Prevent a Poorly Structured Chart of Accounts from Hiding Your Profitability
As any business owner knows, the health of a company is linked more to its profitability than its revenues. If your revenues are increasing but your profitability is not, it’s important to understand what is causing that.
While it’s easy to grasp the importance of running a profitable operation, measuring the drivers of profitability can be surprisingly difficult. That is why having well-structured financial data in your chart of accounts (COA) is critical to having a full picture of your overall financial health and illuminating the path to profitable growth.
Your COA Is Critical to Understanding Profitability
Clean and strategically organized data is the foundation of your business’s profitability picture. Financial data that is too broad, or too targeted, can leave you with numbers that are weak on meaning. As such, a poorly structured COA can also give you a sense of false hope, lead you to overlook departments or locations that are draining profit, or steer your roadmap for the future in the wrong direction.
Below are three ways to effectively structuring your COA so that it can provide a healthy framework for analyzing and growing your business, and of course, boosting profitability over time.
Identify the Indicators of a Potentially Weak COA
You can start to improve your financial outlook the moment you can identify flaws in your financial data structure. Below are clear indicators that your accounting could use restructuring:
- Too Many General Ledger (GL) Accounts: GL efficiencies can help you reduce hours of audit work focused on account reconciliation and instead spend more time on critical activities such as client control systems and risk analysis
- Costs of Goods Sold (COGS) not Aligned with Revenue: a faulty pricing strategy can have a lasting, negative impact on your profit margin; make sure that the distance between your COGS and your revenue allows for a healthy profit margin that can weather potential storms
- Illogical Account Numbering System: simple is better so make sure that your numbering system ladders invoicing up to accounts in a way that is easy to understand; otherwise, your bookkeeping (and decision making) can be mired in too much detail that detracts from a clear understanding of your bottom line
- Poor Titling of Account Names: an account is only as efficient as it is easy to understand; convoluted titling can actually help you lose track of your finances
Understand the Pitfalls of Poorly Structured Financial Data
Your COA is an organizational tool that should provide a complete listing of every account in your GL, broken down into clear subcategories. When executed well, it will organize finances and give interested parties, such as investors and shareholders, clear insights into your company’s financial health.
When poorly executed, your COA can make it:
- Tough to tell which parts of the business are successful versus unprofitable
- Difficult (if not impossible) to know where to focus efforts to improve the business
- Easy to spend wastefully
- Hard to predict future results
Build a Rock-Solid, Strategic COA
A well-structured COA has countless benefits. You can identify points of strength and weakness in your finances, while also predicting future results with confidence, making informed decisions about the future, and providing accurate snapshots to potential investors about your company’s financial health. The key to a solid COA is structuring that enables a strategic outlook. Here are a few suggestions:
- Right-Size Your P&L Statements: being too broad is as risky as being too detailed
- Group Accounts Together: for example, a legal fee is a professional fee and doesn’t need a separate account; a logical system of organization that also lets you drill down as needed is ideal
- Build Your COA Like a Presentation: if you approach your COA as a tool that you can easily share and describe, you will gain deeper insight into the stories your data is telling you about the path to success and profitability
Business Advisory Services: Lose the Threats, Keep the Profitability
Does your COA help you understand what you really need to know about your profitability? If you’re not sure, the answer is probably no.
Kirsch CPA Group accounting and business advisory services will help you improve your COA structure so that you can identify your true profitability and what you can do to increase it.