Word to the wise: ecommerce accounting is quite different from the traditional bookkeeping practices used by brick-and-mortar stores, and it’s critical to understand a set of core building blocks in order to get a full financial picture of your business’ performance. Why? Well, savvy online retailers know that having a solid grasp of ecommerce accounting basics plays a huge role in accumulating relevant data about a store’s fiscal health— and in using said data to fuel future growth.
Leveraged wisely, these 10 essential principles of ecommerce accounting will set your operation on the path to long-term success. From tracking cash flow to sales tax requirements, you’ll continually use these tenets throughout the life of your business—and when applied strategically, they’ll give you insights that allow you to sustainably scale your operation while avoiding the most common financial roadblocks.
Ready to get your learn on? Let’s dig in.
Differences Between Cash vs. Accrual Accounting
Cash accounting is simple: Any money coming in is considered income, and money going out is considered an expense. This is the most elemental form of accounting and is perfect for tracking simple cash flow.
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However, ecommerce accounting operates a bit differently, which is why online retailers should be familiar with accrual accounting as well. This method counts income and expenses when the transaction occurs, rather than when the payment is made, and is more useful for inventory-based businesses. Sellers need to track revenue at the time of each sale, not at the time money is collected. This type of accounting will help you visualize the long-term impact of your business’ cash flow.
Tracking Cash Flow
Perhaps the most important performance indicator to monitor is your business’ cash flow, or the way money moves in and out of your business. Seems simple, right? Wrong. Because most ecommerce platforms and online marketplaces only provide cash flow reporting every few days or weeks, mostsellers and accountants need to integrate these channels with technology that helps them visualize analytics in near-real-time. Be sure to also plan for any auxiliary costs of the business, holds on incoming revenue, and other factors that affect when money is coming in or going out.
Inventory Counting Basics
Another fundamental ecommerce accounting principle to understand is the basics of inventory counting. There are many costs that get folded into inventory, such as materials, manufacturing, packaging, storage, shipping, and more. Part of maintaining positive cash flow is acquiring a breakdown of all of these costs, but it doesn’t stop there. Be sure you know the value of the products you’re selling, how many are being sold versus produced, and where you can access a thorough count of what’s in stock at any given time.
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Cost of Goods Sold (COGS)
Cost of goods sold (COGS) refers to the amount spent on producing the products you sell, including the price of materials, labor, distribution, and other associated services. It’s critical to calculate these expenses before listing products in your online store in order to price them strategically for maximum profitability. The right accounting software can automatically track all of this for you, providing your business with accurate financial data every step of the way.
Your business’ expenses include everything from overhead — utilities, storage, property expenses, inventory costs, etc. — to seller’s fees for utilizing ecommerce platforms or selling on marketplaces. Some of these expenses, such as rent and priority mail shipping, will be set at a fixed rate, while others will fluctuate throughout the year. Variable expenses can drastically affect your cash flow, so any dramatic changes to things like business development costs or advertising budgets should always be factored into the calculation of your overall expenses.
If your business is making a consistent profit, great! But don’t get too comfortable. To stay ahead of the game and ensure you continue to operate at a comfortable profit margin, get to know your break-even point — the number of dollars you earned that will cover your operating expenses. If your operating expenses are too high while incoming revenue is too low, you’ll fall short of your break-even point and fail to generate profit. While this might occur temporarily while you’re ramping up your operation, your business cannot remain viable if it turns into a long-term problem.
Your break-even point and our old friend COGS also ties into your gross margin, a number calculated by subtracting the cost of goods sold from your sales revenue. The higher your gross margin, the more of each dollar you retain to use for anything from debt repayment to marketing your business. Therefore, it’s much easier to be profitable long-term if you keep your company’s overhead expenses within reason.
Sales Tax Requirements
It can’t be overstated that even a simple understanding of the ever-changing sales tax requirements for ecommerce businesses is a huge advantage. Because ecommerce retailers don’t operate like traditional stores, the tax burden changes from state to state.
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Combining your own knowledge with the best accounting software and the help of an ecommerce accounting professional will propel your business into even more success, because you’ll be prepared for anything when it comes to changing sales tax requirements.
Profit and Loss Statements
Profit and loss statements (P&Ls) show a snapshot of your business within a certain time period by summarizing income and expenses. They’re also sometimes referred to as income statements or earnings statements. The data on a P&L gives you an accurate view into how your business is doing from month to month and quarter to quarter, and includes data regarding your gross margin,operating expenses, andprofits. You’ll also reference your P&Ls when working with an accounting professional, along with your balance sheet and cash flow statements.
Once again, keeping meticulous accounting records will show you the broad view of your business’ overall growth. A balance sheet shows your business’ assets, equity, and any liabilities. Let’s put it this way: While your P&L offers a snapshot of your business at a particular moment in time, your balance sheet zooms out to showcase the bigger picture. Together, these two documents come together to paint a detailed picture of your business’ financial health, both in the short and long term.
Benefits of Accounting Software
If your head is spinning by now, don’t worry. Accounting is a complex process, but it gets easier once you have a handle on the basics. Another trick to simplify your accounting? Digitize it with software like QuickBooks or Xero so you don’t have to dig through a shoebox of receipts every time you want to see how your money is moving. By aggregating your data in one place, you’ll always be accurately informed about what’s going on on the financial side of your business.
Making These Principles Work for You
Utilizing all of these basic accounting principles will strengthen you and your business over time, making your company more profitable and helping your products reach more people. A little extra knowledge goes a long way in ecommerce.