Manufacturing organizations run on historically lean margins, and in such a competitive space, every company must seek new ways to maximize cash flows, maintain margins, and reduce risks. But many overlook one potential hindrance to this mission: the inability of enterprise resource planning (ERP) systems to manage the end-to-end financial accrual process.
ERP systems, while great for processing business transactions and managing accounting flows, struggle to determine precise accrual rates — a task that can lead directly to the misallocation of money. Yet many companies push their ERP systems to manage this task, even though these solutions can only take a portion of the process.
To regain control over accruals, companies must take a hard look at their current processes and if necessary, implement a solution to address the gaps that ERP systems leave behind.
The dangers of poor accrual management
When it comes down to it, accruals are like an insurance policy. Companies must set aside funds now to cover expenses that might occur in the future. But for many organizations, managing accruals is a dangerous guessing game. Some companies choose to err on the side of caution, and over-allocate money for future payouts on their sales incentives, rebate programs, or other anticipated liabilities. Trouble is, over-accruing freezes cash flows and can prevent organizations from fully investing in future operations.
Under-accruing, on the other hand, can cause even greater problems for an organization. If companies don’t hold enough money to pay upcoming expenses, then they’re often faced with a last minute scramble to reallocate funds and cover unexpected claims. Worse yet, in some extreme cases, under-accruing can force organizations to restate their earnings, seriously impacting corporate value.
This exact scenario happened to Groupon in 2012. The company underestimated the number of refunds it had to issue at the end of the quarter, and therefore failed to accrue the proper amount of money. The unaccounted refunds increased Groupon’s losses to $64.9 million from $42.3 million, and forced the company to restate its earnings. The company’s stock price dropped 6 percent overnight, causing internal and external turmoil. No company wants to find itself in a situation like this; therefore it’s imperative that all organizations effectively balance risk aversion and sound utilization of capital.
Additionally, organizations struggle with the ability to accurately set and manage accrual rates. Rates are important because they determine the total dollar amount of an accrual transaction. In a traditional ERP system, organizations must manually estimate and enter rates. This can cause a number of problems. First, since the process itself is manual, it enhances the risk of human error. Additionally, these manually entered rates remain static once they hit the system. As business evolves, accrual rates might need to be amended, yet the only way to do this through a manual effort — and this might not happen quickly enough.
How to assess accrual management solutions
Fortunately, there are solutions that help with these common ERP pitfalls. Here are three rules of thumb that all organizations should keep in mind when assessing complementary accrual management solutions.
1. Allow ERP to do what ERP does best. ERP systems are effective at managing accounting flows, but there is a temptation to use ERP systems to manage every aspect of a business in order to squeeze the most value out of the investment. While you can’t fault an organization for trying to make the most of a high-ticket investment, it’s time to realize that these solutions can’t do it all. ERP systems fall flat in accrual management, since they don’t determine rates and calculate totals within the program. Instead, companies must run these calculations outside of the systems and then plug in those numbers later on. This takes up valuable personnel time, and can ultimately increase business risk.
2. Gain visibility. Without the ability to peer into accruals and assess their accuracy over time, companies could miss the big picture. Most organizations, especially those relying on ERP systems alone, can only dream of gaining real-time visibility into their accrual calculations, dollar allocations, and forecast to actual variance. Yet visibility is an absolute requirement for all accrual management processes, enabling companies to:
a) Ensure accurate cash allocations. By tracking accruals to actuals on a regular basis, companies can better allocate the appropriate amount of money for future claims.
b) Discern and act on underlying business trends. By frequently reviewing accruals, companies can uncover fundamental trends in business conditions, and then use that information to fine-tune customer engagement strategies moving forward.
Without visibility, organizations can fall into a set-it-and-forget-it mentality. An unpleasant surprise results when expenses run ahead of available funds. By consistently monitoring and amending accruals, however, businesses can make adjustments along the way to ensure proper capital allocation.
3. Take security seriously. While the ability to change accrual rates is essential, companies can’t allow just anyone within the organization to access and adjust those percentages, since even a small change could shift millions of dollars one way or the other. For that reason, it’s imperative that organizations implement the appropriate workflows, approvals, and most notably, security measures to ensure the right people can view and modify accrual information. If your company is working off spreadsheets, the ability to lock them down is nearly impossible.
In the end, organizations need to implement a purpose-built system that pairs with their current ERP solutions to effectively manage the end-to-end accrual process. The best solutions can:
- Automate financial accrual calculations, based on daily sales activity and historical performance.
- Support multiple accrual types, such as chargebacks, direct accruals, rebates, channel incentives, indirect rebates, returns, and more.
- Set accruals within a single, integrated system based on the latest incentive strategies.
- Easily reconcile actual payments against the accrual at the trading partner or product level.
- Seamlessly integrate with ERP systems to share information and make accurate payments.
By supplementing ERP systems with purpose-built accrual management solutions, companies gain secure access, visibility, and real-time reporting capabilities, and can better understand their current and future accruals. This type of solution will enable organizations to match revenue with expenses, avoid an overstatement or understatement of revenue, and keep their businesses thriving.
Joe Alphonse is Product Marketing Manager at Revitas and blogs on The Revitas Blog. At Revitas, Joe works on developing an understanding and creating messaging for solutions that unite strategies for contracts, pricing, and compliance in both manufacturing and technology industry verticals. For more information, visit www.revitasinc.com.