How To Close The Books For Dummies. Financial Close In 15 Steps

hey guys welcome back to another video before i close the books and issue financial statements there is a series of steps that i take as a corporate controller to make sure that the all of the business transactions are captured on the financial statements and in this video i wanted to create a comprehensive guide of all of the steps all the things you have to visit before you go ahead and issue financial statements with confidence [Music] hey guys welcome back to another accounting lecture bill hannah here in today's video we'll be focusing on period and closing or closing the books and what it means to close the books and generate financial statements and if you go back in time when accounting was done in actual physical paper and columnar pages closing the books literally meant that you entered all of your expenses and all your revenue and you're ready to literally take the book and actually close it right but what we say today when we say close the books what we mean is that your books and records are complete on the accounting software and that you're ready to generate financial statements so it's all about completeness and accuracy of the books and records that is closing the books and so as you go up in the letter of an accounting manager assistant controller and a controller and you get to my position today as a cobra controller you'll find that your cfo will come to you maybe day five or six of the months and say are we closed for the previous months are we done are we closed with the books and the reason why is because everybody's eager to download the financial statements and begin to analyze the performance of the business so this is briefly what it means to close the books and what we'll do in this lecture is i want to break it down to maybe 14 or 15 steps that you can take to close the books and records all right so to simplify the process for you because at the end of the day it's really easy right we're not really launching rockets into space right this is pretty easy stuff so what we'll do is you grab a copy of the financial statements from the previous period right so grab a copy of the balance sheet and a copy of the income statement and we'll go through the main accounts and talk about the things that you need to do to close the books all right so we'll grab a copy of the balance sheet from the previous period and look at it and the first section on the current assets you'll find cash and cash equivalents and what you need to do here is a bank reconciliation and what a bank reconciliation is is grabbing the ending balance from the bank statement and reconciling it to what you have on your books and records right so what that allows you to do is capture any unrecorded expenses or any cash application that's coming in cash receipts from customer to close out accounts receivable right if you don't do a bank reconciliation what you're going to end up with is that you're going to have expenses that have been incurred whether by the business and not being captured on the income statement right so this is the risk here if you don't reconcile the banking statement so that's the first thing you have to do and my pro tip on this one is that you do it on a weekly basis don't wait till month end to reconcile the bank because then your a you'll end up with a large volume of transactions that you need to record in terms of expenses or cash receipts from customers my recommendation is to do it on a weekly basis a preliminary reconciliation in your accounting software while you enter in the balance and then begin to apply expenses and and cash receipts from customers as you receive it on a weekly basis so that's what you do for cash step two is to reconcile accounts receivable and when you look at accounts receivable the reason why you want to reconcile it it's very similar to the concept of reconciling the bank statement it's all about completeness with the bank statement you're making sure that all the transactions are complete on your books and records with accounts receivable you're also concerned with completeness and with completeness here means that you invoice the customers you need to invoice right so your billing process could be if you are a product product based business you are issuing an invoice every time you ship a product right so that's if you have a product based business if you have a software business for example maybe you're issuing only one monthly invoices or annual invoice for the period covering the whole period right whatever the case is so if you have a business that ships a product what you need to do for completeness is to compare a list of invoices in a period that you issued to a list of purchase orders from the customers to a list of shipping notices from the warehouse let's say like a three-way check list of invoices that you issued purchase orders two shipping notices to make sure that all of the purchase orders that you received have been shipped and fulfilled and then all of the ship shipment and fulfillment have been invoiced accordingly right so this is a three or three-way match you can do to ensure completeness uh if you have a software business for example or a consumption based service business you can do a month over months customer analytics so you grab your customer data or your invoicing data for this current period the previous period and maybe the previous the period previous to that and do a three period comparison uh and then you'll see any kind of fluctuation any hills or valleys to capture any anomalies and that will help you capture anything that's incomplete so that's in terms of completeness and then what you can do after that is reconcile the aging sub ledger so you take the subledger which is your ledger by customer and reconcile it to the general ledger uh which is the balance on your trial balance to make sure equal each other because if they don't equal each other and there is a reconciling item you're better off catching it now than waiting down the line and having to go back to previous videos to reconcile so reconciling your balance in a trial balance to your sub ledger is really important here and then the final thing to do for ar is examining ar aging so downloading ar aging by bucket um you know current 30 days plus 60 days plus and looking at your customers who are not paying you and following up to make sure that you're receiving the cash on time and by the way all of these items here are addressed in detail in the controller academy link in the description below step three is to reconcile prepaid expenses and as you can see we are going down the balance sheet accounts right now so we are at prepaid expenses and for prepaid expenses you should keep an excel file an outside excel file showing the items from the vendor that you've received that are prepaid and this is what that means is that this is an expense of the future that you pre-paid today so it lives on the balance sheet rather than the income statement right and as you then incur the actual expense in the future then you begin to amortize the prepaid expenses so what you should do for this year is to look at the excel file for reasonableness right you go through it item by item and see uh you're amortizing correctly you're booking an amortizing journal entry on your books and records to recognize any expense that already got incurred in this current period and make sure it reconciles and it's reasonable at month end all right one important pro tip here is to develop a month enclosed checklist or a closed calendar so i'm going to leave a link down below to a video i made on how to develop the checklist and also a link to an excel file of a sample checklist you can download and begin to use it yourself today okay number four is inventory and whether you're maintaining your list of inventory by sku in the accounting erp software or in excel you should be doing a month in reconciliation to the warehouse report so you should contact the warehouse each month and get a listing by skew of the quantities of the inventory and reconcile that to what you have on your books and records because if you don't do that and you have some sort of discrepancy you're not catching then the auditor when they come in they'll catch that discrepancy and you have to write it off so you're better off doing it yourself and reconciling to the warehouse to catch any differences and then you should also review for obsolescence and expired goods so you should always get if you're selling for example perishable goods or some items that have an expiration date you should always look at it by skew buy a bucket of expiration a month end to determine if there are any write-offs that you have to do you have to write down inventory maybe the cost of goods sold if you have expired goods or obsolete goods so two things reconcile to warehouse reconcile aging for expired items number five is pp and e or property plant and equipment and this is your factory buildings your machinery your laptops and all this good stuff and what you should be doing here are three things number one review for large purchases that needs to be capitalized in a period so maybe you do that by reviewing accounts payable or speaking to somebody from accounts payable team and making sure that every purchase that is large enough to be capitalized under the company's fixed asset policy is being capitalized correctly on the books number one number two is to run depreciation and if you're running sap or netsuite large enough erp software that's literally a push of a button that will run depreciation for you if not if you're using like quickbooks online you might have to run depreciation in excel and then take the je or journal entry from excel and book it into your accounting software number three is to review for obsolete um property or machinery so for example if you have any machinery that's not being utilized anymore that's obsolete uh you might need to write that off uh to the p l the three things review large purchases run depreciation and review for obsolete machinery all right up next and under current liabilities we'll encounter accounts payable so you need to do three things here the first one is to ensure that all vendor invoices have been received and recorded and a lot of times what you have is an inbox like maybe ap at xyz.com your ap email that receives all the vendor invoices so just making sure that you review that inbox and double check that all of the the vendor invoices in there have been recorded on the books and records this number one number two is a reconciliation between the trial balance and your subledger so take the amount of balance of ap from the tri balance reconcile it to your subledger or your aging and ap by vendor to make sure the balance ties because if it doesn't it means you have a difference that you should resolve now rather than to wait a few periods and then it becomes more complex as the snowball gets bigger and bigger right so you should tackle it early number three is to check the aging ap aging and make sure that there is nothing that's being aged that for example if you owe a vendor a certain amount of money uh within a certain period of time you should pay to them because if you don't uh you're inflating the cash balance unnecessarily on your books and you're building maybe um breaking down the relationship with vendors so you should be paying on time within the credit uh term or the payment term that you have with the vendor so three things uh ensure completeness of when the invoice is recorded two reconciliation sub ledger three check the aging report all right number seven as we go down the list on the balance sheet here under current liabilities is credit cards so for credit cards just like bank statements we're concerned with completeness so what you should be doing is reconciling the balance when you book some records to the balance on the credit card statement a month end and oftentimes what you do is you have a feed a bank feed or and whether it's a csv upload or an actual api feed from the bank into your accounting software that just feeds in the information and it gets recorded on your books and records and you're just what you do is you're making sure that the expense accounts allocated to each line item is correct you go in and you review the nature of the expense and you assign to the right expense line item right so completeness and reconciliation a month end of credit cards credit cards are often issued to executives uh certain buyers around the company have credit cards so make sure you have a good listing of the credit cards that are being used and reconcile those on a monthly basis number eight as we go down the list is accrued expenses and what accrued expenses is is a liability to represent the expenses that you incurred but you haven't yet paid the vendors right so maybe you're in current expense today but you haven't been invoiced yet so it's not an accounts payable yet but you're recognizing a liability here by debiting the expense and crediting the liability account so what you should be doing for this is that you should be maintaining an excel file with all of your vendors that you have accrual for and you review it on a monthly basis uh a for reasonableness to check that nothing is aged on it that should be reversed and uh b is for reversals so to check on it line by line and see if you receive the vendor invoice and you booked it to ap you should be reversing out of this account because it shouldn't live in two places it should only live either in accurate expenses or accounts payable if you receive the vendor invoice you have to reverse the accrual here uh so two things to maintain an excel file and secondly is to reverse any accrual that's been already invoiced by the vendor and number nine as we go down the list is deferred revenue or sometimes referred to as unearned revenue and the reason why it's a liability is because you receive maybe some funds from a customer and you haven't yet delivered the good or the service see what you're recognizing here is a liability or an obligation that you uh will have to deliver this good or service in the future so what you should be doing is maintain an excel table for this to show by customer and by payment to show what you received and then secondly is to review on a monthly basis this table here for reasonableness line by line to see what you need to amortize and so an example is let's say you receive a hundred thousand dollars for an entire year of platform fees from a customer and you need to amortize that on 12 months so what you should be doing is going into excel file and amortizing the 100k over a whole year and then record as revenue recognize the revenue to the p l every month for the one twelfth of the hundred thousand dollars as an example so deferred revenue is under and revenue you should be maintaining a table outside of the arp software uh and then reviewing and amortizing uh the line items on a monthly basis all right number 10 is long-term debt and this is for loans or business loans that have a term longer than a year or 12 months that's why it's long term right with that you need to be maintaining a table outside of europe software to show that the number of loans that you have outstanding and then reconcile those to the statement from the lender uh just to make sure they're capturing any uh payments that you're paying down maybe your loans and you need to record a journal entry to recognize the reduction in cash and reduction in long-term liability right so review the table that you have and then for the interest on these loans you might be having to for example if you owe an interest on the loan but you haven't paid it yet then you need to be recording an accrual for that interest okay that's long-term debt all right so with that we're done with the balance sheet and now we can move to the income statement and the income statement really we're going to just break it down to step number 11 which is revenue and step 12 which is expenses so for revenue what i do is is i download a report of revenue for the month by customer and i go through it and analyze to see if there are any things that need to be adjusted for accrual accounting right and accrual accounting says that you record revenue as you earn it not when you invoice it or not when you receive the cash but when you earn the revenue and earning the revenue is very specific and it's based on asc or accounting standard qualification 606 uh that has rules around when to recognize revenue and it's mainly around the idea of earning a revenue and fulfilling the performance obligation so the best way is to download a list of revenue by customer and go through it and identify some of these problematic customers that has specific clauses in their contracts that require some accrual adjustment to revenue so that's 11 or revenue and then for step 12 it's going to be analyzing the expenses so look at your expense accounts for operating expenses and what i do for expenses is to look at the expense accounts by gl accounts like the detailed gl accounts which shows payroll expense vacation expense software expense marketing all of these things right and begin to identify the expense accounts that require an accrual adjustment a month end and accrual uh says that an expense is recorded when the expense is incurred right not when the expense is paid or not when the invoice is received from a vendor but when the actual expense itself or the service from the vendor or from the employee has been rendered right so an example is if you look at payroll expenses and let's say you're paying your payroll on a two-week cadence right so you have two weeks in the period two weeks plus two weeks and then you have maybe two or three days toward the end of the period that you need to accrue for as a debit to payroll expense and a credit to accrued payroll right so identifying these expenses that require an accrual of monthly end that's step number 12. step 13 is going to be to review an open purchase order report and what i mean by that is that you download a listing of all of the purchase orders with any company uh that haven't been invoiced by the vendor you haven't received an invoice from the vendor yet against it right what that allows you to do is to figure out if there is any expense that have been incurred during the period that needs to be recorded on the books and records if the service have been say significantly completed by the vendor but you haven't yet received an invoice from the vendor right so i highly recommend implementing a system of purchase order with the purchase orders within your company uh whether you're buying inventory or maybe only if you're buying uh software services marketing services or anything like that uh because that allows you for two things number one is to control spend so you're always approving your spend before it happens not after it happens right and then secondly it allows you for this to have a correct accounting because then if you have a po process then you can download an open po report of montand and double check it against your accounts payable to make sure that you have accruals that are correct at month end so step number 13 is to review and open purchase order report all right so now we're at step 14 now we're pretty much almost done we now have all or almost all of the transaction are complete on the books of records step number 14 is going to be to perform an actual versus budget analysis so now that you're almost comfortable that everything is already recorded on the books and records you download a set of financial statements and you do an actual to budget comparison what that allows you to do is to capture any items maybe recorded in the budget but not in the actual financial statements that might prompt a question and then you say huh here i have a marketing expense in the budget for 20k but i don't see that in the financial statements there's something changed in the plan so you reach out to the marketing person you say that something change in the budget and you might say yeah well the 20k it's not going to be spent now it's going to be spent down the line then you're fine then it's okay i don't have to accrue anything but what that might uh discover is that if the 20k has been budgeted for but you don't see it in the actual results you reach out to the marketing person use he'll say well yeah we have the service has been incurred and it needs to be recorded but uh there is no po for it and there's no vendor invoice but the service has been uh rendered by the vendor right so that that will uh enable you to do an accrual for that service in this case so doing a budget to actual analysis will allow you to figure out any of these variances that will help you catch accounting anomalies step 15 and we're almost done here is to do a period over period comparison so download the financial statements if you're doing a monthly close then you download four months including the current monthly closing and you do a comparison a fluctuation analysis to capture any anomalies so for example for payroll if you do an analysis that shows the payroll have gone up by say five percent right so what you should be asking is did my head count increase uh by five percent to prompt increase in payroll by five percent and then if you look at heck count and it went up by five percent then you're like okay that makes sense then but if your head count went up by say 20 and you're looking at payroll and went up only by five percent well then something is wrong here right so you see a period over period analysis is really helpful in capturing anomalies in the accounting step 16 or the final step is to lock the period in the accounting software so that no more changes are being done either by accident or on purpose by the accounting staff no more changes so you need to lock the period once you're satisfied you

Channel: The Financial Controller

Views: 115,185

Keywords: how to close the books, steps to close books

Id: T_eyPp23UO8

Length: 20min 15sec (1215 seconds)

Published: Tue Jul 19 2022