Accounting BasicsKnow and Grow Your Business

Basic eCommerce Accounting Principles Small Business Owners Should Know

By December 12, 2019No Comments

It’s day one of your eCommerce business on Amazon, Shopify, or a similar selling channel. At this time much of your efforts are focused on research, managing inventory, shipping, marketing, and driving traffic to your products. While all of these actions are important, so is eCommerce accounting. 

And no, business accounting isn’t just for those with a “CPA” listed on the back of their names. It’s for entrepreneurs and small business owners too. 

If you currently run an eCommerce business, this one’s for you! Here’s our comprehensive guide demonstrating the basic eCommerce accounting principles that every small business owner should know. 

Here’s our curriculum at a glance: 

  • Important definitions of eCommerce accounting
  • Tracking eCommerce cash flows and how to’s
  • Counting inventory
  • Cost of goods sold
  • Importance of recordkeeping
Basic eCommerce Accounting Principles Small Business Owners Should Know

eCommerce Accounting: The Basic Definitions

Stakes are high for an eCommerce business. As boring as accounting might be, you can’t avoid it if you envision your business to succeed. As a small business owner, it’s most likely important to you to gain financial control. And you can start by learning the basics!

Even if you’re not a “numbers” person, there are still basic accounting and inventory principles that every e-commerce business owner should know. These include: 

  • Assets: what you own/possess, including cash, inventory, and accounts payable
  • Liability: what you owe to others; i.e. loans or unpaid vendor invoices
  • Capital: your company’s equity
  • Revenue: income from the sale of goods
  • Expense: business costs to run and improve the company
  • Account: a detailed record of financial transactions
  • Balance sheet: a financial statement that accounts for assets, liabilities, and capital for a given period of time; this presents the financial health of your business
  • Debit: increases assets while decreasing liabilities; located on the left side of an accounting entry
  • Credit: decreases assets while increasing liabilities; located on the right side of an accounting entry

Related: Understanding Basic eCommerce Debits and Credits

Tracking eCommerce Accounting Cash Flows: How To 

Every eCommerce business owner needs to track cash flow. The easiest way to do so is to create a separate bank account for your business. This not only paints a clearer picture of how much money is coming in, but also how much money is leaving your pocket.

Think about it: it won’t matter if you have millions of dollars coming in the next month if you can’t pay your employees until then. In the same vein, don’t pay your invoices early if you have 30 days to do so. You can also consider offering monthly payment plans or subscriptions to customers to guarantee cash coming in and by keeping a reserve in your business bank account for “just in case” scenarios.

So how do I track my cash flow?

It’s simple. Besides Shopify’s free template for tracking cash, you can also let accounting software piece it together for you.

Kashoo is perfect for entrepreneurs starting out on their eCommerce journey, or if you’re a service-based business owner. A 14-day free trial is available if you want to test out any features, depending on your business and preference. When shopping for software, look for something that is available to you both as a web app and on your mobile to reap all the benefits of accounting on-the-go. Another rule-of-thumb is to find software that will help you get paid faster while also providing all the reports you need for tax time. You want a tool that will do it all—like Kashoo!

Related: Best Accounting Software for Service-Based Small Businesses

The Basics of Counting Inventory

If a service is what you are selling, then skip this step. 

Knowing how to count inventory is a critical step to understanding basic eCommerce accounting principles. 

Inventory is the product you sell or the materials you use to build your product. Inventory equals money because it represents the money you spent to buy the items. It’s money that you won’t get back until you sell your product. 

The longer your inventory is tied up at your warehouse (or apartment or store), the more of a risk it has for decreasing in value.

For example, 100 products sold at $100 each today can be worth less in a month when the market price drops to $50.

Shrinkage is another concern when it comes to inventory. Products can get lost, stolen, or ruined in the process of transporting, or even in the process of shipping it out to your customers. The good news is that the chance of shrinkage is much lower if you don’t operate out of a brick-and-mortar store. If your business is direct-to-customer or even uses a drop-shipping method, it can prevent shrinkage to a certain degree because the product doesn’t touch as many locations.

Some key terms to know when managing eCommerce inventory are:

  • SKUs: Stock Keeping Unit (SKU) is an identification code you use to classify and organize inventory
  • Supply Chain: the processes and systems involved in producing, managing, and distributing products
  • Dead Stock: Inventory that you have in stock but can’t necessarily sell anymore
  • Buffer Stock: the amount of extra stock on hand that’s used to limit risk if supply and demand are uncertain
  • Minimum Viable Stock: the minimum amount of product you need to have on hand in order to keep up with consumer demand and fulfill orders without delay
  • Re-Order Point (ROP): the pre-determined level inventory must drop to before ordering additional inventory
  • Lead Time: the time delay between when inventory is ordered from a supplier and when it arrives

Getting started with inventory management can seem daunting but we’ve broken it down to 6 key steps:

1. Understanding your demand

To get a good handle on inventory management, you need to understand the demand for what your selling. Whether this is through past experience, learning from competitors, or even just conducting detailed market research, getting a good grasp of the trends of demand can help a lot with knowing how much inventory you’ll need.

There are great free tools like Google Trends that can help you learn a bit more about the market and what people are looking for at certain points in the year.

2. Set minimum viable stock or minimal stock levels

If your store is already up and running, you should definitely set minimum viable stock levels for all your products. Making sure you always have enough stock to prevent bottleneck and delays in shipment also ensures that your relationship with your customers stays positive.

If you let your inventory run out of stock and it takes you too long to restock—or worst you have delays in customer shipments—it can tarnish your reputation as an online business, which can take ages to fix.

3. Use ABC analysis when prioritizing your products

The ABC Analysis, partly based on the Pareto Principle, says that 20% of your customers can result in 80% of your sales. This smaller percentage of customers often by category A products (high-value products with low frequency of sales) which means it’s actually more important to try and attract and retain these type of customers than those who buy B (moderate value products with moderate frequency of sales) and C (low-value products with high frequency of sales) products.

When looking at inventory management, knowing which of your products fall under what category is important because it will give you a better understanding of which products you need to be ordering more of.

4. Be prepared for seasonality

If your eCommerce business takes advantage of sale seasons like Holidays, Black Friday, Back-to-School etc., then you need to make sure your inventory is as prepared as possible for when those seasons come around.

Keeping your stock low during the slow season can be a smart move for your business, but don’t act too slowly when preparing for sales.

5. Use the right tools to help your workflow

Having the right tools can help make your workflow that much more efficient. Kashoo has a built-in inventory function that allows you enter your inventory/product information and track the value of your inventory on hand as well as easily create invoices for your customers.

This makes it easier for you to create invoices on-the-go and make smarter business decisions in the long run with the data you have. Track your cost-of-goods-sold to see which products are making you the most profit and even product preferences by customer.

Cost of Goods Sold: What is that? 

Cost of goods is relevant to eCommerce accounting because it allows you to understand whether it’s worth it for you to carry certain products and how much you’re making in profit. It is the direct cost of producing the product or service offered by your business.

For example, let’s say you sell handcrafted candles. To do so you’ll need to: 

  • Shop for DIY supplies (as those mentioned below and the tools to assemble the candle) 
  • Measure and melt the wax,
  • Choose and add fragrance oils,
  • Attach, pour and secure the wick,
  • Possibly add more wax if needed, and finally
  • Cut the wick.

In this scenario, the cost of goods sold is the cost of the parts, plus the costs for the labor and time it took for you (or someone you hired) to make the candle. 

If the candle costs $40, materials for the wax, oils, and wick cost $5, and you hired someone for a lump sum of $20 to put it together, the cost of your candle is actually $65—not $40. 

It’s important to identify this difference because it’s directly related to your profit and it also helps you price your products accurately.

Related: 5 Steps to Price Your Etsy Products to Stay Profitable

Basic Small Business Record Keeping

Recordkeeping plays a vital role in running a business. That’s because all your accounting is based on business records like bank statements, credit card statements, and receipts. Neatly tracking your records helps you backup the information reported in your books. This is especially important if you get audited by the CRA or IRS. In cases where you do get audited, you’ll have all the records for your business organized and available, especially those related to deductions you claimed.

As a starter, these are the records you absolutely need to keep track of: 

  • Receipts
  • Bills
  • Bank and credit card statements
  • Canceled checks
  • Shopify or Square revenue records
  • PayPal monthly account statements
  • Transaction records for cryptocurrency wallets
  • Proof of payments
  • Financial statements from Kashoo or your bookkeeper
  • Previous tax returns
  • Any other documentary evidence that supports an item of income, deduction, or credit shown on your tax return

Kashoo makes it super easy to keep track of all of these different documents and more! Our mobile and tablet app works seamlessly with our web app so that you can record your income and expenses while you’re on the go. Snap a photo of any documents you may have and save it in the cloud within the Kashoo system. Both the IRS and the CRA accept digital copies of receipts so you never have to look through a messy shoebox full of receipts to find the right one ever again.

Kashoo has a 14-day free trial that allows you to test out ALL of the features, no credit card required. Sign up now and see just how easy it can be to manage your eCommerce business finances!

Stay on top of your bookkeeping with Kashoo