The profit and loss (P&L) or income statement is critical for understanding your business. Every quarter we close the books, analyze the P&L, compare against our economic model of the company, and prepare a report for the company meeting. We usually notice some anomalies. It can take quite a few hours digging around trying to explain why Cost of Sales varied unexpectedly, why metrics like revenue/employee varied, whether or not expenses were in line with expectations, etc. We improved this process considerably when we started adjusting for WIP and accrued wages.
We’ve made four more changes this year that have made our P&L more useful, and simplified our quarterly financial analysis and reporting process.
The first change was organizational. For most of Atomic’s ten years I tracked the cost of people (pay, benefits, social taxes, etc) in either Cost of Sales (CoS), if they were makers, or Expense, if they were support staff. I put laptops and professional development expenses here as well, reasoning that they were directly related to our makers. I even used adjusting journal entries to split some individuals (like me) who are both billable and non-billable.
We now have three major sections in our P&L:
All of the costs for every person in the company go into the section that book keeping applications call Cost of Sales or Cost of Goods Sold. We no longer distinguish between makers and support staff, and equipment and professional development moved to Expenses.
The second change was to eliminate some accounts that were distinguishable, but not significant. For instance, we formerly tracked Long Distance separately from Telephone. All told we reduced our total number of accounts by about a third. Quite a bit of cruft had built up over time.
The third change was for reporting. We re-arranged our chart of accounts so that we could report and analyze at a higher level while still recording transactions at a detailed level. It’s easier for our business manager to have a detailed set of accounts to record transactions. But when it comes to analyzing the financial performance of the company, it’s easier to operate at a more abstract, aggregated level. With better organization one set of books could serve both masters.
The fourth change was to move accounts that were necessary, but not directly related to our main line of business, into Other Income and Other Expenses. This kept our accountant happy, since it maintained a proper and complete set of books for tax purposes, while making it easier to understand Atomic financial results and match them to our model. Accounts that moved into these “Other” sections track our speculative development work, employee profit sharing, reimbursed project expenses, and interest revenue and expense.
Our People section is now quite predictable. We don’t spend time chasing ghosts, trying to figure out, for instance, why the Cost of Sales went up when it turned out that support people worked more billable hours.
We no longer have to split people like me. The split people also distorted the Expenses section. Sometimes it was hard to see actual changes in expenses because of this.
We seldom use contractors, so our People expense is very steady and predictable. Now the books reflect that.
Cleaning up obsolete or excessively specific accounts was like refactoring an overly large or complicated method. It just feels good and smells better.
Recognizing that we could track transactions at a fairly detailed level, but report at a higher level decreased the time required for and complexity of quarterly accounting. Our full chart of accounts consists of 85 distinct accounts. For reporting and comparison purposes we reduced this complexity to a more manageable 16 groups.
By moving some of the accounts that don’t directly relate to our main line of business into the Other sections of the P&L we made it easier to compare our results to our model, and easier for employees to understand the finances of the company.
- Payroll Tax
- Software Services
- General & Administrative
- Equipment & Stuff
- People Development
- Sales & Marketing
- Occupancy Costs
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