The number of startups is on the rise in the United States, which is great news for the business environment at large. More competition inspires better strategy, better marketing, and better customer service.
However, in the rush to pursue growth, profitability and secure capital, many startups overlook understanding and harnessing the opportunity of accounting for startups.
Even accounting for tech startups gets overlooked in the rush to profitability, which often leads to trouble as these companies expand and become more financially and legally complex.
There are five things to know about accounting for startups, and they're all included in the guide below.
#1 – Financial Records Are King
Financial records often take many forms, such as bank statements, receipts, old checks, and other items that will be recorded on the general ledger.
One of the top mistakes that startups make when sending these records right to an accounting firm to fix the wreckage is that they don’t keep and manage them properly from the beginning.
For example, a cash flow statement requires good and consistent financial records, and this important reporting is a primary request of most all stakeholders and one that signals the financial health of the business and whether it is growing or slowing.
Cash flow is the lifeblood of business, and keeping accurate and timely financial records is imperative to having an accurate and timely cash flow statement.
And as your business seeks additional capital, it is documents like the cash flow statement that will reveal your company’s financial status and viability.
#2 – Bookkeeping and Accounting Go Hand in Hand
Weak bookkeeping and weak accounting practices go hand in hand. While the two practices are different, they're largely related.
Startups have a lot of tasks to take care of at the beginning, but that doesn’t mean that bookkeeping and accounting have to become afterthoughts.
Think long-term and start out the right way by recording financial transactions accurately and in real-time, perhaps with the help of a firm or software. The better the financial records are, the better the financial statements become in the future.
Accurate reporting is the difference between a company that can see its opportunities to grow and one that is mired in uncertainty about where to make financial adjustments.
#3 – Good Financial Modeling Is Money in the Bank
In its simplest definition, financial modeling is just the set of tools businesses use to forecast financial performance and make plans.
Done properly, financial modeling is money in the bank.
Unfortunately, many startups are usually busy executing their vision and financial modeling goes by the wayside.
Better modeling leads to many needs of startups, including opportunities for raising capital, tactics for allocating capital properly, and even strategies for appropriately valuing the business.
If there are long-term plans to sell the business, then valuation becomes incredibly important, and a healthy valuation is born from good financial modeling.
#4 – Pick an Accounting System and Stick to it
When you set out to choose your accounting approach, you should base your decision on not just where you are today but where you plan to be in the future.
Choosing the correct accounting system will make this easier; make a bad decision, however, and unnecessary complexity enters the picture.
To avoid such complexity, you should place your accounting needs in the hands of an advisor.
The Two Main Accounting Strategies
The two main accounting strategies are the cash system and the accrual system. The two systems shouldn’t be mixed; structure your entity and your bases with strategy in mind.
Accrual accounting is about recording revenues and expenses when they happen, not necessarily when they're reconciled; cash accounting is about recording transactions when they are received and paid.
You'll likely choose the accrual method for your bookkeeping and the cash method for taxes: This way, you can accurately keep track of income (both reconciled and unreconciled) and pay taxes only on what you've reconciled (in other words, only on the cash you've actually collected for services rendered).
As your business evolves, you can reevaluate as your strategic plans unfold based on your business's financial performance.
Understanding Both Accounting Systems
Think of it like a box of eggs: cash accounting is like declaring the eggs when you crack them into the skillet, whereas accrual accounting is like declaring the eggs the minute you take them away from the farm.
Many startups make a mistake by trying one system and then going to another, which creates problems down the road. Pick a system and stick to it.
The right system may require looking closer at business strategy, but this is always worth the time.
#5 – Use Technology to Tame Your Accounting Processes
The most important takeaway here is simple: while technology can’t replace the human brain, the reality is that tech solutions can take care of a lot of headaches by creating longer-term budgets and forecasts that link to your business's financial records, providing strategic and real-time performance monitoring.
For example, you wouldn’t use pen and paper when software solutions like Quickbooks Online exist, right?
Using accounting software allows a small business to enter credit card transactions with ease and see all ledger accounts at a glance.
For business owners looking at better accounting for startups, accounting software can help ease the gap between what’s needed and a professional accounting firm to help out.
For enterprise businesses, Enterprise Resource Planning (ERP) solutions keep reporting accurate, increase data and cloud security, and improve the processes (including those in accounting) your enterprise relies on to succeed by bringing in cash faster and keeping expenses as low as the solution's efficiency allows.
The tax difference between a C-Corp and an S-Corp is enough for some companies to go directly to the S-Corp to avoid double taxation issues and receive healthier tax returns.
However, as your business grows, accounting software will require more dedicated handling and professional oversight, the kinds provided by such an accounting firm
Other Considerations for Startups: Don't Rush Your Financial Foundation
One of the biggest points to remember in terms of accounting for tech startups is that the foundation may take time, but it’s the biggest defense against bad accounting. The business structure matters a great deal.
Gathering collective agreement between not just the founders but other key employees plays a big role in the day-to-day accounting practices around the company.
For example, if everyone is turning in receipts on time, business expenses are properly accounted for faster than before.
Your General Ledger and Chart of Accounts
Correctly initializing your general ledger and chart of accounts also creates a solid business foundation.
Doing so assists you and your team in properly accounting for the business needs of today and tomorrow.
If a single source of financial data exists (the general ledger) that's directly linked to a certain level of granularity in revenue reporting (your chart of accounts), business cohesion improves, simple mistakes are harder to make, and less money is left on the table.
Industry-Leading Accounting Services for Tech Startups and Beyond from The Sharp Financial Group
Don’t go it alone. The risks of bad accounting tend to outweigh any “savings” gained from going the DIY route.
Unfortunately, many startup owners try to wear every single hat possible in order to save money, yet find themselves making mistakes simply because it’s impossible to know everything.
Even industry leaders collaborate with each other, sharing strategies that improve business for everyone.
The world of accounting is the same way. While the tips here in this guide help minimize issues startups face in the early and mid-level stages, the reality is that professional help is best.
The Sharp Financial Group may not be able to install new windows and locks, but the accounting firm’s team of CPAs and business advisors can build a better plan for your company’s bookkeeping and accounting needs.
Leave it to the professionals and get back to your strengths, the very skills that led you to create a business in the first place.