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Accounting Decoded for Service-Based Businesses

Posted by Kashoo Team on August 31, 2017 at 9:10 AM

It doesn’t matter if you’re a photographer, contractor, or computer repair guy. If you’re in business for yourself, you’ll have to be your own accountant at some point, even if you’ve never managed business finances before.

But don’t let your lack of experience intimidate you. That’s exactly why we’ve created KashooU: so that any small business owner can quickly understand accounting basics. As a service-based business owner, there are specific considerations that retailers and other goods-based business owners don’t have to worry about.

Decoding accounting for service-based business

What You’ll Learn and Why It’s important

We’ve distilled the most important information for service-based businesses into this guide in order to alleviate the guesswork about what does and doesn’t apply to your business model. After studying our guide, you’ll be ready to manage your finances with confidence.

Each section will cover:

Let’s get started, shall we?

Section I: Accounting Basics for Complete Beginners

Nuts and bolts of your books from KashooU.Here's what every business needs to know, regardless of whether you're service-based or not: the nuts and bolts of your books. As your business grows, accounting needs grow, too. Educate yourself on the basics now to keep things from spiraling out of control later. Practicing good financial management and keeping records organized provides an accurate picture of how your business is doing, how you can improve your cash flow and service offerings, and when to secure financing.

I’m good at what I do. Why should I bother learning about accounting?

If you want to be a successful business owner, you’ll have to step outside your comfort zone to learn new things until you can afford to outsource them. Accounting isn’t only about bookkeeping and taxes. Accurate accounting gives you the ability to:

      • make financial projections so you can go on vacation (or not)
      • anticipate financing needs so your cash doesn’t dry up
      • decide to change the legal structure of your business for tax liability or personal asset protection
      • figure out how to hire and pay employees or contract labor
      • adjust your service offerings in order to grow or downsize

Learn what accounting really is and why you should care at What Is Accounting and Why Do I Need It?

What standards should I use to keep my accounting system from unraveling?

What's your accounting playbook?In the US, Generally Accepted Accounting Principles (GAAP) are how most businesses keep tabs on their finances. Consider them your accounting playbook.

Why is this important? For one thing, consistently recording every transaction makes it easy to compare statements from different periods and analyze business growth. Financing is easier, too, because investors or creditors will review your financials before handing you cash.

For more information on GAAP, check out What Are the Generally Accepted Accounting Principles (GAAP)? Canada has a similar playbook. It’s called Accounting Standards for Private Enterprises (ASPE). Learn more about ASPE at What are the Accounting Standards for Private Enterprises (ASPE).

Next, we’ll cover the first step in applying what you’ve just learned: how to keep good books.

Section II: Getting Started Keeping Books for Your Service-Based Business

You’ve armed yourself with a basic understanding of accounting and the standards that govern American and/or Canadian businesses. Now it’s time to battle-test your financial acumen.

The great news for service-based businesses is that you don’t manufacture physical products. In other words, determining Cost of Goods Sold (COGS) is one bookkeeping nightmare that won’t keep you up at night.

What is the best way to keep my books in order (even when everything else isn’t)?

Bookkeeping is the art of tracking every penny that comes in and goes out. This information is essential at tax time, but keeping books balanced all the time helps you keep the cash flowing in all the right directions. Start off on the right foot with What Are Good Bookkeeping Practices?

Seasonal businesses like photography don’t need to record income daily, but expenses don’t always stop when the income dries up. Stay on top of your books when the busy season is over to cover year-round expenses and record overdue payments that trickle in.

Now that I know what to do, how can I avoid (accidentally) cooking my books?

There are some things you should NEVER do. Here are three of the most common: 3 Accounting Mistakes to Avoid.

Should I count my money before or after I get paid?

There are two ways to record company finances: the cash or the accrual method. GAAP recommends using the accrual method, but many service-based businesses start with the other because it’s simpler.

It really depends on your company’s financial situation which method you should use, as the accrual method may provide tax advantages. Check with a financial professional to determine what’s right for your business. Accrual-Basis vs Cash-Basis Accounting explains both methods. There’s no right or wrong way to count.

What’s the first thing I should do when I’m ready to use accounting software?

When you’re ready to begin using accounting software, a chart of accounts saves time and makes it easy to get it right the first time you fire up your computer. Learn what you need to include by reading What Is a Chart of Accounts?

Keep the cash coming in nice and steady.How do I create invoices that keep the money coming in nice and steady?

Invoicing is to a business what a paycheck is to an employee. It’s vital that invoices are as clear as possible to avoid conflicts. Before writing your first invoice, as a service-based business you should carefully structure pricing and payments in order to keep a consistent cash flow.

If a project will take several weeks or months to complete, charge a deposit upfront and collect a percentage of the total cost as certain milestones are completed. Retainers and monthly services should be paid in advance when possible to avoid spending several hours on work you are unable to collect payment for. If a client is behind on payments, shorten the amount of time they have to pay and/or do not complete new work until they’ve caught up.

The Art of an Effective Invoice describes the most important things to include on yours.

Now you’re ready for the most important lesson every business owner needs to know. Get it right, and you’ll coast when others struggle. Get it wrong, and your business won’t be a business for long.

Section III: Managing Cash Flow

You’ve mastered the fundamentals of accounting once you’ve put them into practice by keeping your company books. But if your business can’t cover current expenses, it doesn’t matter how much is coming in later. You have a cash flow problem.

One way service-based businesses can keep their cash flow predictable is to transition from working on individual projects to securing monthly retainers. Working on a project basis means you have to constantly market your business to find new projects. This leaves less time to complete paying work.

Construction contractors can take advantage of this by finding larger contractors with a steady stream of overflow work and charge a set monthly rate. A computer repair person could create monthly, quarterly, and yearly maintenance packages to keep one-time customers coming back for more. The more predictable your income is, the easier it is to plan and make changes as needed.

Keep cash flowing so your business doesn't drown in expenses.How can I keep the cash flowing so my business doesn’t drown in expenses?

It’s understandable that money is a common source of anxiety. Successful businesses continually monitor what’s coming in and going out, no matter how scary it may seem. This is especially true when you have longer payment cycles, such as 30 or 60 days after invoicing and work on a project basis. Retailers and ecommerce businesses don’t have this type of stress.

For more about this important topic, read How to Manage Your Cash Flow (and Avoid Going out of Business).

What’s the secret to getting paid faster?

Accounts receivable is where your money is coming from. Getting customers to pay quickly helps alleviate cash flow problems. Service-based businesses often have payment terms that allow customers 30 days or more to pay. Learn more at How to Get Paid Faster: Accounts Receivable Tips for Your Small Business

Section IV: Analyzing Your Service-Based Business Accounting Data

Congratulations! You’ve made it through the most important accounting lessons to get you up and running quickly. Now that you’ve got some financial data ready to roll, it’s time to learn how to make sense of all those dollars and cents.

What is a profit and loss statement and how does it help my service-based business?

Financial data is the lifeblood of your business.

Profit and Loss Statements (P&L Statements) are the easiest way to see on a regular basis how much money is coming in after expenses are paid.

Your COGS will always be $0 because service based businesses don’t produce physical products. Though some of you sell products as part of a service, you don’t have to account for how much it costs to make those products. These will be recorded as expenses and may be billed directly to the customer. Learn more at How to Read a P&L Statement.

If the money’s in the margins, how do I figure out what mine are?

Net income is the simplest way to determine how profitable a company is, especially when your business has very little expenses.

But profit margins give you a ratio of net income vs. sales, which help you determine if you need to adjust prices and/or cut expenses to grow. Even if your sales increase yearly, your profit margin may stay the same or decrease due to growing expenses.

What Is Profit Margin? illustrates how to calculate them.

How much money do I need to keep the lights on?

While some service-based businesses have no overhead in the beginning, all businesses incur expenses. The break-even analysis tells you the minimum amount of sales necessary to keep the doors open.

Learn more at: Break-Even Analysis: What It Is and How to Figure It Out

Conclusion

It doesn’t take an MBA to manage your company’s finances. All you need is a little knowledge and the willingness to take consistent action. By following our course outline, you’ll be ready to tackle your service-based business finances with confidence.

The right software makes accounting even easier. Kashoo is an online accounting software program that has all the features you need to manage your company finances. Get started for free today.

Try Kashoo for 14-Days Totally Free

Topics: Know and Grow Your Business, Accounting Basics