Chart of Accounts: Accuracy Vs. Comparability
Feb 17, 2016
I recently met with a business owner who is having issues determining his cash flow. He is worried if he pays a payable for $8,000 will he end up $8,000 short the following weeks payroll. He does not have a lot of comfort or tools to aid in his decision making. I offered the idea of a cash flow model which could help relieve some of his concerns. Typically, a cash flow model is an Excel spreadsheet built specifically to a client’s needs. It can function as a budget or a tool to aid in cash flow and overall business decisions. In this case, I suggested we would use the model as a budget and cash flow aid.
This client has several divisions within the business and in order to track each, he has created separate accounts. He admitted needing additional accounts to track each division, as a result he is constantly changing his chart of accounts. In fact, just as I began creating the model, he asked me to hold off change while he modified the chart of accounts. In my opinion, the use of separate accounts for each division is not nearly as useful as other alternatives. Instead, it proves to be difficult and time-consuming to run an income statement detailing specific accounts. Such a process would involve creating several filters, or manipulating data in Excel. If he was to utilize classes or another identifiable method for each category, he could run an income statement by class. This would only require a few clicks. To me, this would be more valuable as you could then determine your profit margin and net profit by category.
In addition, I advise against constantly change your chart of accounts because you lose comparability. If you are constantly changing the way you record an income or expense item, you no longer have the ability observe trends over a period of time. Older accounts no longer in use will have old information and a new account will only have the most current. Consistency in account usage allows for comparisons which aid in business decision making.
I am not advocating never making modifications to your chart of accounts or never considering other methods for accounting for items. If what you are currently doing is not functions, then it is certainly time to consider a review. Take your time to set up an efficient system to avoid possible issues in the future. Furthermore, accurate overhead allocations and correctly classified direct and indirect expenses are critical to your success. However, that is a blog topic in its own right!
Do you modify your chart of accounts frequently? Have you considered what it may look like if you did not? What kinds of decisions can you now make that you could not before?
Categories: Cost Accounting