Posted: May 25th, 2022

Steps for a Formal Record Maintenance System

Accounting Theory

Kitchens2GO – Analysis of Records

Why should Kitchens2GO maintain its records?

Kitchens2GO realizes that records need to be maintained for a minimum period in order to be legally compliant with business regulations. In addition, accurate records allow the organization to track and research its own income and expenses. The characteristics of full and accurate records include proper dates and amounts, organized by category and/or vendor or customer. These records should be organized to be easily located and identified.

The Record Keeping Process

The record keeping process is much like any business: receipts and invoices are categorized by income, expenses, capital expenditures, and so on. It is important to note that retailers often use a different accounting calendar to account for book cutoffs in reporting income or claiming expenses, depending on things like their method of valuing inventory and accounting for cyclical business cycles. The product cycle, therefore, dictates the fiscal calendar.

Steps for a Formal Record Maintenance System

Steps for a formal record maintenance system should be in accordance with generally accepted accounting principles in the company’s area of jurisdiction. They should include, at minimum, the following: General Ledger, General Journal, Accounts Payable, Accounts Receivable, Payroll, Depreciation Schedule of Fixed Assets, Stock Ledger and Unfilled Order File (Inventory) and a Monthly Trial Balance.

General Ledger

The general ledger is the master record of transactions from all four categories of accounts-assets, liabilities, income, and expenses. The general ledger identifies items within all four categories through a coding system called a Chart of Accounts. Assets, Liabilities, Income and Expenses are referred to as the natural account segment, and would typically be identified in the chart of accounts as a four or six digit number beginning with 1 for assets, 2 for liabilities, 4 for income and 5 for expenses.

The general ledger consists of a general journal and several sub-journals, which roll up to the general ledger. Some entries are posted to the sub-ledgers and others are posted directly to the general journal, such as a payment on a loan. The general ledger contains the summary balances of each of the sub-ledgers and for accounting purposes; they must match at the end of every accounting period. The ledgers of Kitchens2GO Accounting System include:

The General Journal

Accounts Payable

Vendor Database

Stock Ledger

Unfilled Order File

Accounts Receivable

Sales Journal

Payroll

Fixed Assets

General Journal

General Journal entries include routine monthly accruals for recurring expenses, standard journal entries, (computations made the same way each month on standardized journal entry forms like lease payments and loan payments), reversals, correcting entries, etc.

Purchase/AP Journal

Vendor Database

The buying process is the first step in the retail accounting cycle. Therefore, the vendor database is one of the first areas of information that need to be populated. The vendor database is generally part of the accounts payable sub-ledger. The vendor database should include the following information:

Vendor name and address

Name and telephone number of vendor’s representative

Buyer representing the retailer

Vendor number as assigned by the taxpayer/retailer

Product names, codes such as the Stock Keeping Unit (SKU) or the Universal Product Code (UPC) number, and descriptions

Desired minimum and maximum product inventory on hand

Automated reorder point data

Product purchase price by quantity

Payment terms and discounts

Shipping information, including carrier and origin

Historical cost data

Retail selling price as established by the buyer

Historical retail pricing data

Cumulative purchase information

Schedule of markdowns for seasonal or fashion merchandise

Cooperative advertising agreements

Details of various other rebates or purchase incentives offered

The retailer will also have a similar system with detailed information relating to non-merchandise vendors. Once a purchasing decision is made (i.e., product, price, quantity) a profit margin, or retail price is established for each product. A purchase order is prepared and a file is created for the order which contains information such as the purchase cost, payment terms, shipping arrangements and vendor contact information. Upon receipt of the product, the invoice is entered into the accounts payable ledger and the invoice is paid.

Chart of account codes reflect whether accounts payable entries are related to a regular merchandise transaction or a charge-back issued to a vendor or payment of an applied discount. The purchases journal would contain additional information such as transaction date, discount terms, payment due, and posting date.

Stock Ledger

The Stock Ledger is the principal inventory record. It serves as a perpetual inventory record, containing a roll-up of summary data from the accounts payable journal, price changes, and the sales journal. The stock journal also contains any adjustments to book inventory to correspond to actual physical inventory, i.e., shrinkage adjustments. The summary stock ledger totals should agree with the total cost posted to the general ledger. A separate general ledger account would be maintained for cost departments not using the retail method for determining inventory. The year-end stock ledger data should be used as the basis for a review of the inventory physical count and for cost complement and shrinkage computations. Other facts as pertinent to a particular line of retailing may also be included in the stock ledger. Examples include alteration or workroom costs.

Unfilled Order File

Purchases on order are contained in the unfilled order file in the stock ledger. Information found here includes delivery due dates and payment due dates for the merchandise. This file is used in determining “open to buy limit” which is the budgeted dollar amount for purchases over a specified period of time. An order is generally considered filled when the vendor’s invoice is received and agrees with the merchant’s records, and the merchandise is received, the quantity ordered is correct, the merchandise delivered is the merchandise that was ordered, and the shipment has been inspected for damages. The purchase order, invoice and receiving documents are then reconciled and entered into the accounts payable system.

Accounts Receivable

The accounts receivable ledger contains monies due from third party credit cards, from customers whose checks were not accepted by the bank, or from vendors based on rebates owed. The Receivables sub-ledger records all credit sales and payments received. The transactions net together and roll up to the General Ledger to increase or decrease A/R, and increase cash and decrease inventory.

Monthly Trial Balance

The trial balance will reflect the activity within any general ledger account. The detailed trial balance will display the detail of all entries made to each general ledger account, both directly and as a result of posting entries to the sub-ledgers. The trial balance is generally used as part of the month-end-close process to verify that the accounts are in balance, and to identify any accounts that are inconsistent (for instance, an account with an unusually large balance or a credit balance when it should be a debit, etc.). The year-end trial balance shows the year-end balance for each general ledger account, as well as the prior year’s balance and sometimes the budgeted balance. A comparative trial balance over a multi-year period will help to identify accounts which are unusual in nature or amount. Each month, once the trial balance is complete for the end of the month, the financial statements can be prepared based on the information contained in the general ledger balances.

Sales Records

The loss in sales in the prior fiscal year due to an industrial accident in the factory has been remedied by a contingency plan for temporary and contract workers should the need arise. In addition, after instituting the budgeting process, it was discovered that hiring an additional employee was more cost efficient than hiring contract staff, which charge higher rates on short notice. We feel the addition of the additional permanent employee as well as retaining contingent staff will help prevent future shortfalls. In addition, the machinery on which the accident occurred was upgraded to include more modern safety features.

Objectives

Instituting a strategic planning and budgeting process has helped Kitchens2GO to identify and address possible areas of competition, to assess supplier costs and maximize volume discounts, and to increase the presence to the customer and the quality of customer service. In addition, a monthly variance analysis has been instituted to monitor key business drivers, such as patterns in sales, extraneous expenditures, and to maximize cash flow by arrangements with both customers and suppliers.

Kitchens2GO has also instituted a quarterly risk assessment process to evaluate the likelihood of such events as: an increase in competition, increases in vendor prices for goods and services, increases in needs for technology or equipment upgrades, computer viruses, changes in pricing or marketing strategy, product innovation and customer satisfaction.

Financial Statements

Banks look at various ratios depending upon the type of business they are evaluating which gives them indications of the organization’s performance and how they are doing over time. One of the key ratios banks consider, regardless of business type, is cash flow. After all, banks want to know that a customer has the ability to pay their debts. Liquidity ratios tell a bank how much of a drain there is on current resources by measuring the ratio of total current assets (excluding inventory) to total current liabilities. This is often referred to as the “acid test.” The standard range is 1.8:1 for a young company versus.9:1 for a more developed company. Using these benchmarks gives banks a frame of reference from which to measure.

Other indicators to banks include comparing the % of the Cost of Goods Sold on the income statement to industry averages. This gives an indication of the firm’s profit margin with regard to its competitors. Operating expenses may also be examined, not only overall but by type of spending. For instance, is the company adequately staffed during peak cycles? Overstaffed during slow cycles? Is some spending preventable or reducible?

One type of expense that is often examined more closely is administrative expense. Administrative expense is largely fixed and generally not directly attributable to generating sales. There are standard measures by industry for appropriate ranges. Exceptions may include start up costs or capital upgrades.

Lastly, inventory turnover is important to this type of business. Inventory that sits on the shelf too long indicates that inventory is not turning over often enough, that sales are not keeping pace with production.

When combining all of these factors and more, a bank or investor can achieve a good idea of not only a snapshot of how the business is doing today, but compared with yesterday and provide a glimpse of tomorrow. Banks have a fiduciary responsibility to monitor the progress and health of its investments, just as a business owner has to his or her own business. Ideally, the two will work together to identify ways to increase the success of the organization. Without strategic planning, accurate records, risk assessment and monitoring and evaluation these goals would be imminently harder to achieve and harder for the lender to assess.

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