Businesses in the restaurant industry generate most of their revenue from selling food and beverages. Since these products are usually perishable, restaurant accounting is quite different from other industries. A small restaurant business will often change its inventory level based on the demands of the customers. The business also needs to consider various factors like labor costs and the cost of goods sold (COGS) in their operations. Due to such differences from businesses in other industries, the accounting methods used by restaurants are also different. Let’s have a look at the major accounting methods used by small restaurants:
Cash Accounting Method
The cash accounting method is based on cash transactions. This method is usually used by small restaurants and bars that have fewer transactions. The method allows the business to record the generated income at the point when cash is received from sales and cash is paid for expenses. This means that the transactions and activities of the restaurant are recorded whenever cash is exchanged. The method is ideal for small restaurants because they receive cash payment immediately when a customer is served food, beverages, or other services.
The cash accounting method is considered effective for small restaurants because it fits into the restaurant business model. The customers pay for the food, beverages, and services right away as they are rendered. This means that they do not owe the restaurant any money later after the service. This is quite different from what happens in other industries like construction, where the payment is made later. It also means that restaurants usually do not have any accounts receivable balance. This makes it easy to record the payments and revenues as they occur. When thinking about the cash accounting method for restaurants, the following holds true:
- The cash accounting method is simple and straightforward. All your restaurant transactions are recorded the moment money goes in or out of your restaurant account.
- The cash accounting method does not work well with larger restaurant businesses. If you run a big restaurant or your restaurant business operates on large inventory levels, this method will obscure the true financial position of the business.
- The alternative approach to using cash accounting is the accrual accounting method. This approach is different in the sense that transactions are recorded as they occur. Instead, transactions are recorded at the moment when an order is made without considering whether cash has been paid or not.
Is Cash Accounting Method the Most Ideal for Small Restaurants?
The cash accounting method is by far the easiest and simplest approach to restaurant accounting. However, it is not the most accurate for determining activity nor the most ideal for restaurant businesses. At first, the method seems like the best approach for businesses in the restaurant industry because of recording income as it enters the business and expenses as they leave. But this method makes the restaurant appear more profitable than it actually is by recording income ahead of the expenses.
The major drawback of this method is that it does not recognize delayed payments from credit accounts and payment plans. For example, the restaurant accountant will only record a transaction only after payments have been made for the deliveries leaving out any pending payments. However, most restaurants operate on accrued payments where vendors allow them to pay weeks or months after deliveries. This makes the accounting inaccurate because it does not account for such transactions, which may be large and periodic.
Example of Restaurant Cash Accounting
If your restaurant receives $150 from the sale of your top seller menu item on January 10, then the accountant will record the transaction (sale) to have occurred on January 10. This will not matter whether the customer placed the order online on January 9 because he did not pay for the transaction until January 10. The recording is made on the day that the money was received by your business rather than when the order was placed.
|Cash Accounting Method||Accrual Accounting Method|
|Revenue is recognized when cash is received||Revenue is recognized as it is earned, such as at the completion of the project|
|Expenses are recognized when cash is spent||Expenses are recognized as they are billed, such as receiving an invoice|
|Taxes are paid only on the money that has been received||Taxes are paid on both money that has been received and money that you are still owed|
|A popular accounting method among small restaurants with minimal inventory||A requirement for restaurant businesses with revenue of over $5 million|
Accrual Accounting Method
The accrual method is different from the cash method in that it records when transactions occur rather than when cash is exchanged This means that the expenses and revenues are recorded at the time of the transaction without considering when the payments are made or cash received. Under this method, COGS are recorded at the point when restaurant inventory gets used and not when the suppliers are paid.
The accrual methods provide a more accurate view of the restaurant’s financial health. Restaurant owners and managers can have a clear financial snapshot of how incomes compare to expenses at any given time. When your accounting process is integrated into a tool like Sourcery, you can process, extract, and transfer data easily for easier and better financial reporting.
Why Use Accrual Accounting Method
The accrual method includes both the accounts receivables and accounts payables. This means that it paints a more accurate picture of your restaurant’s profitability. This is particularly true for long term accounting where most of the transactions take place on a different date as their payments.
Apart from the accrual method providing more accurate financial data, it is the most ideal accounting method for restaurants. Essentially, small restaurants and bars generating a revenue of $1 million in a year can choose between cash and accrual methods. However, those earning more than $1 million lack this privilege because they are required by the U.S. Internal Revenue Service to use the accrual method. Even with such regulatory differences, the accrual accounting method is more ideal than the cash method for small restaurants. If a restaurant seeks to switch to cash accounting, it is required to complete the cash Form 3115 to change the accounting method.
The Downside of the Accrual Accounting Method
The accrual accounting method does not provide any awareness of cash flow when preparing reports. This means that the restaurant may appear to be very profitable during a specific period of time, while in reality, it is running on empty bank accounts. Without careful monitoring of your business cash flow, the accrual basis of accounting can have potentially devastating consequences to your restaurant.
Example of Restaurant Cash Accounting
If your restaurant receives an order of $150 from the sale of your top seller menu item on January 9, then the accountant will record the transaction (sale) to have occurred on January 9. This will not matter that the customer made the actual payment for the order on January 10. The recording is made on the day that the customer placed an order with your business rather than when the order was paid for.
Both accrual and cash accounting methods are ideal for small businesses. However, the choice of which method to use will depend on the accounting preferences and operations of the restaurant. For a more accurate and proper representation of your restaurant’s financial performance, the accrual accounting method is more ideal. The method smooths out your restaurant earnings over time by accounting for all the expenses and revenues as they are generated. This is quite different from the cash method that records transactions intermittently as payments are made.