These days, many businesses in Africa record their transactions using online accounting software. But, traditionally, bookkeeping was done with a pen and paper, using either the single or double entry bookkeeping system. With this system, every entry must ‘balance’ with an entry made in a different account.
Bookkeeping is the process of formally recording financial transactions. It is arguably the cornerstone of modern business accounting.
This guide primarily covers the double-entry accounting system – including general ledgers and bank reconciliations. It looks at why bookkeeping is important for start-ups and small businesses in Africa today.
What is a general ledger?
A general ledger is a book or journal that contains accounts that relate to specific financial transactions. Although few businesses still update their books manually, the principle is the same. Most companies now use spreadsheets – and increasingly, online accounting software – to record transactions and balance their books.
General ledgers are a record of a business’s accounting information, including transactions, assets, investments, liabilities, owners’ equity, revenue, and expenses. Businesses use them to prepare financial statements and end-of-year accounts; they’re essentially the backbone of any business.
Types of general ledger accounts
The general ledger contains a business’s chart of accounts, or a complete listing of every account name. Depending on the size of your business, your general ledger may include hundreds of different accounts.
The accounts in a general ledger – known as ledger accounts – fall into seven categories:
- Assets: Covers cash, accounts, land, and equipment.
- Liabilities: Covers loans, accounts payable (money you owe to suppliers), and bonds payable. Normally, corporations, hospitals, and governments issue bonds. The bond issuer agrees to pay interest annually and repay the principal or a maturity amount on a specified date.
- Stockholders’ equity: This is the amount of capital that shareholders give to a business to finance it. It includes any retained earnings (profits made by the company to date, less dividends).
- Operating revenues: This is the money you generate from your day-to-day business – your sales or service fees.
- Operating expenses: These are expenses you incur from running your business, such as rent, salaries, raw materials, etc.
- Non-operating revenues and gains: These are revenues that don’t come from your ordinary operating activities, e.g. income from investments, the sale of assets or property, or currency exchange.
- Non-operating expenses and losses: This includes interest, settling of lawsuits, and the loss or disposal of equipment.
You might have many different accounts under each heading. For example, if you sell five different products, you might have a different account to track sales of each product.
The general ledger uses a double accounting system. This means that, for each transaction, there is a debit and a credit entry. These entries must equal each other for your books to balance.
Let’s say you received a cash payment of 1,000 Kenyan shillings that should be recorded as an asset. As assets and expenses increase with a debit, you must record a cash payment as a debit in your cash account. However, cash is also capital – which falls under equity – so you should also record it as a credit in your equity account. The two amounts then cancel each other out.
Examples of general ledger entries
Here are some examples of how maintaining an accurate general ledger can help your business:
- Your cash account figures carry over each month and the account increases with debits or decreases with credits. If you end the month in credit, your business might be overdrawn.
- Your accounts receivable increases with debits but decreases with credits. Let’s say you run an IT company in Nairobi, installing computer systems for other businesses. All income from those installations are entered into accounts receivable and a debit balance indicates that customers still owe you money. There will be a zero balance when all customers have paid their bills. However, it could also be an indication that sales have dropped.
- The sales account will indicate if your business is making revenue through sales. Credits increase the sales account while debits decrease it. If the sales account exceeds the cost account debits and expenses, you will have made a profit. This figure is recorded in the retained earnings account and can be used to track how much of your company’s profits are retained to help grow the business. If you made a loss, this amount is subtracted from the balance in retained earnings and reflects a reduction in overall profit.
- You need to spend R5000 on a new computer. This would be recorded in assets as a debit balance. But if you used another asset to pay for it – such as cash or a bank loan – these would be recorded as credits under the relevant liability account.
- You have to pay R20,000 office rent each month. This is an expense. The expense account would be debited by R20,000. You used cash to pay the rent, so the cash account would be credited with the same amount.
What are bank reconciliations?
A business should keep an accurate record of any money paid into its bank accounts in its general ledger. However, accountants must ensure that these records match up with what’s shown on the business’s bank statement.
A bank reconciliation statement reports and explains any differences between a business’s bank statement and its own accounting records, which may have arisen because of a missing transaction or due to human error.