Manufacturing companies face unique accounting challenges that must be managed to ensure sound financial management.
These challenges range from inventory complexities to steep overhead costs and low-profit margins. On the upside, small adjustments can lead to vast cumulative benefits.
Here are some of the main accounting challenges faced by manufacturers alongside methods of solving them.
Managing inventory is one of the key challenges in manufacturing. Keeping track of raw materials, work-in-progress and finished goods isn’t just about storage space.
Incorrectly valuing your inventory can distort your financial statements, potentially leading to non-compliance and tax returns, for example, when it comes to reporting capital allowances.
The best approach here would be implementing an enterprise resource planning (ERP) system with inventory management. This could integrate directly with suppliers’ systems, enabling automated reordering of materials when levels reach predetermined minimums.
Additionally, using radio-frequency identification (RFID) or barcode scanning for real-time tracking can help keep manual errors at bay.
Periodic physical counts should also be undertaken to ensure that the digital records match the physical stock.
Manufacturing involves a myriad of costs that must be precisely allocated to individual products to ensure accurate pricing and profit calculations.
This gets tricky when dealing with direct costs like raw materials and labour and indirect costs like electricity or machinery depreciation.
Consider activity-based costing (ABC), which allows you to link overhead costs directly to specific activities related to production.
To implement ABC effectively, you’ll need to identify ‘cost drivers’ for each activity – these could be machine hours, labour hours, or square footage used, among others – and then allocate costs accordingly.
Overhead costs in manufacturing can rapidly eat into your profits. These include building rents, utility bills, and ongoing equipment maintenance.
You incur these costs regardless of whether the production line is running hot or you’re in a lean period.
Streamline overhead costs through strategic measures such as implementing energy-efficient machinery to reduce utility bills.
Another potential avenue for savings is renegotiating supplier contracts, perhaps by committing to longer contract terms in exchange for lower prices.
Predictive maintenance algorithms can also help you forecast equipment failure, enabling preventive maintenance and avoiding costly downtimes.
Due to long production cycles and often slow-paying clients, cashflow can be a constant concern and usually becomes a greater issue in leaner periods.
Create a robust cashflow forecasting model to account for variables like seasonality and market trends. For example, if cashflows regularly dip post-Christmas, you can cut back on certain costs to adjust.
Low profit margins
Maintaining healthy profit margins is a constant challenge in an industry characterised by fierce competition, high material costs, and significant labour overheads.
Consider implementing lean manufacturing principles, such as Six Sigma, to increase operational efficiency and reduce waste.
Explore diversification – both in terms of product range and market presence.
Additionally, creating higher-margin products or entering markets with less competition can offset the low-profit margins that are often the norm in mainstream manufacturing.
Navigating the accounting complexities inherent to the manufacturing sector can be daunting, particularly given the industry’s typically slim profit margins and potential for seasonal fluctuations.
A systematic, strategic approach to financial management is essential for overcoming these challenges.
Once you begin to strategise and plan your costs, overheads and cashflows, you’ll almost certainly find avenues for improvement. Remember, even small changes can amount to big benefits over time.