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Debt Restructuring

See Also:
How to Keep Your Corporate Veil Closed
Corporate Veil
Bankruptcy Information
Debtor in Possession
Insolvency
Mezzanine Debt Financing (Mezzanine Loans)
Relationship With Your Lender
Reorganization

Debt Restructuring

A company can fall into financial trouble for many different reasons. Often, the gut reaction of management is to file for Chapter 11 bankruptcy. In our practice, we consider bankruptcy a last resort remedy. We always try to keep our clients out of bankruptcy. Why? Because an out-of-court debt restructuring or liquidation has the potential of achieving higher returns for all of the stakeholders at a lower cost. Furthermore, companies increase the chances for a successful operating turnaround by avoiding the negative publicity often generated by a bankruptcy filing. The purpose of this memo will be to describe the secrets of successful out-of-court debt restructuring for debtors and creditors.

The Usual Scenario That Results in Debt Restructuring

The usual scenario can occur in any type of company –  manufacturing, distribution, services, retail, etc. Typically, there is a bank lender with a line on accounts receivable, inventory, equipment, land, and trade creditors. If the business does not own real estate or equipment, then there will be a landlord and some equipment lessors. These are small differences and the principles discussed below will apply regardless. Although the bank loan may be current or just a payment or two behind, there are significant covenant defaults and payments to trade creditors are delinquent.

Restructure or Liquidate

The first thing the business must do is determine whether or not to continue operations/restructure or liquidate. This will depend largely on whether or not there is a sufficient market for the company’s products or services. If there isn’t, it is pointless to continue and the decision will be for liquidation. In the event of a decision to liquidate, the Company must then decide whether selling as a going concern perhaps to a competitor or shutting down immediately will maximize the value of the assets. We often recommend that the client hire a competent turnaround professional. They will assist with this evaluation and the creation of a viable action plan. In addition to assisting in this regard, an independent turnaround professional provides the Company with credibility when approaching creditors for concessions.

Maximizing Value

One might ask why the Company should care about maximizing the value of the assets. The answer is that often, the principals have personal guarantees that need to be satisfied. These guarantees act as a significant incentive for management to obtain the maximum value. Moreover, our experience is that most principals want to achieve the maximum recovery for all concerned. In many instances, they believe the assets are worth more than their appraised value. If the business can be sold as a going concern, then it must be able to run at close to cash flow break even for at least 90 days. This will give management a chance to market the assets as a going concern. If this is not achievable, then the business must shut down.


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The Business Plan

If there is a market for the business and the Company can operate at close to cash flow break even, then it must come up with a reasonable business plan for going forward. The business plan is often provided in two stages.

First Stage of a Business Plan: Eliminate Cash Flow Crunch

The first stage is when the Company is in crisis and it simply needs to eliminate a cash flow crunch. At this point in time, the plan must provide at a minimum for the collection of enough revenue to cover the payment of ongoing business expenses such as payroll, taxes, rent, utilities, critical supplies, transportation costs, etc. Ordinarily, this means that the Company will likely have to curtail payments on past due loans, leases, and trade credit while the business operations are being turned around. In addition to curtailing payments on past due debts, the Company usually reduces headcount and undertakes other cost-cutting measures to equalize the sources and uses of cash. Competent turnaround professionals are excellent at identifying areas where business can cut costs and become more efficient. The plan should include current and projected balance sheets, income statements, and cash flows.

Second Stage of a Business Plan: Negotiate Out-of-Court Settlements

The second stage of the business plan is developed at a later date. Hopefully, the Company’s efforts to cuts costs and make operations more efficient has turned a negative cash flow situation positive and the long term prospects for the Company are brighter. At this point, the Company has the ability to negotiate out-of-court settlements with its creditors.

Creditor Negotiations

The bankruptcy attorney, the Company, and the turnaround professional work together to negotiate with creditors. There are typically two stages to these negotiations, which also mirror the stages of the business plan. The most important negotiation obviously is with the bank; they typically hold a lien on assets, and therefore, the bank has the ability to foreclose. Contemporaneously with this process, the Company should contact its unsecured trade creditors. First, we will discuss how to approach the bank and then the trade creditors.

First Stage Bank Negotiations

Assuming the Company has identified its problems early in the process, the bank is probably not aware that a crisis exists. The worst thing the Company can do under these circumstances is attempt to continue to hide the crisis from the banker. Rather, the Company must go to the banker and disclose the nature of the crisis and provide a plan for resolving it. This is perhaps the hardest principal for most companies experiencing financial difficulty to accept. The Company almost always believes that the bank will take immediate action to liquidate its collateral. This is almost never the case since the bank really does not want to own the collateral. Also, the bank is often impressed with the honesty and integrity of the Company in bringing the problem to its attention.

Banks are not strangers to financial difficulties. Negotiations are even more effective if the Company has already hired a turnaround consultant who has reviewed the business operation and developed a plausible plan to stabilize the situation. Ideally, the meeting with the bank should be with the Company, the turnaround consultant, and the bankruptcy attorney. The Company should let the banker know that an attorney will attend the meeting, so the banker will know to invite his bankruptcy attorney. The knowledge that an attorney will attend the meeting telegraphs and prepares the banker to expect a problem.

Volunteer Complete Access to Company Records

In the wake of Enron and other corporate fraud, bankers are often suspicious and may believe their borrowers are bleeding money out of the company inappropriately. The best way to combat this problem is to volunteer to provide the banker and/or its auditors with complete access to company records.

Circumstances: Liquidation or Continue Operations

The negotiations with the bank are going to depend on the facts and circumstances of each case. They can run the gamut from a simple request to waive a covenant default or a total forbearance. This depends on the cash flow situation and whether or not the Company has decided to liquidate. If the Company has decided to liquidate, then the banker will want to know the nature of the program for selling the assets, the costs of sale, and how the proceeds of the collateral will be transmitted to the bank. If the Company has decided to continue operations, then it will usually request some form of relief on debt service.

The forms of relief can be a total cessation of debt service for a short period of time while operations are being stabilized. Or it can be an agreement to pay interest only for a certain period. Assuming the Company is honest and has a reasonable business plan, it is a virtual certainty that the bank will enter into an agreement.


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First Stage Trade Creditor Negotiations

The negotiations with trade creditors are less involved. This is because they ordinarily do not hold liens and the consequent power to shut down operations. Typically, the Company will create two lists of creditors.

The first list will consist of non-critical vendors. These creditors will be sent a letter requesting a standstill for at least 60 days. Ordinarily, no further credit will be extended by these creditors and the Company will only be able to do additional business with them on a COD basis. In this letter, the Company (or the bankruptcy attorney) will describe the extent of the financial crisis and the steps being taken to rectify the situation. If possible, the letter should include recent financial statements. The concluding sentence should promise to get back to the creditors before the end of the standstill period. Then provide a report and/or an offer to settle the debt. There are several purposes for this letter.

Communication with Creditors & Vendors

First, it is simply good business practice to notify your creditors about the situation. Oftentimes, creditors with past due debts will make collection calls.  Then company personnel will do any of the following:

  • Duck the calls
  • Promise to make payments the Company really can’t afford
  • Make phony excuses

These types of responses will only make the creditors mad. Second, the flow of information to the trade creditors will have virtually the same impact as providing information to the bank. That is, most trade creditors will agree to the standstill as an alternative to litigation. Obviously, the purpose of this effort is to avoid the cost and expense of litigation. Moreover, if a creditor obtains a judgment, then it can force the Company to file for bankruptcy, thereby defeating the entire purpose of an out-of-court settlement.

Critical vendors (i.e. those absolutely necessary for the business to survive) must be dealt with separately. In essence, keep these debts current. If the Company cannot keep them current, then it must figure out a way to do business with these vendors on a COD basis.

Equipment lessors are often the most difficult set of creditors to deal with. In the situation where the Company has leased equipment not being used, notify the leasing companies and invite them to repossess. Oftentimes, the equipment lessor will ignore these letters, and they will continue to demand payment. On at least one occasion we have sold equipment and given the proceeds to the equipment lessor who absolutely refused to repossess. If the equipment is being used in the business, then the Company should make the payments if possible or try to reschedule them.

Second Stage Negotiations

Once again, these are going to depend on the circumstances. In a reorganization, the best case scenario is that the business has turned around and is now in a position to propose a restructure or refinance of its bank debt. Here again, turnaround professionals can provide assistance in presenting refinancing requests to asset based lenders, factors or investors. These individuals are typically less risk averse than banks. Furthermore, mail a second letter to trade creditors offering either of the following:

  • A discounted cash settlement assuming funds are available
  • A payout of a larger percentage over time

Most trade creditors will accept a deeply discounted cash option rather than litigating or waiting for a larger payout over time. This is usually a good decision. We have negotiated many such settlements in the range of ten to twenty cents on the dollar.

If the business has not turned around sufficiently to proceed in this manner, then the Company should meet with the bank again to discuss the process and request an additional extension of time. Make a similar request to the trade creditors.

In a liquidation, the Company should meet with the bank periodically to report on the status of the sale of assets. Issue similar reports to trade vendors. Sometimes, trade vendors demand to be paid something immediately. The parties must note that once the Company is in default under a secured bank loan, the diversion of collateral proceeds to third parties without bank consent is actually a crime. This crime is Hindering Secured Creditors. It is a felony if the amount involved exceeds $1500. See Texas Penal Code §32.33. It is extremely rare for a bank to consent to such payments. Use this little known fact to dissuade trade creditors from taking collection action.

Conclusion

Assuming a Company is honest and trying to fulfill its fiduciary duty to creditors, then an out-of-court workout will produce a higher return to creditors and a quicker payout than a bankruptcy filing. The parties can tell if a company is honest if it provides information upon request and access to records. When you employ a competent and independent turnaround consultant, you greatly improve the likelihood of a successful outcome. Of course, a single creditor can interrupt the process by filing suit and obtaining a judgment. Such a creditor may think that it is jumping ahead of the crowd and gaining leverage to achieve a higher settlement. In most instances, this is faulty logic for several reasons.

Reasons for Faulty Logic

First, if the Company files for bankruptcy, the creditor will forgo the opportunity to be paid out-of-court. Assuming all circumstances are equal, the return will be reduced by the amount of professional fees paid to exit bankruptcy. Second, if the creditor is paid a higher percentage than other creditors, then the additional amount ordinarily is not enough to cover the legal fees the creditor must pay for the collection work. Third, if the Company ends up filing bankruptcy within 90 days, then the payment is subject to being recovered as preference. In most instances, it makes more sense to work with a Company in financial trouble (debt restructuring) than to file suit.

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Originally published by  on July 24, 2013.
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Capital Asset Pricing Model (CAPM)

See Also:
Cost of Capital
Cost of Capital Funding
Arbitrage Pricing Theory
APV Valuation
Capital Budgeting Methods
Discount Rates NPV
Required Rate of Return

Capital Asset Pricing Model (CAPM)

The most popular method to calculate cost of equity is Capital Asset Pricing Model (CAPM). Why? Because it displays the relationship between risk and expected return for a company’s assets. This model is used throughout financing for calculating expected returns for assets while including risk and cost of capital.

Cost of Equity

Also known as the required rate of return on common stock, define the cost of equity as the cost of raising funds from equity investors. It is by far the most challenging element in discount rate determination.


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Calculating Capital Asset Pricing Model (CAPM)

The Capital Asset Pricing Model (CAPM) states that the expected return on an asset is related to its risk as measured by beta:

E(Ri) = Rf + ßi * (E(Rm) – Rf)

Or = Rf + ßi * (risk premium)

Where

E(Ri) = the expected return on asset given its beta

Rf = the risk-free rate of return

E(Rm) = the expected return on the market portfolio

ßi = the asset’s sensitivity to returns on the market portfolio

E(Rm) – Rf = market risk premium, the expected return on the market minus the risk free rate.

Expected Return of an Asset

Therefore, the expected return on an asset given its beta is the risk-free rate plus a risk premium equal to beta times the market risk premium. Beta is always estimated based on an equity market index. Additionally, determine the beta of a company by the three following variables:

  1. The type business the company is in
  2. The degree of operating leverage of the company
  3. The company’s financial leverage

Risk-Free Rate of Return

Short-term government debt rate (such as a 30-day T-bill rate, or a long-term government bond yield to maturity) determines the risk-free rate of return. When cash flows come due, it is also determined. Define risk-free rate as the expected returns with certainty.

Risk Premium

Additionally, risk premium indicates the “extra return” demanded by investors for shifting their money from riskless investment to an average risk investment. It is also a function of how risk-averse investors are and how risky they perceive investment opportunities compared with a riskless investment.

Cost of Equity Calculation

For example, a company has a beta of 0.5, a historical risk premium of 6%, and a risk-free rate of 5.25%. Therefore, the required rate of return of this company according to the CAPM is: 5.25% + (0.5 * 6%) = 8.25%

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capital asset pricing model

Originally published by Jim Wilkinson on July 23, 2013. 

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Limited Liability Company (LLC)

See Also:
S Corporation
General Partnership
Limited Partnership
Partnership
Sole Proprietorship

Limited Liability Company (LLC) Definition

A Limited Liability Company or LLC is a business form which provides limited liability much like a corporation. There can be an unlimited number of members to the company. There are also many tax benefits that emerge from forming this type of business.

Limited Liability Company (LLC) Meaning

A Limited Liability Company means that it contains the same barrier to personal liability for actions by an employee or member of the company unless there is a case of fraud or gross negligence. Members are unlimited, but there are limitations in that all members must be domestic. In addition, a member can be anything like a private equity group, corporation, or any individual as long as they are an American citizen.


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Advantages of a Limited Liability Company (LLC)

Limited Liability Company (LLC) advantages range from taxes to the limited exposure by members discussed above. There are tax benefits in that an LLC has the choice of being taxed like a partnership or a corporation. The first option means that the profits and losses will flow through to the members, but this all depends on ownership percentages or an agreement by contract. Therefore, the IRS only taxes members once at the individual level. An LLC can choose to be taxed as a corporation as well. This means that the company would have certain salaries for its members and the actual entity will taxed as a whole.

Another large benefit of the Limited Liability Company is the ability of the company to own its own intellectual property. Because this is a private form, there is also greater protection from being acquired by other companies. This allows the company to grow at its own pace and make decisions without having to worry about pursuit of other companies.

Disadvantages of a Limited Liability Company (LLC)

One disadvantage of an LLC is the cost; it’s typically more expensive to operate than partnerships and/or proprietorships. There are annual state fees when you operate an LLC. In addition, banks usually have higher fees for LLCs than they do for other entities.

Another disadvantage is that you need to separate all records – business vs. personal. The money, meeting minutes, structure, and records all needs to be separate.

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Limited Liability Company

Originally posted by Jim Wilkinson on July 24, 2013. 

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Journal Entries (JEs)

See Also:
Double Entry Bookkeeping
Journal Entries For Factoring Receivables
Accounting Principles
Accounting Concepts
Adjusting Entries

Journal Entries Definition

A journal entry is a recording of a transaction into a journal like the general journal or another subsidiary journal. Journal entries for accounting require that there be a debit and a credit in equal amounts. Oftentimes, there is an explanation that will go along with this to explain the transaction.

Journal Entries Meaning

A journal entry means that a transaction has taken place whether it is a sale to a customer, buying goods from a supplier, or building a warehouse. These transactions affect both the balance sheet and income statement.

As said before, journal entry accounting requires that there be an equal debit and credit for every transaction. This is also known as double entry bookkeeping. Many journal accounts have a normal balance. For example, assets have a normal debit balance if the account is increased and it is a credit if it is decreased.


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Journal Entries Example

The following example will use both balance sheet and income statement accounts to show how they work.

Bill has been looking for a certain toy for his son. He walks into Toys Inc. to find it. After some searching, Bill finds a GI Joe for $14 and buys it to take home to his son. The toy cost Toys Inc. $9 to get the toy from its supplier. Thus, Toys inc. will record the following journal entries into the Sales Journal:

Cash………….$14

Sales Revenue…………..$14

COGS………….$9

Inventory…………………..$9

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Journal Entries

Originally posted by Jim Wilkinson on July 24, 2013. 

0

Standard Chart of Accounts

See Also:
Chart of Accounts (COA)
Problems in Chart of Accounts Design
Complex Number for SGA Expenses

Standard Chart of Accounts

In accounting, a standard chart of accounts is a numbered list of the accounts that comprise a company’s general ledger. Furthermore, the company chart of accounts is basically a filing system for categorizing all of a company’s accounts as well as classifying all transactions according to the accounts they affect. The standard chart of accounts list of categories may include the following:

The standard chart of accounts is also called the uniform chart of accounts. Use a chart of accounts template to prepare the basic chart of accounts for any subsidiary companies or related entities. By doing so, you make consolidation easier.

Organize in Numerical System

Furthermore, a standard chart of accounts is organized according to a numerical system. Thus, each major category will begin with a certain number, and then the sub-categories within that major category will all begin with the same number. If assets are classified by numbers starting with the digit 1, then cash accounts might be labeled 101, accounts receivable might be labeled 102, inventory might be labeled 103, and so on. Whereas, if liabilities accounts are classified by numbers starting with the digit 2, then accounts payable might be labeled 201, short-term debt might be labeled 202, and so on.


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Number of Accounts Needed

Depending on the size of the company, the chart of accounts may include either few dozen accounts or a few thousand accounts. Whereas, if a company is more sophisticated, then the chart of accounts can be either paper-based or computer-based. In conclusion, the standard chart of account is useful for analyzing past transactions and using historical data to forecast future trends.

You can use the following example of chart of accounts to set up the general ledger of most companies. In addition, you may customize your COA to your industry by adding to the Inventory, Revenue and Cost of Goods Sold sections to the sample chart of accounts.

SAMPLE CHART OF ACCOUNTS

Refer to the following sample chart of accounts. Each company’s chart of accounts may look slightly different. But if you are starting from scratch, then the following is great place to start.

1000 ASSETS

1010 CASH Operating Account
1020 CASH Debitors
1030 CASH Petty Cash

1200 RECEIVABLES

1210 A/REC Trade
1220 A/REC Trade Notes Receivable
1230 A/REC Installment Receivables
1240 A/REC Retainage Withheld
1290 A/REC Allowance for Uncollectible Accounts

1300 INVENTORIES

1310 INV – Reserved
1320 INV – Work-in-Progress
1330 INV – Finished Goods
1340 INV – Reserved
1350 INV – Unbilled Cost & Fees
1390 INV – Reserve for Obsolescence

1400 PREPAID EXPENSES & OTHER CURRENT ASSETS

1410 PREPAID – Insurance
1420 PREPAID – Real Estate Taxes
1430 PREPAID – Repairs & Maintenance
1440 PREPAID – Rent
1450 PREPAID – Deposits

1500 PROPERTY PLANT & EQUIPMENT

1510 PPE – Buildings
1520 PPE – Machinery & Equipment
1530 PPE – Vehicles
1540 PPE – Computer Equipment
1550 PPE – Furniture & Fixtures
1560 PPE – Leasehold Improvements

1600 ACCUMULATED DEPRECIATION & AMORTIZATION

1610 ACCUM DEPR Buildings
1620 ACCUM DEPR Machinery & Equipment
1630 ACCUM DEPR Vehicles
1640 ACCUM DEPR Computer Equipment
1650 ACCUM DEPR Furniture & Fixtures
1660 ACCUM DEPR Leasehold Improvements

1700 NON – CURRENT RECEIVABLES

1710 NCA – Notes Receivable
1720 NCA – Installment Receivables
1730 NCA – Retainage Withheld

1800 INTERCOMPANY RECEIVABLES

 

1900 OTHER NON-CURRENT ASSETS

1910 Organization Costs
1920 Patents & Licenses
1930 Intangible Assets – Capitalized Software Costs

2000 LIABILITIES

 

2100 PAYABLES

2110 A/P Trade
2120 A/P Accrued Accounts Payable
2130 A/P Retainage Withheld
2150 Current Maturities of Long-Term Debt
2160 Bank Notes Payable
2170 Construction Loans Payable

2200 ACCRUED COMPENSATION & RELATED ITEMS

2210 Accrued – Payroll
2220 Accrued – Commissions
2230 Accrued – FICA
2240 Accrued – Unemployment Taxes
2250 Accrued – Workmen’s Comp
2260 Accrued – Medical Benefits
2270 Accrued – 401 K Company Match
2275 W/H – FICA
2280 W/H – Medical Benefits
2285 W/H – 401 K Employee Contribution

2300 OTHER ACCRUED EXPENSES

2310 Accrued – Rent
2320 Accrued – Interest
2330 Accrued – Property Taxes
2340 Accrued – Warranty Expense

2500 ACCRUED TAXES

2510 Accrued – Federal Income Taxes
2520 Accrued – State Income Taxes
2530 Accrued – Franchise Taxes
2540 Deferred – FIT Current
2550 Deferred – State Income Taxes

2600 DEFERRED TAXES

2610 D/T – FIT – NON CURRENT
2620 D/T – SIT – NON CURRENT

2700 LONG-TERM DEBT

2710 LTD – Notes Payable
2720 LTD – Mortgages Payable
2730 LTD – Installment Notes Payable

2800 INTERCOMPANY PAYABLES

2900 OTHER NON CURRENT LIABILITIES

3000 OWNERS EQUITIES

3100 Common Stock
3200 Preferred Stock
3300 Paid in Capital
3400 Partners Capital
3500 Member Contributions
3900 Retained Earnings

4000 REVENUE

4010 REVENUE – PRODUCT 1
4020 REVENUE – PRODUCT 2
4030 REVENUE – PRODUCT 3
4040 REVENUE – PRODUCT 4
4600 Interest Income
4700 Other Income
4800 Finance Charge Income
4900 Sales Returns and Allowances
4950 Sales Discounts

5000 COST OF GOODS SOLD

5010 COGS – PRODUCT 1
5020 COGS – PRODUCT 2
5030 COGS – PRODUCT 3
5040 COGS – PRODUCT 4
5700 Freight
5800 Inventory Adjustments
5900 Purchase Returns and Allowances
5950 Reserved

6000 – 7000 OPERATING EXPENSES

6010 Advertising Expense
6050 Amortization Expense
6100 Auto Expense
6150 Bad Debt Expense
6200 Bank Charges
6250 Cash Over and Short
6300 Commission Expense
6350 Depreciation Expense
6400 Employee Benefit Program
6550 Freight Expense
6600 Gifts Expense
6650 Insurance – General
6700 Interest Expense
6750 Professional Fees
6800 License Expense
6850 Maintenance Expense
6900 Meals and Entertainment
6950 Office Expense
7000 Payroll Taxes
7050 Printing
7150 Postage
7200 Rent
7250 Repairs Expense
7300 Salaries Expense
7350 Supplies Expense
7400 Taxes – FIT Expense
7500 Utilities Expense
7900 Gain/Loss on Sale of Assets

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standard chart of accounts

Originally posted by Jim Wilkinson on July 24, 2013. 

52

Outsource Definition

See Also:
Administration Expenses

Outsource Definition

The outsource definition is the practice of transferring business activities to an external organization instead of performing the activities internally.

Outsourcing Criteria

Companies may outsource business activities if they feel an external organization can perform the activities better or at a lower cast than if the company were to perform the activities itself. Outsourcing typically involves a contract between the company and the external organization that stipulates the costs, quality standards, and other conditions regarding the performance of the business activity.


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Insourcing

The decision to outsource instead of insource depends on the nature of the business. Typically, companies want to focus on their core business activities and outsource peripheral activities. Value chain analysis may help a company discover which activities to perform internally and which to consider outsourcing.

Activities that are commonly outsourced include bookkeeping, legal services, transportation, security, and other business activities. When deciding whether to outsource an activity or perform the activity internally, it is necessary to consider the advantages and disadvantages of outsourcing.

Outsourcing vs Insourcing

It may be advantageous to outsource an activity if doing so is cheaper than performing the activity internally. It may also be useful if the external organization has superior expertise in the activity. Outsourcing also allows a company to focus its attention on its core business activities.

There are also disadvantages to outsourcing. Outsourcing customer service operations may cause customers to feel disaffected when they find out they are not dealing with the company they are trying to reach. Also, if the external organization has access to sensitive information, then there may be a risk of information leaking to competitors or other parties. Outsourcing certain operational activities may cause the company to give up valuable customer data used for marketing purposes. And finally, outsourcing may require the company to incur the costs of monitoring and auditing the performance of the external organization.

Outsourcing Overseas

In today’s global economy, more and more companies are outsourcing business activities to external operations in other countries. Labor and operational costs may be significantly lower than in the company’s home country.

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Outsource Definition
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Outsource Definition

Originally posted by Jim Wilkinson on July 24, 2013. 

1

General Ledger Reconciliation and Analysis

See also:
Account Reconciliation
Standard Chart of Accounts
Problems in Chart of Account Design
Cash Flow Statement
Income Statement
Subsidiary Ledger

General Ledger Reconciliation and Analysis Definition

Define a general ledger as the financial record of every transaction of a company. Commonly, it is referred to as the “books” of the company. In the general ledger, record each of the transactions twice as both a subtraction (debit) and addition (credit). The general ledger is the main accounting record of the company.

Consequently, general ledger reconciliation is the process of ensuring that accounts contained in the general ledger are correct. In short, reconciliation makes sure you place the appropriate credit and debit in the associated accounts. Seemingly simple, this process requires an experienced bookkeeper when applied to small companies. Complicated applications require the hand of a trained CFO or equivalent controller. In either situation, a general ledger reconciliation policy must by enacted to ensure consistency.


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General Ledger Reconciliation Explanation

Not every general ledger account has a detail subsidiary ledger to reconcile to. Monthly all balance sheet accounts should be analyzed for accuracy. In addition, periodically it may be necessary to reconcile revenue accounts, expense accounts and miscellaneous balance sheet accounts.

In these cases the procedures are similar to reconciling an account to a subsidiary ledger. Print a detail general ledger transaction report for the account. Then, eliminate reversing journal entries correcting errors. Finally, investigate any transactions that are unusual in nature. For example a debit entry or decrease to a revenue account would be unusual.

Finally, prepare a detailed schedule of transactions remaining in the final balance.

General Ledger Reconciliation Process

Some wonder “what is general ledger reconciliation?”. Others wonder how to do general ledger reconciliation. For bookkeepers, adhere to the following process:

First, study the accounting policy of the company. Ignorance to this is missing the essential foundation of the process; knowing the rules is key.

Then, gather information. These include receipts, invoices, account statements, invoices, and related financial reports. This data is the information the accounting staff puts into accounts.

Third, ask questions about the accounts. What items did the company purchase? Do they relate to company policy? Why are they included in the given account? When were they spent/made?

Finally, document your work. Proper documentation ensures properly reconciled accounts as much as it ensures effective bookkeeping in the first place.

General Ledger Reconciliation Template

A general ledger reconciliations template can be found at: Microsoft Templates.

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Periodic inventory System

 

General Ledger Reconciliation and analysis

Originally posted by Jim Wilkinson on July 23, 2013. 

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