Closing the books with no mistakes

I received the following message from the CFO of a family-run, privately held business, to which I've added a few words in brackets for clarity.

"Our fiscal year end is 6/30, and the CPAs usually come by for review and tax planning on 6/25 [when I have to estimate the 6/30 numbers].  That leaves me updating the books through 6/30, and telling the CPAs [about any changes to the estimates].  The owners like to plan annual bonuses by 6/30 [so my estimates have to be very accurate].  As 6/29 and 6/30 come around, we often find customer receivable amounts that were never rung out as sales, which changes the cost of goods sold, and so on. There are a myriad of things like this that ripple through the financials. Do you have any recommendations for keeping track of the constantly changing accounts that I have "finalized"?   It just gets so crazy by the end of the week that I have a hard time remembering what has happened."

This is an excellent case study for anyone who absolutely, positively has to report extremely accurate numbers on the last day of the reporting period, usually because of bonus planning. The answer is the use of a checklist and process analysis.  First, develop a checklist of every closing task that you need to complete, and put a check-off box next to each item on the list.  There are many closing activities, and there is no way you can remember them all, so having this list is critical.  My list contains about 40 items, and I update it constantly, as new issues come to my attention. For a smaller private company, the list may be smaller, perhaps in the range of 20 items. Here are a few examples of checklist items:

  • Update allowance for doubtful accounts
  • Calculate commissions
  • Match all invoices to receiving log
  • Accrue wages
  • Accrue vacation expense
  • Calculate depreciation
  • Complete bank reconciliations
  • Accrue contractor billings
  • Calculate income taxes
  • Match general ledger balances against supporting documentation

A checklist will bring a great deal of order to the closing process, but the CFO in the case study is also having trouble with lost transactions.  This requires a separate solution, which is process analysis.  Whenever an unexpected transaction appears that results in an embarrassing change to the projected financial results, collect every scrap of information about how and why it occurred.  Then expect to spend a great deal of time tracking down the root cause of the problem, and fix it.  After gradually grinding through every possible transaction error over many months, the instances of unexpected transactions will decline to nearly zero.  In the case study, for example, there are several possible solutions to unbilled invoices, such as comparing the shipping log to issued invoices, additional training for everyone involved in the shipping and billing process, creating an interface between the bill of lading software and the accounting system, and comparing the estimated ship dates on the order backlog to issued invoices.

Of the two recommendations noted here, the checklist is a two-month solution, since your first pass at a checklist will address perhaps 80% of the items, and you'll think of enough additional items the next month to assemble a fairly comprehensive list.  However, the second recommendation could take anywhere from a few months to over a year, depending on the severity of your underlying system problems.