***Public service announcement: If you’re an L&D Leader, CLICK HERE to sign up for the LinkedIn Live I’m doing next week for L&D Leaders entitled: How L&D Leaders can help non-finance managers be financially literate.

Based on data from the 33,257 non-finance managers that we've trained, I'll be giving practical tips on how to radically transform the financial literacy of non-finance managers in your organization.****

Most non-finance staff struggle with the fact that we can make a PROFIT yet have little or no money in the bank account of the business. Or, the opposite - we can have tons of money in the business bank account yet be making a LOSS.

Let's explore.

Accrual accounting

In order to explain this we have to understand an important concept in accounting: accrual accounting.

In simple terms, accrual accounting means that we record what happens when it happens rather than recording things only when money is received or paid.

Let's look at some examples and then ask some questions about what happened and when it happened to get clarity on how accrual accounting works.

Revenue:

What happened? We provided service to a client for $10,000

When did this happen? December 6th 2023

Have we received the money yet? No – we’ll only receive the payment from the customer in January 2024

Do we record revenue on the P&L? Yes !!!

Why? Because of the principle of accrual accounting that says we record what happens when it happens.

Learning take-away: The revenue line on the P&L represents the value of goods sold/services provided in a particular period regardless of whether we have received the money or not.

Expenses:

What happened? We received an invoice from our lawyer for $4,000 for legal work

When did this happen? December 3rd, 2023

Have we paid the money? No – not yet – our lawyer give us 30 days to pay.

Do we record a legal expense on the P&L? Yes

Why? Because of the principle of accrual accounting that says we record what happens when it happens.

Learning take-away: The legal expense line on the P&L represents the value of legal services used/received in a particular period regardless of whether we have made the payment or not.

Profit:

Profit is the amount by which income (revenue) exceeds expenses.

Let's calculate the profit for the period ending 31 December:

= Revenue (Income) – Expenses

                                 = $10,000 - $4,000

                                 = $6,000

 What is our bank balance for this same period? ZERO

No money was received and no money was paid.

There we have it!!

We made a profit ($6,000) yet we have no money in the bank account for this period. 

Money will only be collected from our customer and paid to our lawyer next year in the next period.

Understanding accrual accounting helps us understand how accountants and finance folk define words like revenue, expenses and profit. This is a necessary step to become financially literate.

If you’re a visual learner, take a look at this short video I shared on this topic:

On a personal note, it’s been a month since I launched this weekly newsletter. Thanks for all the great feedback and suggestions 🙏 Keep 'em coming.

PS - If you need to upskill your non-finance managers to understand their P&L's, go to www.accountingmadeeasy.co and get in touch.

PPS - If you’re an L&D Leader, CLICK HERE to sign up for the LinkedIn Live I’m doing next week for L&D Leaders entitled: How L&D Leaders can help non-finance managers be financially literate.

Based on data from the 33,257 non-finance managers that we've trained, I'll be giving practical tips on how to radically transform the financial literacy of non-finance managers in your organization.