There are three major reasons why bookkeeping is important. New business owners tend to work through these reasons in order, as they progress through their entrepreneurial journey.
This is where most business owners start: doing the bare minimum bookkeeping that their government requires. As the business grows, it may be affected by more government regulations, so the owners increase their bookkeeping efforts grudgingly.
That’s fine when the business is small and the entrepreneur is working on those first sales dollars. However, the entrepreneur will eventually need to use their bookkeeping for other purposes.
Fraud and Audits
The second major reason bookkeeping is important is for discouraging and uncovering fraud.
It’s easier for someone to steal from a business with a bad bookkeeping system. For example, some business owners don’t report all of their cash income on their tax return, which makes it really easy for unscrupulous employees to steal from them.
Good bookkeeping records make fraud more difficult. Take it a step further and audit your bookkeeping records, either personally or using a qualified professional.
I don’t like to spend too much time talking about this point, because some business owners get stuck here. As the business grows, the entrepreneur is not physically able to watch everything, and this can worry them. Then their growth stops, because they are spending too much time indulging their fear of loss.
This is the main reason bookkeeping is important.
Want to know how your business is doing? Have a look at the reports from your bookkeeping system. They are like the scoreboard and athlete statistics in sport, or the instruments on the dashboard of your car. They provide warnings, benchmarks and tracking for your business.
The key report initially is your profit & loss statement or “P&L”. At its most basic, your P&L will hopefully show a profit, i.e. that you have more income than expenses. You can compare your most recent P&L to a previous P&L to monitor the effects of changes in the business, for example new marketing initiatives, and keep costs under control.
Larger businesses will often generate a P&L per product/service, or per branch/division. This is important to review regularly, so that unprofitable areas of the business can be corrected or removed.
Other reports that become increasingly important are: aged receivables (debtors), aged payables (creditors), the balance sheet, budgets and cash flow projections. As a business grows, it is more and more important for an entrepreneur to regularly review these reports. Investors and lenders will also want to see these reports.
This is only a brief overview of the importance of bookkeeping. I have planned detailed posts for each report, highlighting why the report is important, what exactly you will be looking for, and when to start looking at it.