Factual information is the key to intelligent decision making, especially in business. As a small business owner, you need to measure your company’s performance to plan for the upcoming period, and having your financial statement and management accounts up to date is key to this. In this article, we explore the purpose of financial information as well as the differences between monthly accounting practices for product-based and services-based businesses.
Accounting for various periods
To make data-led decisions or to simply understand what is happening in your business – at certain points in time – you may draw up management accounts for certain accounting periods. Running certain management accounts on a monthly or quarterly basis depending on your business needs, and financial statements annually helps you conduct a proper financial analysis of your company. Accounting periods are in place for reporting and evaluation purposes, and the accrual method of accounting allows for consistent reporting. Expenses should be reported in the accounting period in which the expense was incurred, and all revenue earned as a result of that expense be reported in the same accounting period – this is called ‘the matching principle’.
- Monthly management accounts are a great way to keep track of cash flow, analyse inventory and confirm that your credits and debits are where they should be and to track your budget on a regular basis
- Quarterly reports allow you to compare your revenue and expenses against your budget. Certain external parties, such as investors, vendors, or government agencies, may request copies of your quarterly reports to assess the financial health of your business.
- Lastly, annual financial reports are much more comprehensive and ultimately aid in making decisions about the business’s future.
Service-based vs. product-based accounting
Service accounting and product accounting refers to the practices businesses use to record and track their financial position for either their professional services or the tangible goods they buy and sell, respectively. In either case, the money that a business receives for selling a product or service is accounted for as operating revenue and money spent on products and services enters the books as an expense. Accounting for service-based businesses and accounting for product-based businesses share several similarities though, it is valuable for business owners to recognise their differences.
- One of the areas where service accounting and product accounting differ is in terms of cost of sales. Small businesses rely on markups to cover costs and make a profit by selling at a given price. The costs to a service-based business depend largely upon training and labour, while the costs applicable to a product-based business includes labour, raw materials, manufacturing and shipping.
- The second area of differentiation is various purchases. Any purchase made by the business requires accounting that labels it as a business expense. Any product purchased by a business becomes an asset under inventory, which is included on the balance sheet. Services incur expenses that may not result in any tangible asset. Paying for the services of a tax advisor or motivational speaker would be more complex to track and will in theory take longer to pay back its cost, whereas purchasing a product like a factory machine or company laptop can boost production directly resulting in immediate returns.
- Cash flow is the rate at which money comes into and leaves a business. When a business accounts for its purchases and sales of products and services also affects cash flow. The various types of purchase and sale agreements, including down payments, instalment plans, cash on delivery, and payment at the time of purchase, all impact the period between when a business delivers a product or service, and when it receives payment for it.
Financial statements and management accounts are a way of knowing your business’s financial standpoint that helps you plan better, anticipate any hurdles that may arise along the way, and even plan for growth – whether it is in light of staff or inventory. Knowing the differences in accounting practices for service-based or product-based businesses can support you in finding the appropriate accountant or accounting firm for your business.
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