One of the primary tasks faced by any accountant is either some participation in, or the management of, the periodic delivery of financial statements. When poorly managed, this can result in the late delivery of the statements, as well as inconsistent treatment of recurring accounting issues from period to period, incorrect information, and minimal supporting commentary. Speed of closure is an important goal, for it shifts the focus of the accounting department away from the production of the statements for a large part of the following month, which leaves more time for other activities, such as process improvement of accounting transactions, creating new data collection systems, or providing better financial analysis to the management team. This also results in better morale within the department, since the accounting staff can take pride in knowing that they are part of an efficient and effective process that results in a quality deliverable. Also, a key element in the organization of the financial statement production process is the ongoing and in-depth review of all accounting transactions that feed into the statements, so that errors can be eliminated from them before they reach the financial statements. This ongoing review process leads to considerable efficiencies in operations throughout the accounting department.
In this post, I will cover the steps needed not only to properly organize the financial statement production process, but also how to close the books quite rapidly. Note that the process described in this post is a highly iterative one that can drive the closing process down to as little as one day, but it may be a year or more before this goal is attained. By pointing out the gradual nature of this process, there will be no expectation that a sudden leap in closure speed will occur. Enjoy!
Smart Ways to Organize Interim Reports
One of the best ways to satisfy financial report recipients with information is to query them about what types of information they need to see as soon as possible, and then report on this information apart from the financial statements. For example, if they need to see revenue figures for the full month as soon as possible, it may make sense to issue daily or weekly summaries instead, as well as an estimated revenue figure just before the end of the reporting period.
By taking this approach, the management team gets to see what it wants at regular intervals, and has less need to see the full set of financial statements, which the accounting staff can then complete and issue a few days later, with no pressure being exerted by anyone because they want to see the information.
Other examples of the types of information that report recipients might want to see in advance of the financial statements are both revenue and margins by salesperson, product, or region; cash flow; capital expenditures; and specific performance measurements, such as the days of accounts receivable on hand.
If this approach is taken, then it is very important to build especially strong control systems around the information that is reported early. The main reason for doing this is that the recipients have already established that this is the most important information that they want to see, so it has to be as accurate as possible when issued. Since the time of issuance will be prior to the release of the full financial statements, there will be little time to cross check the underlying data for accuracy. Consequently, the control systems used to collect and summarize the data must be good enough to spot any errors at once and warn the accounting staff that there is a problem.
Word of cautions:
The use of interim reports is an effective way to issue only the most crucial information as early and frequently as possible, resulting in better information for recipients and less pressure on the accounting staffs to complete the financial statements in short order.
General Activities for Better Closing
There are several general activities that will contribute to the speedy and orderly closing of the financial records. One of the most important is to create an expectation with the management team that it will take some time before the speed of closure will improve.
Another general improvement is to place rigid controls over the types of pre-closure information being released by the accounting department. When information is handed out before it has been checked for accuracy, the accounting staff will find itself in the uncomfortable position later on of having to waste time issuing revised reports and explaining why the original information was incorrect. These activities will take place right in the middle of the closing process, and so contribute to a much slower release of financial statements.
Another general activity is to document the existing process that is used to create financial statements. This should include a listing of which employees perform certain tasks, the dates on which those tasks are to be completed, and their sequential order. This information forms the basis upon which changes will be made. Writing down the process will likely increase the speed of closure, since the accounting manager can then use it as a checklist to monitor the progress of the closing process.
The standardization of the chart of accounts throughout the organization is a very useful activity, for it reduces the work required to consolidate the financial statements. With a common account structure, there is no need to create a detailed system for mapping accounts from various subsidiaries into a master chart of accounts. Though this can be a difficult and prolonged task to accomplish, the result will be a much smoother closing process.
Yet another general activity is to organize the resources of the department so that it is fully staffed during the periods when financial statements are being compiled. This means that vacations should not be allowed for those employees who are expected to work on the statements during the days when the closing process is under way. If there will be periods when the workload is expected to exceed the available capacity of the staff, then overtime hours should be scheduled well in advance. It also means that any other activities within the accounting area, such as meetings, the preparation of other reports, or training sessions, should be routinely shifted to some other dates that will not conflict with the closing process.
A final general activity is to include a class on the closing process in the mix of departmental training activities. By doing so, the accounting staff can learn about the entire process, so that they will realize how their individual activities affect it. They can also learn about the various techniques available for documenting and analyzing process flows, with a particular focus on reducing cycle times. This knowledge is of great value when the accounting department works on the reduction of time needed to close the books. This training can be extended to include additional personnel, so that the department is fully cross-trained in all of the tasks associated with producing financial statements; by doing so, the department will still be able to complete financial statements on time, even if a few employees are not available to work on them during the closing period.
Smart Closing Activities Prior To Period-End
The days prior to the end of the accounting period can be used to complete a large quantity of activities related to the close. This is a prime area for improvements, since many accounting organizations seem to think that the closing process does not begin until the accounting period is complete. In reality, a properly managed closing process will have very few tasks to complete after the end of the accounting period. In this section, we will review many of these activities.
Minimizing Bank Reconciliation Burden – In terms of slowing down the production of financial statements, one of the worst offenders is the bank reconciliation. It does not usually arrive from the bank until a week after the account period has closed, and then requires a rush effort to complete. To avoid this problem, several of the larger national and super-regional banks now offer on-line access to detailed banking records, which allows one to conduct an ongoing bank reconciliation throughout the month. As a result, all adjusting entries for the bank reconciliation will have been made well before the end of the accounting period, so that there is no further work to be done in this area after the period-end.
Reviewing Key Account Balances – Another activity is the ongoing review of key account balances during the accounting period, or at least a single review several days prior to the period-end. By doing so, the accounting staff can see if there are any unusually high or low account balances that require investigation. This review may involve a comparison to budgeted levels or a trend line of balances from previous periods. By checking balances a few days early, the accounting staff can spot and correct problems that would otherwise require examination during the “crunch period” immediately following the end of the accounting period, when there are few resources available for such activities.
Organizing Depreciation – It is also possible to complete all depreciation and amortization calculations prior to period-end. Though it is quite likely that a few assets arriving close to the period-end will not be recorded in these calculations, they will be picked up for the following period’s financial statements, and so will have a minimal impact on reported results. If this method is used, there should be an additional waiting period at the end of the fiscal year, so that all assets can be recorded for auditing purposes.
Being Smart with Accrual – Another possibility is to create a bad debt reserve in advance of the period-end that is based on a historical trend line of bad debt experiences. This accrual can be adjusted every quarter or so in order to reflect actual bad debt experience. As long as there is a reasonably well-founded history of bad debts upon which to rely, there is no reason to conduct a painstaking review of this reserve at the end of each reporting period.
Earlier Footnotes with Boilerplate – One can also reduce the time needed to produce the written financial statements by creating boilerplate footnotes in advance to accompany the statements. The footnotes can have blank spots in the few areas that require adjustments based on the period-end figures, while the remaining verbiage is reviewed in advance to verify that it is still applicable to the financial situation.
Preparing Financial Statement Format – Another report-related activity is to review the format and content of the previous period’s financial statements with the management team to see if they need all of the information that was presented. If not, then these items can be eliminated, which reduces the amount of data gathering and summarization that would otherwise be required.
Organizing Cost Allocations – Cost allocations are a prime target for advance work. The bases upon which overhead allocations are typically made are carefully recalculated after every period-end, even though the percentage changes in the bases tend to be quite small. A better approach is to allocate costs using bases that are developed from the financial and operational results of the last few reporting periods, which ignores the results of the current period. By doing so, the allocation bases can be developed at any time during the current accounting period, and can then be quickly multiplied by period-end costs to determine actual allocations.
Populating Journal Entries – Another possibility is to create and partially populate journal entry forms in advance. For example, forms can be created in advance for all of the following entries, including account numbers and descriptions:
- Audit fee
- Bad debt
- Interest income
- Interest expense
- Property taxes
- Salaries and wages accrual
- Vacation accrual
- Bank reconciliation
Some accruals, such as for salaries and wages, can also be completed in advance using estimations. For example, the accounting staff can approximate the number of people who will be working during the period between the last pay day and the end of the accounting period, and create an accrual for this amount. These entries tend to be slightly inaccurate, but can be improved upon by diligent reviews of variances between estimates and actual results.
A small number of accruals will involve the exact same amount of money in every accounting period. If so, these can be converted into automatically recurring entries (assuming that the accounting software will allow this), and so can be entered once and then avoided, save for an occasional review to see if the entry is still valid.
The number of possible activities that one can engage in prior to the period-end makes it clear that the closing process is one that can be conducted in a continuous manner, rather than in a rush, and so is more conducive to smooth scheduling of accounting staff time.
Overcome Bottleneck Process Subsequent To Period-End
Once the accounting period has ended, the primary focus should be on the remaining activities needed to complete the close that are bottleneck operations. In other words, all management attention should focus on those few items that require the largest amount of staff time to complete. There are only a few items in this category. The worst one used to be the bank reconciliation, but in the last section we learned how to shift the bulk of the work associated with that activity into the prior period. One of the other bottlenecks is the completion of invoicing from activities at the end of the prior period. The completion of this activity is dependent upon the forwarding of shipping documentation by the shipping staff, so it is helpful to send the accounting staff to that area to assist in the completion of paperwork, which they can then hand-carry back to the accounting department. This activity can also be automated, as noted in the next section.
Another bottleneck operation is the completion of accounts payable. One could wait a week for all supplier invoices to arrive in the mail and then enter them into the computer system, but this introduces a one-week delay into the closing process. A better approach is to compile a list of recurring invoices that always arrive late, and accrue an estimated balance for each one, rather than wait for the actual invoice to arrive. Also, if purchase orders are used, any open ones can be compared to the receiving log to see if the associated purchases have arrived, even if the supplier invoice has not, and then accrue for the amount of the purchase order. This process can also be automated, as noted in the next section.
Another bottleneck operation is the investigation and resolution of variances. This step tends to occur last, after the financial statements have been produced, but are clearly not showing accurate results. As noted in the last section, some variance analysis can be conducted in the prior period, based on partial results. However, some variances will still arise. One way to reduce the workload is to only review items that exceed a minimum variance threshold percentage, and leave all other variances for investigation after the statements have been released. Though this defers some likely transactional corrections, they will be so small that they would not have made a significant alteration in the reported financial results.
A final bottleneck is the accumulation of quantity and costing information for the period-end inventory. If a manual inventory count is conducted at the end of each period, then several days and many hours of staff time must be devoted to this activity, resulting in significant delays in the closing. To combat this, the inventory system should be shifted to a perpetual one, where ongoing inventory balances are constantly updated. This allows one to avoid period-end inventory counts and focus instead on cycle counts, which are small ongoing counts that constantly review different parts of the inventory area. These steps avoid all period-end activities related to inventory.
Even with the bottleneck-related problems being systematically addressed and reduced in size, there are a number of other activities that can be improved upon, though their impact will not be as great. One is to avoid the creation of small accruals. In too many instances, an overly zealous accounting manager requires the staff to calculate and create accruals for every conceivable expense, even though their net impact is minimal. This results in a barely discernible impact on the financial statements, but a considerable workload on the staff. To avoid the problem, there should be a minimum accrual size below which accruals will not be created.
There can also be a problem with an overabundance of journal entries that are made during this period, possibly conflicting with each other. The problem arises because multiple employees have the ability to enter journal entries. A better approach is to funnel all journal entries through a small group of authorized personnel, so that these employees can track what entries are made, compare them to a standard set of entries, and verify that the correct entries are made, in the correct amounts, and to the correct accounts.
It is also possible to analyze the post period-end processing flow and revise it so that activities are accomplished in parallel, rather than serially. For example, a processing flow may be arranged so that the first task must be completed before the next task is addressed, which in turn feeds into yet another task. This process flow incorporates a great deal of wait time between activities, and therefore tends to greatly extend the time required to complete the final task at the end of the chain of activities. It is better to split apart these processes into smaller groups, so that the number of dependencies is reduced. This allows one to complete the closing much more quickly.
A final item is related to management of the process—the accounting manager should schedule a daily meeting with the accounting staff to go over the tasks that need to be completed in order to close the books. These meetings should always include a handout that specifies the exact tasks required of each person on the team, when the tasks must be completed, and whether or not they have been done. If the closing process is a highly accelerated one, it may even be necessary to hold more than one meeting per day to ensure that tasks are being properly completed. This task cannot be overemphasized—proper management has a major positive impact on the efficiency and effectiveness of the closing process.
Closing Activities Subsequent To Statement Issuance
During the issuance of financial statements, it is quite likely that several problems will be encountered, such as errors in a few transactions that required manual correction by the accounting staff, or perhaps a failure in the closing schedule that resulted in some wasted time and delayed issuance of the statements. If these problems crop up once, they will very likely do so again, unless prompt action is taken to resolve them before the next set of financial statements must be issued. Consequently, it is important to call a meeting immediately after the financial statements have been completed, so that all participants in the process can categorize the problems encountered and prioritize them for resolution. Responsibility for completion of the most critical items can then be handed out, with follow-up meetings scheduled by the accounting manager to ensure that progress is made in resolving the issues.
These meetings do not have to focus on just the problems that were encountered. Another major topic of discussion can be streamlining methods that further reduce the time period needed before the statements can be issued. This may involve changes in who does some portions of the work, or perhaps the reduced use of some accounting controls that are interfering with the processing time. This may also include an ongoing analysis of the critical path used by the accounting team, with particular attention being paid to the time required for the completion of certain processing steps, as well as wait times for key activities. The number of potential topics is quite large, and should keep an accounting team busy on an ongoing basis with a continual stream of prospective improvements to be considered.
Another valuable activity is to utilize the services of the internal audit department in arriving at solutions to systemic problems that are interfering with the production of financial statements. Specifically, if the accounting staff finds recurring transactional problems that are originating outside of the accounting department, then it should call for an audit to ascertain the root cause of the problem, as well as recommendations for how to resolve it. The only problem is that the internal audit staff may have a long backlog of requested audits, and cannot address the requested issues for some time. Consequently, it is important to list all issues to be handed over to the internal audit staff as soon as they are discovered, rather than burying them in a long list of problems to be addressed at a later date.