Week of Feb 14, 2017: Close your books quicker - Part 2
Unfortunately when closing out your books, you are at the mercy of other people and entities for some of the information needed. This week's tip will show a tool which can be used to close out your books while you are still waiting on this information.
Also below are links to tips from prior weeks in this series:
Part 2: Accounting for Unbilled activity & Bills not received
I have seen companies hold an accounting period open for 10 to 15 days after the end of a month just to make sure they have received all invoices from their vendors. This approach does provide absolute accuracy but the accuracy comes at the cost of timeliness. If the information provided to management is not timely, the opportunity for improving any inefficiencies or capitalizing on any synergies for the period being closed is significantly reduced.
Alternatively, some companies will "close" their books quickly but back date bills to prior periods as the invoices come in. This approach does get information out timely, but this timeliness comes at the cost of accuracy. If the information management makes its decisions on is inaccurate, then the results will also be inaccurate.
To help get both timely and accurate information, I suggest using accruals to account for any expenses which have been incurred but not paid or billed yet. Accruals are basically an estimate (not a guess) of items which have actually happened but there is not a formal document supporting the activity yet. The accrual provides a way to reasonably insure all the activity from a period is accounted for in the correct period without delaying the closing of the books or having to go back and change prior period information. Think of this as the "sweet spot" between accuracy and timeliness.
How to calculate:
To be in this "sweet spot" of timely and accurate, the accrual should be based on some type of formula. Some examples are below:
1) Fixed Insurance Costs (same every month) could be accrued by using the same info as the prior month.
2) Utility expenses could be accrued based on the average daily cost from the most recent bill received times the unbilled days in the period being closed
3) Bi-weekly payroll which crosses over a month could use the actual time and payroll data for employees to calculate the payroll cost for one week by posting an accrual for the one week period
How to use (this is not the method I prefer but it is the easiest to implement):
An accrual is most always classified as a liability (something you owe) and typically serves the same function as a Vendor Bill in regards to recording liabilities and expenses. Accordingly, to record an accrual you would:
1) Record an expense and record the accrual (liability) at the end of what ever period you are closing
2) Post the actual bill as of the date you receive the bill how you normally would. (i.e. record the expense and make an entry in Accounts Payable)
3) At the end of the following period, reverse the entry you made in step one (this accounts for the bill posted in step 2) and create a new accrual for the current period you are trying to close
Accruals take a little bit more thought to use and do take some getting used to if you have never utilized them in the past. However, learning to use this tool will increase the value you can bring to an organization as an accountant.
Key Takeaway: Use accruals at period end for unbilled activity