Before we explore ManagePLUS Gold’ allocation features, it may be helpful to discuss some basic accounting ideas related to allocation, cost centers, and profit centers.
Anyone who runs a business would like to know whether the business is profitable, especially before his lender or financial reality communicate that in a some unpleasant and more forceful way. But understanding why a business is or is not profitable is hard to do when looking at the business as a whole. It’s easier if you consider the business as being made up of several different activities or departments, and see how each of these contributes to profits of the entire business.
To begin to answer the “Why are we making (or losing) money?” question, you need to look at each of those separate activities, to figure out which ones the business should or should not be doing, or should change, in order to make a profit. Ideally, you need a profit and loss report for each major department or activity within your business. That can help you answer questions like:
You probably already know that you can set up QuickBooks classes (see “classes” in QuickBooks Help) to represent activities or departments of the business. And if you’ve used classes in your transactions, you know that QuickBooks makes it easy to associate income and expense with specific classes. This is particularly true of direct income and direct expense—things that are directly and obviously associated with a particular class.
But what about things that are not direct incomes or expenses? Liability insurance, office supplies, or fuel for vehicles used in many different activities in the business are typical examples of indirect expenses. (You may have indirect income too, though it usually involves smaller dollar amounts.)
Indirect items can be major expenses of running your business, so you cannot neglect them in measuring profits of the various departments or activities of your business. But QuickBooks doesn’t give you much help there. Splitting up a liability insurance bill among a half-dozen different classes requires that you enter a half-dozen lines when entering the transaction, to have different insurance expense amounts assigned to each class. And if you pay for liability insurance quarterly, he will head to make the same half dozen entries four times per year. That’s a lot of data entry—probably more than the resulting management information would be worth.
But that’s not the only wrinkle in this problem. Suppose you assign part of the liability insurance expense to your Office & Customer Service class. That makes sense, because it covers liability related to your office help, the customer waiting area, and so on. But wait a minute… the “office” doesn’t make you any money. There are only costs associated with running it; it doesn’t earn any income.
Really then, Office & Customer Service costs ought to be divided up among those parts of the business that do earn income, like Towing, Auto Repair, and Custom Services (the part of your business involved with selling and installing pickup truck accessories, car stereos, and such). But back to our liability insurance transaction…does this mean we shouldn’t assign part of the insurance bill to Office & Customer Service, and should only divided up among the income-earning activities? But how can you have an idea of your costs for running the office, if you don’t assign any expenses to the Office & Customer Service class?
If you don’t have a headache yet, it should be easy to see how these kinds of questions could cause one. These points should help to clarify the problems involved:
Lets see how ManagePLUS Gold addresses each of the points listed above.
ManagePLUS Gold lets you set up formulas for any account to allocate the account’s total among any number of classes. Utilities are a typical example. Just set up allocation formulas for your Electricity and Water expense accounts, and from then on ManagePLUS Gold will automatically allocate the current accounting period’s total for those accounts to the classes you indicated in your allocation formulas.
Analyzing “cost-only” and “income-generating” parts of your business separately
If you set up classes to represent the various departments and activities of your business, ManagePLUS Gold lets you designate them as cost centers or profit centers. Cost centers are parts of the business which incur costs but don’t normally generate a profit. Profit centers are parts of the business that generate revenue and are normally operated to make a profit. The reason for separating these two designations is that cost centers can normally allocate amounts to profit centers but not the other way around, as described next.
Splitting (allocating) income and expenses among cost center and profit center classes
ManagePLUS Gold lets you allocate incomes and expenses:
Allocation between cost center and profit center classes is handled by setting up allocation formulas, the same as for accounts. Once you have established them the formulas are ready to use any time for preparing cost center or profit center reports, until you change them.
Easier than the QuickBooks approach
As already mentioned, ManagePLUS Gold lets you establish formulas to allocate amounts between accounts, cost centers, and profit centers. Your formulas can allocate on a percentage basis, or by other means that you will learn about in these tutorial lessons. By establishing formulas that you can use over and over again, until you decide to make changes in how things are allocated, allows ManagePLUS Gold to do the allocation calculations for you in each accounting period, without having to do manual calculations, etc. And, it can reduce the effort involved during transaction entry in QuickBooks, because now splitting amounts among classes when you enter transactions is optional in many cases (more on this later in the tutorials as well).
Getting a report well suited for analyzing profits
The ManagePLUS Gold Profit Analysis report is specially designed for showing income and expense amounts from transactions, and from allocations, as separate blocks in the report. It also has lots of per-unit statistics based on management quantities you have associated with your classes. In fact, the report automatically calculates your per-unit cost of production right there on the report.
Reusing your allocation formulas
When you add a new accounting period, you have the option of copying your allocation formulas to the new period. So most of the effort involved in allocation happens when you first set up the formulas. After that, you’ll mostly just copy them forward into the new accounting periods you add in ManagePLUS Gold. Any changes you make in them will be copied forward as well. The important point is that once you’ve set up allocation formulas, in future accounting periods you’ll mostly be reusing them, and that requires very little effort.
Not by a long shot! This discussion has only introduced the opportunities and problems involved in looking at the profitability of different parts of your business. But once you know that tools like ManagePLUS Gold are available to help solve the problems, the opportunities may push you to learn more about this area of accounting, often called cost accounting or managerial accounting.
In fact, entire college courses are devoted to cost accounting. Why? Because there’s a lot to think about in learning how to assign and allocate costs in a way that produces meaningful information you can use for management decisions. To do a good job you need to properly account for the value of beginning and ending inventories of things you have produced, as well as unused supplies. You also need to know how to adjust beginning and ending inventories in QuickBooks; to know what accounting entries to make. Then too, it’s helpful to have some background or training on ways to look at the different parts of your business—to figure out which should be identified as cost centers or profit centers, and how they relate to each other.
The more you understand about cost accounting, the better and more useful your information will be.
More help is coming!
We don’t have space here to discuss the many important issues involved. And we realize that many ManagePLUS users don’t have an easy, accessible source for information on profit analysis. Since we know the information need is great—especially for information that includes a lot of QuickBooks examples and screen shots—we have a major project underway, designed to fill that information void.
For marketing reasons we cannot say more about it until closer to its release date. All we can say at this point is to keep watching our Web site for information. (Since we cannot know when you’ll be reading this, it would be a good idea to check our Web site right now to find out whether it is available.)
The best way to learn is simply to get started!
You’ll make some mistakes, sure, but nothing that can’t be changed “for next year”—QuickBooks and ManagePLUS are both pretty flexible in letting you restructure your lists and data. Most importantly, experimenting with allocation and profit analysis will reveal some easy opportunities for understanding more about costs within your business.
Now, on to the tutorial lessons…