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Accounting For Startups

Accounting For Startups

When you first bring a newborn home from the hospital and want reassurance the baby is doing ok, you’ll probably listen periodically for breathing sounds. It’s unlikely that you’ll track the number of breaths per minute and compare it to the average for all newborns. Of course, as the child grows, you’ll incorporate additional ways to monitor whether physical, mental and emotional development are on the right track.

In the same way, your need for accounting services as you’re starting a business is going to be quite different from your needs once the business has, with a lot of hard work, grown to, say, $20 million a year in revenue. According to Brian Hamilton, chairman of financial information company Sageworks, a lot of inexperienced entrepreneurs may be confused about whether they need to hire an accountant early on,  or even before they’ve started operating.

“Most businesses are very simple, and the vast majority of them are sole proprietorships,” Hamilton says. As a result, all of the owners’ energy goes toward getting revenue and getting customers. “In most cases, you don’t need an accountant on day one. If I’m going to start, for example, a landscaping company, I’m not going to count money until I make money.”

Numerous accounting systems, such as QuickBooks, Peachtree and Xero, can help new-business owners track the key metrics such as sales and expenses in the early stages. And tax-return software makers like Intuit make it easier for these sole proprietors to file their Form 1040 with a Schedule C attached.

“If you’re running a fairly simple business, why do you need an accountant on the first day? You might need an accountant for advice, because you usually need advice once you get going,” he said. Accountants can provide financial and strategic advice for your business, and they can help with services like estate planning or getting a loan. A startup tech company raising money might also need an accountant in some cases, he said.

But the need for an accountant is mostly dependent on the type of business you’re starting and where the business is in its life cycle. And most of the time, people are starting a simple business and simply need to jump on the task of getting customers.

“A lot of the time, entrepreneurs and others seem to have a kind of checklist in their head about what ‘real’ businesses do and have. They think that all businesses ‘need’ an accountant, a lawyer, a business plan, to be incorporated. All they’re doing is setting big obstacles to getting the first customer,” he said. “My advice would be to go get a customer and then get an accountant.”

In the meantime, private-company owners do well to focus on a couple of key financial metrics. Most will closely track sales for obvious reasons. And unless the business is project-based or you offer credit to customers, tracking sales should be pretty straightforward. Aside from that, logging your expenses meticulously (both your direct costs for materials and supplies and your indirect costs for advertising or that accounting software), will help you keep tabs on whether or not your business is turning a profit.

Two key ratios that can help you track your profitability

• Gross margin: This is a company’s revenue minus total costs directly involved in producing the product or delivering the service, divided by revenue. This shows what percentage of sales is left over after direct costs, and it's an important measure of efficiency. Examining this can guide you on when you need to adjust prices or volume in order to keep more of what you sell.

• Net margin: This is a company’s net profit measured against sales and takes into account all expenses related to the business (such as bank fees and other general overhead). This margin tells you how much of every dollar in sales your firm is keeping after all expenses are paid.

Other metrics become more important to understand and track as the business grows, Hamilton said. Again, when exactly the business begins tracking these metrics will vary depending on the type and life stage of a company. But at the earliest stage – when many individuals are developing the idea for and launching their business – the most critical metric is sales.

"I'm not saying you don't need an accountant at some point," he said. "It’s got to be time sequenced."

“Most businesses in the early stages are very simple, and all of your energy should be channeled into getting revenue and getting customers,” Hamilton said. “Then once you get those, maybe you get an accountant.”