stock and that is what LIFO does. When prices are increasing LIFO will calculate cost of goods sold at the most recent price, resulting in a higher cost of goods and lower income.

Average Cost

This method uses the average unit cost for all items that were available for sale during the accounting period. The Average method is the total cost of all goods divided by the number in stock. This has the effect of leveling out price fluctuations, providing a constant cost of goods and income.

Let us discuss an example that will clarify this concept. For example, suppose you sell Boxes. On August 1, you purchase 100 Boxes for $1.00 each for a total cost of $100. On August 2, you purchase another 100 Boxes, this time at $1.25 per box for a total cost of $125. You now have purchased 200 Boxes for $225.

On August 3, you sell 50 Boxes for $1.50 each for a total of $75. Depending which costing method you are using, your income will be different:

FIFO: This method would assume the 50 boxes you sold were from the first 100 boxes you bought (at $1 each). Your cost of goods would be $50 and your profit would be $25.

LIFO: It is assumed that the 50 boxes sold were from the last 100 boxes you purchased (at $1.25 each). Your cost of goods is then $62.50 for a profit of $12.50.

Average: This method will consider only that you bought 200 boxes for $225, for an average cost of $1.125 each. Your cost for the 50 boxes sold is $56.25 and you will have a profit of $18.75.

When the income statement is prepared, the cost of inventory on hand is subtracted from the Cost of Goods Available for Sale during the year. This yields the Cost of Goods Sold for the year. You should check with your accountant to determine which method suits your needs.

Break-Even Point

One of the first steps in evaluating a business is determining your break-even point. This is the number of units of your product, which must be sold for income to equal all expenses incurred in producing the merchandise. Logic would dictate that if you are in a high rent area and need to sell half your stock of art objects each month in order to break even, you have started a losing business.

Assuming your product or service is a worthwhile one, the control of your overhead is the key to your profit.

Overhead consists of fixed costs, such as rent, insurance, and payment on bank notes, etc., which will not vary if your production increases. It also includes variable and semi-variable costs. Variables mean such items as commissions to salespeople, purchases of raw materials; and other overhead, which increase in direct proportion to changes in production volume. That is to say, if a company that has been making 10,000 snow shovels per month, for example, doubled production to the 20,000 level, then purchase of raw materials, sales commissions, and other expenses would also increase. Semi-variable costs will vary with volume, but not in direct proportion. The cost of lighting and power will increase with greater production.

Each unit produced should provide some margin for fixed costs and profits. Or expressed a different way, at no point should the direct cost, not the fixed cost, of producing a unit be greater than its sales price. Your fixed cost per unit will vary inversely with changes in volume. Since your fixed overhead will not increase as a result of greater production, and semi-variable costs will increase by a percentage considerably lower than the rate of increased production, it follows that your cost per unit will lessen as greater quantities are produced.

The experienced businessman uses his break-even charts to indicate profit margins at a given rate of production. However, the chart is useful only when fixed costs remain the same, when variable percentage can be plotted with reasonable accuracy, and when a company produces only one item.

Managing Payroll

Payroll Records

An employer, regardless of the number of employees, must maintain all records pertaining to payroll taxes (income tax withholding, Social Security, and federal unemployment tax)

There are several different kinds of employment records that must be maintained to satisfy federal requirements. These records are summarized below:

Income-Tax-Withholding Records

• Name, address, and Social Security number of each employee

• Amount and date of each payment of compensation

• Amount of wages subject to withholding in each payment

• Amount of withholding tax collected from each payment

• Reason that the taxable amount is less than the total payment

• Statement relating to employees’ non-resident alien status

• Market value and date of non-cash compensation

• Information about payments made under sick-pay plans

• Withholding exemption certificates

• Agreements regarding the voluntary withholding of extra cash

• Dates and payments to employees for non-business services

• Statements of tips received by employees

• Requests for different computation of withholding taxes

Social Security (FICA) Tax Records

• Amount of each payment subject to FICA tax

• Amount and date of FICA tax collected from each payment

• Explanation for the difference, if any

Unemployment and Disability Records

• Total amount paid during calendar year

• Amount subject to unemployment tax

• Amount of contributions paid into the state unemployment fund

• Any other information requested on the unemployment tax return

• State disability contributions