Running a small business: Small details keep track of big picture

In part 8 of a 10-part series on how to start a business, WADE GLASS and GARETH HOOLE highlight the importance of basic record-keeping in everything from keeping the tax man happy to detecting dishonesty

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The first thing a doctor does when examining a patient is to check the vital signs.

As a good business manager you need to perform the same regular examination of your business.

You cannot manage what you cannot measure.

Keeping track of the basics, such as income and expenses, means you have your finger on the pulse of the business and are monitoring its vital signs so you will be able to detect, at an early stage, when things are going awry.

As well as being able to manage your business more effectively, you must maintain the basic records needed to fulfil income tax and other legal requirements.

INLAND REVENUE DEPARTMENT

Every business must pay tax on profits derived from business activities. Tax rates will vary depending on the structure used. To determine the amount of income tax, GST, ACC levies and Paye payable, you must have a system for recording all monetary transactions within your business. The taxpayer must be able to provide full books and records and prove accuracy to the IRD.

An accounting system relies on complete and accurate record-keeping to verify the transactions recorded.

Receipts from suppliers and invoices to customers should all be filed in a logical manner. Then, if necessary, you can prove to an external party the validity of your accounting records.

The IRD requires that full books and records for all accounting periods be kept for at least seven years. Maintenance of accurate systems to record details is essential. These will be invaluable should you be selected for a random audit.

The IRD provides a number of useful booklets outlining your obligations as a business owner.

STATUTORY COMPLIANCE

If your business operates through a company, it must keep proper accounting records, as defined in the Companies Act 1993.


If you have debt finance, chances are that the lender will require you to provide regular updates on your financial performance and position.

Bankers will require, at the very least, an annual review of your business performance. In some cases that review could be quarterly or monthly. Failure to keep accurate records makes the bank manager very nervous.

The lending agreement may also contain certain covenants on your business. Some, such as financial and operating ratios, will be based on the information provided by your accounting records.

INTERNAL MANAGEMENT

Another obvious benefit of a good accounting system is that management can make decisions based on its data.

If your accounting reports do not accurately reflect the state of your business, any decisions based on them might have been different had you known the true picture.

The starting point for good record- keeping is simple - set up a bank account. All business money must be banked into and paid from your bank account, allowing it to be tracked.

The bank account should be set up in the trading name of your business, or the name of the company or trust that runs the operation.

The bank will give you a chequebook and deposit book and a business credit card if you feel this is necessary.

Internet banking services are useful, so sign up for them when opening the account.

The internet enables you to view bank statements at any time, from anywhere, eliminates delays created by waiting for paper statements, and is cost effective.

When designing an accounting system for your business, it is prudent to talk to your accountant and determine exactly what information is needed to prepare your annual financial statements for income tax and other regulatory purposes.

The information accountants require is based on your obligations to the IRD and any other external parties.

With an understanding of the nature of your business, your financial adviser will be able to make recommendations on any internal reporting functions it may require.

For example, an operation with large quantities of stock may require a computerised tracking system to accurately record stock levels and prompt management to re-order stock when levels are low.

A cashbook system is generally sufficient to meet the needs of most small and medium-sized businesses.

The cashbook is simply a method of recording all financial inflows and outflows of your business. It records the movements in your business bank account and other business-related transactions such as credit card payments.

Modern cashbook systems are computer software packages that can be bought off the shelf and tailored to your income and expense categories.

As a computer is almost essential to doing business today, we recommend you use one of these packages.

Apart from the basic recording and analysis of bank transactions, most cashbook systems have modules for recording invoices issued to customers and invoices payable to suppliers.

Tracking these receivables and payables is essential to running your business effectively.

A cashbook software package costs between $300 and $1000.

If you intend to employ staff, internal controls and fraud and error prevention become paramount.

Although we would all like to believe staff are trustworthy, internal controls reduce the ease with which employees can compromise that trust.

Internal control is the process of regulating the processes of your business with internal checks and balances to minimise the opportunity for fraud and error.

At the most simple level fraud could be an employee walking out with a valuable item of stock.

More complicated frauds involve an employee taking money by manipulating the accounting process.

Whatever the scenario, it is important that you develop systems to maximise prevention or detection of this behaviour. Any product or money that is misappropriated is profit that will never find its way into your bank account.

Basic record-keeping sounds daunting to those not previously involved with running a business, but it doesn't have to be a headache. Remember to:

* Be aware of your legal or contractual obligations to keep business records.

* File all invoices and receipts for your business in a logical manner. If in doubt about whether to keep something - file it.

* Use a separate business bank account to track all business receipts and payments.

* Buy a computerised cashbook package to suit your needs and give you all the information you require for your IRD obligations and management decisions.

* Build internal controls into your business to reduce employee fraud or error.

* Ask your accountant for assistance where necessary, as it is important to get the accounting system correct from the start.

* Remember- you cannot manage what you cannot measure.

* Our next article looks at how you use your financial records to measure the performance of your business.

* Wade Glass (assistant manager) and Gareth Hoole (associate director) are chartered accountants in the corporate recovery services unit of Staples Rodway, Auckland. The views expressed are their own, and not necessarily those of Staples Rodway.