What is financial close, and what do I need to know?

What does the term financial close mean?

Financial close is a continuous accounting process that describes all of the accounting tasks that need to be actioned by accounting teams leading up to the end of a specified period. This period may be a month, a quarter, or a year. 

Encompassing the entire accounting cycle, financial close results in financial statements being generated and then "closing the books" on the previous accounting period - once that accounting cycle closes, of course.

The financial close process aims to ensure that all financial reports represent the company's true financial position. Then, key business stakeholders can be provided with accurate operational data.

As the close process is recurring and contains repetitive tasks, as time goes on, you may make improvements and find ways to save time.

What is involved in the financial close process?

Irrespective of the size or sophistication of a company, financial close is an entire continuous accounting process that can quickly become complicated. The best way for accounting teams to tackle it is with methodical, sequential steps.

Keeping these steps accurate, efficient and collaborative can undoubtedly work in your favor when the accounting team closes the books on the current period. 

An overview of the financial close management process can be summarized as follows;

  • Identifying that period's transactions
  • Recording transactions into journal entry format
  • Posting to the general ledger within your accounting system
  • Preparing an unadjusted trial balance
  • Reconciling accounts - debits and credits
  • Entering the adjusting journal entries
  • Executing an adjusted trial balance
  • Generating the income statement and balance sheet in your accounting software
  • "Closing the books" 

Following the final step of "closing the books," income statement accounts will be reset to zero, and the balance sheet accounts will be locked in at that period's end date.

Performing a month-end financial close

To achieve successful budgeting practices, finance teams should ensure their month-end financial close cycle is accurate and systematic. 

Efficient accounting software that leaves minimal room for human error is ideal. Modern accounting systems can provide a wide range of valuable tools that aid in adhering to leading practices, including features like real-time dashboards.

Perfecting this process will streamline your accounting information and achieve peace of mind that all transactions have been processed. You will also be in a more informed position when it comes to decision-making and forecasting.

The following are the steps that should be followed to review, record, and process all account reconciliations as part of the financial close management process.

Collate your financial data 

First and foremost, one of the most vital steps accounting teams can take is to collect data and collate all relevant information, and make it easily accessible. This will include things like;

  • Financial statement data
  • Balance sheets
  • Fixed assets
  • General ledger listings
  • Income and expense reports
  • Bank statements for all loans, transactions, and bank accounts (including checking/ current accounts, savings accounts)
  • Revenue totals
  • Inventory count
  • Petty cash account balance

Record all incoming cash

Part of performing an end-of-month financial close is ensuring all funds received during the month are recorded. This may include revenue, customer payments for invoices, loan payments, or other miscellaneous income on the accounts receivable side. 

Regarding customer invoices, reviewing your records and ensuring everything is in order is essential. Be sure that you have generated and sent an invoice to all customers you have provided goods and services during the month. 

It may also be prudent at this time to confirm that all accounts receivable payments have been recorded against invoices correctly and to contact debtors with overdue account balances.

Update your accounts payable

At the point of the financial close recurring process, it is vital to ensure all accounts payable transactions have been accounted for. If there are receipts or invoices that have not been processed as yet, be sure they aren't scattered in multiple locations. Accounting employees should retain them for future financial consolidation purposes.

Reconcile accounts to external sources

An important element of the financial close is the reconciliation process. An essential component of financial close is for finance teams to reconcile accounts to external sources. This includes reconciling your bank accounts to your accounting software to confirm that all transactions have been recorded correctly.

Review your fixed assets

The finance team should review your fixed asset register as part of your financial close. Fixed assets are items such as; vehicles, equipment, furniture, buildings, and land. 

Assets tend to be larger purchases and may depreciate in value as time goes on. Therefore you need to record any payments related to fixed assets, including their purchase, maintenance, installation, and parts. 

Reconcile your petty cash fund

If you use a petty cash fund within your business, the balance must be accounted for as part of your end-of-month financial close. Be sure to have all receipts on hand, and reconcile the remaining cash to the money spent.

Count your inventory and stock

To ensure accuracy when it comes to your stock and inventory levels, inventory checks are best practice. Use your inventory count to make necessary adjustments and reconcile your accounts for the end-of-month financial close processes. 

Counting your product numbers every few weeks allows for the most effective stock management. Keeping on top of your inventory levels avoids shrinkage.

Review your revenue and expense accounts

At month's end, it's a good idea to check in with the performance management of your expense and revenue accounts. Prepare to close expense accounts for the month. Ensure all expenses are accounted for and posted in the correct accounts and time periods. 

Confirm that all debits, accruals, and prepaid expenses are accurately recorded and that account balances are correct. Prepare to close revenue accounts for the month.

Organize your financial statements

During your financial closing process, you have an important responsibility to organize all financial statements relating to all business units. The points of interest are; the general ledger, the profit and loss statement, and the balance sheet. Keeping these financial statements in an organized fashion each month will make your life much easier in the future.

Review all data before actioning the financial close process

Prior to the financial closing process at month's end, it's a good idea to have fresh eyes take a look at your financial reporting. 

This person should be a manager or supervisor who knows what they're looking for in a sea of accounting processes and data.

Prepare for the next period

As with anything in life, preparation is always essential. To make your life easier for the next period and cut down on future closing times, a calendar is a helpful tool to aid financial planning. You can keep on top of all of your accounting responsibilities and tasks by planning ahead. 

By detailing the days you plan to conduct activities such as financial reporting, you can ensure you never fall behind.

If you can begin each period with accurate and up-to-date information, with the knowledge that you have a clear picture of the company's financial position and the income statements have been reset to zero, you are in a good position for the next month.

Retained earnings 

As part of the financial closing process, retained earnings may need adjusting. If you discover that the company's revenues are greater than its expenses, the closing journal entry will entail debiting the income summary and processing a credit to retained earnings.

If, however, you are executing the financial close process at a loss for the period, you will need to credit the income summary account and debit the retained earnings account.

The income summary and closing out the accounting cycle

The income summary is a holding account that is used to combine all income accounts, with the exception of dividend expenses. The income summary is not required to appear on any financial statements because it is only used for the financial close process; therefore, the account balance will be zero at the end of the process.

Journal entries in the closing process

Journal entries that take place as part of the closing process are entered to transfer the balances from temporary (or nominal) accounts into their permanent home.

In turn, this resets the balance of the temporary accounts to zero, which leaves them ready to begin the next accounting period.

Risk management as part of the financial close process

This is a hot topic anywhere you go, but in the digital era, it's a crucial part of every finance and accounting team's daily life.  

In the past, accounting staff would have previously relied on manual processes and more offline tools such as spreadsheets as part of the closing process. Not only were these manual workflows resulting in fragmented operations and making the financial close process very cumbersome - but they also left room for human error.

As time has progressed, financial automation has come ahead in leaps and bounds, allowing us to streamline the closing process and provide clear visibility and transparency across all financial data.

A risk-based approach to the financial close process

Adopting a risk-based approach to the closing process allows accounting teams to understand the risk level and risk impact on the business that is associated with a particular item.

Automation performs low judgment mundane tasks with ease. In addition, it is capable of analysis and can deliver real-time reports. This could allow you to get on with your day and focus on the higher judgment activities requiring your attention.

The four steps of financial planning and managing accounting risk

Assessing your automation requirements

If you're considering whether you will implement an automated system that will aid in your financial close process, think about the risk measures you have in place currently. 

  • Do you have a risk evaluation framework? 
  • Do you currently rely heavily on spreadsheets? 
  • How much control do you really have over the data and analysis?

Then, there's fraud. As intelligent as our technology gets, so too do cybercriminals waiting to intercept and compromise our online data integrity. 

Manual processes are proven to restrict finance and accounting teams from detecting fraud - both externally and internally. This is due to the day-to-day data visibility being so limited.

As much as we'd prefer to think that if someone committed fraud against our company, it would be a stranger lurking in the shadows. Unfortunately, that's not always the case. Sometimes there can be untrustworthy people in our backyard, which is why it is crucial to have as many checks and balances in place as you can.

Financial automation is an asset to your finance and accounting teams, as it works to mitigate risk in a reliable, consistent manner effectively. Teams are able to address any issues instantly, with access to real-time alerts - meaning they can work proactively rather than reactively.

Building your risk strategy with the accounting team

Manual processing usually indicates very individualized methods and inconsistent processes when it comes to problem-solving. Attempting to run the financial close process is incredibly inefficient when the team can't unite and agree on one single approach.

When you're able to execute a risk management strategy via automation, this allows the team's assessment capabilities to shine. Setting task guidelines and materiality thresholds is not only a timesaver but also introduces a proactive approach to managing risk.

When it comes to your closing process, one of the most noticeable benefits of an automated process is the ability to complete reconciliations throughout the month. Keeping the bank reconciliations up to date as you go is so much simpler to keep track of than when you place an entire month's worth of data on your plate at once.

In addition, and perhaps most importantly, finance and accounting teams are expected to pave the way in introducing a culture of reducing risk. 

A transformation to a world of automation provides these teams an opportunity to drive business strategy and mitigate risk like never before, all whilst delivering invaluable insights. This allows your organization to be ready for risk before it arrives.

Achieving visibility and standardization

After introducing a risk strategy, visibility and standardization will be the next two focus points. These are the two weak links in the chain when it comes to manual processes.

One element of that process is variance analysis. This is known to be a pain for accountants everywhere. The financial controller typically performs a variance analysis at the end of the period's close. 

Unfortunately, it usually involves an unnecessary amount of time and energy. However, it is only after this analysis has been actioned that the issues can be investigated and resolved.

Implementing standardization measures of controls, compliance, and general management of risk enforces a company's commitment to high-quality work. 

Bringing automation into the picture provides peace of mind that the data processing practices are continuously mitigating risk in a precise and repeatable method within the finance and accounting office.

With automation comes a new variance analysis process, one that is routine and can be actioned throughout the month. The ability to perform an ongoing variance analysis brings real-time visibility and allows you to flag items before they grow into an issue.

Although variance analysis previously would have taken a lot of your time, when it boils down, it is just tedious "busy work." With it now streamlined and much more efficient, you will now have time for strategic developments that contribute to the business' growth.

Preparing to be audited

Although the word 'audit' may strike fear into your heart, it is a natural part of business life - particularly in the world of finance. 

Meeting audit requirements and adhering to evolving compliance demands is difficult when you are still running manual methods. 

Essentially the audit process looks to ensure that a company has not:

  • Misrepresented its financial position through inaccurate or false data
  • Failed to comply with necessary regulations
  • Neglected to provide adequate documentation of discrepancies and their resolutions

Automation does not move these goalposts. It doesn't change the requirements at the core of the audit process, but it does work to relieve the burden from the shoulders of the finance and accounting team.

With an automated strategy for reducing risk, accountants become aware of issues before auditors are even planning a visit. In addition, if an auditor discovers a red flag, the team can retrieve the historical data and documentation far more quickly than with manual systems.

As the world around us evolves, compliance demands are often growing, developing, and changing. It is a huge relief to know your business transactions are always well-documented and audit ready.

Financial automation in a nutshell

With automation providing access to historical data at the click of your fingers, you can prepare for events like an acquisition, merger, IPO, or other strategic move like never before.

An automated risk management strategy lets you breathe easily in the knowledge that all documentation meets regulations and is easy to access at any moment. Accessibility and visibility are assured, thanks to financial automation.

You are taking a huge step forward by implementing a comprehensive framework to manage risk and automate your financial processes. You're putting your organization in the best position for business growth while adhering to best practices and guidelines.

The ability to have issues flagged before your eyes in real-time and the opportunity to be able to do something about them instantly is priceless. Catching minor issues before they become significant is one of the most valuable tools you could introduce to any business. 

Not only will your financial close and accounting processes be smoother than they ever have before, but you are introducing your company to a world of visibility, efficiency of cross-collaboration, transparency, and standardization that they have never seen. 

Five steps to hit your financial close target

Automation is the way of the future

As we have mentioned earlier, automation brings a world of efficiency, transparency, and speed. When implementing automation processes, it's a good idea, to begin with repetitive, mundane tasks.

For example, the right software can replace any of those spreadsheets you are simply sharing, updating, re-sharing, and re-updating regularly, making the entire process more seamless and less stressful.

Find the right programs

Your choice of platform could make or break your financial close process. Using an ineffective system for storing your financial data or trying to fit a square peg into a round hole (use a workaround for a system function it isn't designed for) is a recipe for disaster.

Integrating disparate systems and force compatibility can cause many errors and lead to extreme delay in your month-end processing.

Finding the right system to meet your needs means effective, timely, and accessible processing and recall.

Work with real-time data

One of the consistent challenges with reporting, particularly the close process, is speed and accuracy. You should implement practices that support both.

Many organizations are looking to achieve information at an accelerated pace. That's all well and good, but you need to have peace of mind that the data is also accurate.

On the other hand, other accounting teams may find themselves with pinpoint accurate data, but it is only available at the end of the month.

Teams should not have to wait until month-end to access key data. Decisions don't wait until the end of the month, and it's not wise to make strategic moves without the bigger picture.

Organization is key

Accounting is one profession that relies on operational efficiency. All accounting data documentation and files should be kept highly organized, logically named, and up to date.

Disorganized or misplaced data can lead to errors or gaps in information, which is a huge issue in financial reporting.

Perform regular backups

Another great way to save time in your financial close process is to ensure all your data is saved correctly and backed up. It is best practice to have a regular backup cycle, where your essential information is uploaded to the cloud or another secure location. Data loss can cause extreme frustration and setbacks, so avoid it at all costs.

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