Basic Accounting Principles for Fitness Professionals

Financial terms and accounting methods that go beyond simple debits and credits.

By Tom Perkins
Jun 30, 2008

Accounting is an important part of any
business. It provides the financial snapshot we need in order to make informed
decisions regarding the current and future health and performance of our
business. If you expect your own fitness business to grow and flourish, you
will need to possess more than just a passing knowledge of accounting
basics.

Accounting is not something that most fitness professionals
consider before starting in this industry. However, if you are even just
thinking of striking out on your own, it is time to dip your toes in the water
in terms of getting a handle on the accounting process. Where should you start?
The best place is with the basics, from terms commonly used by financial
experts to the underlying concepts that govern any successful business. That
said, the information contained in this article is general in nature, and
readers should always consult their own accountant or tax preparer before
implementing any principles or methods discussed here.

Terminology and General Principles

Anyone
considering business ownership should have an understanding of basic accounting
terminology and general principles. The first step is to become familiar with
the “lingo,” so to speak. For example, you should know the meaning of terms
such as
transactions,
credits, debits, assets, liabilities, expenses, cash flow, accounts payable and
accounts receivable.
For explanations of
these and other salient terms, see the sections that follow and/or the
“Glossary” sidebar. Furthermore, you need to understand the steps involved in
using a proper, consistent accounting method to handle transactions. You should
also become acquainted with a few basic accounting principles required to
maintain, update and balance your accounts, such as knowing what a particular
financial ratio can tell you about the health of your business.

Accounting Method

An
accounting method
determines how
and when you will record your business expenses.
Cash
accounting
and accrual
accounting
are the two main
accounting methods. Although the methods are similar, they differ on one
significant issue: the
timing of when
transactions are recorded.

For most fitness professionals, cash accounting is typically
recommended. The cash method is easy to maintain because you don’t record any
income until you actually receive the cash due, and you don’t record an expense
until the cash is paid out. For example, you would record membership dues the
day you actually received the payment from the client. Contrast this with the
accrual method, in which you would record the transaction the day you sent out
the bill or when payment was considered due. The accrual method also requires
many more transactions than the cash method and is thus more time-consuming and
more prone to error.

If your business makes less than $5 million per year in sales,
the Internal Revenue Service (IRS) pretty much allows you to choose which
accounting method you want to use. However, if your business stocks an
inventory of products that you will sell to the general public, the IRS
requires that you use the accrual method. According to the IRS, inventory
includes any merchandise you sell, as well as supplies you later resell at your
facility.

Regardless of which accounting method you ultimately select, it
will provide only a partial picture of your business operation’s financial
status. While the accrual method illustrates the in-and-out flow of business
income and debts more accurately than the cash method, accrual accounting may
leave you clueless as to the cash reserves available at any time. This, in
turn, could result in a serious cash flow problem. For example, your income
ledger might show thousands of dollars in sales, while in reality your bank
account contained only a couple of hundred dollars because your customers had not
paid you yet.

On the flip side, while the cash method may provide a truer
picture of how much actual cash your business has in the bank, this method can
often be misleading in terms of longer-term profitability. For instance, your
books might show that a single month was highly profitable, when in actuality,
sales were slower and several of your customers just happened to pay their
outstanding bills that month.

Debits and Credits

Debits and
credits are the basics of any business accounting system. They are the means by
which you record all transactions for your business. Whenever you record a
business transaction, you need to show it as both a credit
and a debit. If you don’t, the entry will be out of balance,
which is not good, because it will ultimately throw off your financial
statements. This type of record keeping is known as a
double-entry
ledger system.

A debit
entry
is used to show an in­crease of an asset or expense, or
a decrease of a liability, owner’s equity (capital) or income. A credit entry
denotes an increase of a liability, owner’s equity (capital) or revenue, or a
decrease of an asset or an expense.

Here is how it would work in the real world: let’s say a client
purchases products at your fitness facility in the amount of $75 and pays you
by check. In your general ledger, you would record the transaction in the
following way:

 


Debit
$75.00 cash

Credit
product sales

 

See the sidebar “Sample Business Ledger Sheet” for a more
detailed example of how debits and credits are recorded.

Income & Expenses

Income usually refers to the money you receive as a result of
normal business activities. For example, most fitness professionals receive
money from club memberships, personal training sessions/consulting and/or
product sales. An
expense, on the other hand, generally refers to an outgoing payment
made by a business, such as rent, utilities or employee salaries.

For each of your income streams and expenses, you will need to
create an account that allows you to record and track exactly how much you are
generating in sales and paying in expenses.

If you offer several services and/or products at your fitness
facility, it is wise to establish an income account for each. This way, you
know what exactly is generating your income. By adding all income categories
together, you will be able to quantify the total revenue of your business.

For instance, if you derive income from memberships, individual
training sessions, group classes and product sales, you may want to develop
four separate income accounts, as follows:

 

  • sales revenues from
    memberships
  • sales revenues from
    individual training sessions
  • sales revenues from
    group classes
  • sales revenues from
    product sales

 

The same basic principle applies to expenses, meaning you would
create separate accounts for rent, telephone, electricity, etc.

When recording transactions for these accounts in your general
ledger—which represents the summation and repository of all financial
transactions undertaken by a business entity—you would use credits to increase
your income accounts and debits to decrease them. If these were expense
accounts, you would use debits to increase the accounts and credits to decrease
them.

Assets and Liabilities

Assets refer to items of value that your business owns. For
example, the cash in your bank account is considered an asset, as is money owed
to you (i.e., accounts receivable) or any fitness/office equipment or real
estate that your business owns. Contrast assets with

liabilities,
which are any debts or
obligations you owe to others. Examples of typical liabilities in a fitness
business may include bank loans, payments due to vendors, rent, telephone
service, payroll, laundry service, etc.

There is a general rule of thumb when working with assets and
liabilities: increase assets with a debit, and decrease them with a credit.
Increase liabilities with a credit, and decrease them with a debit. For a look
at a sample business ledger sheet for a typical fitness facility, see the
sidebar “Sample Business Ledger Sheet.”

Financial Statements

Financial statements
provide owners, accountants and lending institutions with valuable insights
into a business. If you know how to read and interpret financial documents, you
will know the true “health” of your business. More important, these statements
will help you anticipate and confidently answer lenders’ questions in the event
that you want to grow your business in the future.

You would typically prepare financial statements using
information from your ledger accounts.
Because some financial statements require data from other financial
statements, it helps to prepare them in a logical order:

 

  1. income statement
  2. balance sheet
  3. statement of owner’s equity
  4. cash flow statement

 

Master Budgets

Creating a master
budget
allows us to plan for the
future success of our business. Bud­gets provide direction, motivation to meet
goals, better coordination for all business activities, and resources to
evaluate progress.

A master business budget usually includes an operating budget, a
capital expenditure budget and a financial budget. The operating budget sets the target revenues
and expenses (and ultimately net income) for a particular period of time. The capital
expenditure budget
outlines the planned purchases of
property, equipment and other assets. The financial budget
projects the means of raising money from stockholders and creditors, and plans
cash management.

As you prepare your master budget, keep in mind that you are
developing your business’s operating and financial plan for a given period. The
steps in this process may seem mechanical, but remember that budgeting
stimulates thoughts and ideas about pricing, product lines, job assignments,
needs for additional equipment or bank loans to facilitate future growth. Preparation of a budget leads to
decisions that will affect the future course of your business.

Bottom Line

Remember that
the whole purpose of accounting is to provide information that is useful and
relevant, not just to you, but to other interested parties (e.g., your
investors, lenders, bankers, etc.), when it comes to making decisions about the
operation of your business. The common language that allows you to effectively
communicate to all parties what is happening financially in your business is
the language of accounting.

Once you’re familiar with the basic terms and procedures outlined
in this article, you’ll be better prepared to make sense of basic financial
reports and better able to communicate with others about important financial
information. More important, you will have a deeper understanding of just how
fit your business is financially.

SIDBAR:
Glossary

account: a collection of financial information grouped
according to customer or purpose

accounts
payable:
the amount of money
that your business owes to others

accounts
receivable:
the amount of
money that is owed to your business and you expect to receive

asset: an economic resource that a business owns that is
expected to be of benefit in the future

bad debt: money
owed for a business debt that cannot be collected; it can, however, be deducted
as an operating expense

balance
sheet:
a statement listing a
business’s assets, liabilities and net worth, or equity

budget: tool for forecasting a business’s future in
quantifiable amounts, including the quantities of products or services to be
sold and their expected selling prices, the number of employees and their
salaries and an array of other amounts that are ultimately expressed in dollars

capital: another name for the owner’s equity in a business

cash flows: funds
your business receives for products and services sold, plus funds the business
pays out for items such as rent and salaries

chart of
accounts:
a list of all the
business accounts and their account numbers in the general ledger

current
asset:
an asset that is expected to be
converted to cash, sold or consumed during the next 12 months, or within the
business’s normal operating cycle if longer than 1 year

current
liability:
a debt due to be
paid within 1 year or one of the business’s operating cycles if the cycle is
longer than 1 year

fixed costs:
costs that do not change in
total as volume changes

income
statement:
a list of a
business’s revenues, expenses and net income/loss for a specific period of time

invoice: a written record of a transaction, often submitted
to a customer or client when requesting payment

ledger: a physical collection of related financial
information, such as revenues, expenditures, accounts receivable and accounts
payable

liability: an economic obligation (debt) payable to someone
outside of the business

net income: gross income less expenses; it represents a
business’s profit for a given year

operating
expenses:
expenses, other
than cost of goods sold, that are incurred in the business’s major line of
business (e.g., rent, depreciation, salaries, wages, utilities, supplies, etc.)

receipt: a written record of a business transaction

retained
earnings:
the capital that
is earned through the profitable operation of the business

statement: a formal, written summary of unpaid, and sometimes
paid, invoices; generally used more as a reminder to a customer or client that
payment is due or that payment has been made

statement of
cash flow:
a report of cash
receipts and cash disbursements classified according to the entity’s major activities
(i.e., operating, investing and financing)

transaction: any event that affects the financial position of a
business and is reliably recorded

variable
costs:
costs that change in
direct proportion to changes in business volume or activity

SIDEBAR: SAMPLE BUSINESS LEDGER SHEET

Here is a series of business transactions that a fitness
facility manager or studio owner may encounter on a regular basis and then
record in the business ledger.

Scenario:
In this particular example, the following transactions were recorded
in the general ledger sheet using the double-entry system:

 

  • The owner invested $50,000
    cash in the business (see entry 1).
  • He paid $20,000 cash for
    exercise equipment (see entry 2).
  • He purchased $500 in office
    supplies (see entry 3).
  • He received $5,500 cash from
    clients for club memberships (see entry 4).
  • He performed $3,000 worth of
    personal training services for a client (see entry 5).
  • He paid cash for rent
    ($1,100); employee salaries ($1,200); utilities ($400) (see entry 6).
  • He paid $400 on the amount
    for office supplies bought in transaction 3 (see entry 7).
  • He received $1,000 owed to
    him from transaction 5 (see entry 8).
  • He sold equipment for cash
    equal to its cost of $6,000 (see entry 9).
  • He withdrew $2,100 cash for
    personal living expenses (see entry 10).

 

GENERAL LEDGER SHEET

SIDEBAR: Additional Resources

Books

 

  • Introduction to Accounting: An Integrated
    Approach with NetTutor & PowerWeb Package
    by Penne Ainsworth and
    Dan Deines (McGraw-Hill/Irwin 2003): good accounting book for beginning and
    intermediate accounting topics; offers numerous examples at the end of each
    chapter.
  • Intermediate Accounting (with Thomson
    Analytics)
    by James Stice, Earl K. Stice and Fred Skousen
    (South-Western College Publishers 2004): presents accounting from the
    perspective of the essential activities of business: operating, investing and
    financing.
  • Accounting by Carl S. Warren
    (South-Western Educational Publishing 2001): the authors adapt their proven
    approach to accounting’s evolving role in business and use the preparation of
    financial statements as the framework for understanding what accounting is all
    about.
  • Accounting 1–26 and Integrator CD
    (6th ed.) by Charles T. Horngren, Walter T. Harrison and Linda S.
    Bamber (Prentice Hall 2004): this introduces readers to all the key financial
    and management accounting concepts, citing actual examples from companies such
    as Target, Oracle and a variety of companies doing e-business.

 

On
the Web

 

  • So, You Want to Learn Bookkeeping! by
    Bean Counter’s Dave Marshall (www.dwmbeancounter.com/tutorial/tutorial.html):
    free bookkeeping tutorial geared to business owners, managers and individuals
    who have not had any formal bookkeeping training or on-the-job experience, and
    who need or want to learn the basics of bookkeeping.
  • Accounting 101: The
    Fundamentals/Kutztown University of Pennsylvania Small Business Development
    Center (www.kutztownsbdc.org/course_listing.asp): an e-learning site with one
    of the largest collections of free entrepreneurial training resources available
    on the Internet.
  • Accounting Information at
    www.business.com (www.business.com/directory/accounting/): a directory of
    information and resources for accounting professionals, including data on
    accounts payable, accounts receivable, asset analysis, budgeting and
    forecasting, financial statements, payroll accounting and taxes.
  • SmartPros Accounting
    (www.smartpros.com/): a resource for accounting professionals or anyone
    interested in accounting; the site covers news, research, products and online
    interactions with accounting professionals.
  • Understanding Financial
    Statements (www.bizzer.com/images/financial/index.html): this website provides
    an introduction to financial statements and financial statement concepts. Some
    of the concepts covered are the accounting equation,double-entry accounting,
    and debits and credits.
  • Principles of Accounting
    (www.principlesofaccounting.com/default.htm): a free online accounting textbook
    for reviewing accounting principles.
  • Small Business Bookkeeping
    & Accounting (www.waybuilder.net/sweethaven/business/bookaccount/bookkeeping01_TOC.asp):
    a free short course that introduces you to a variety of accounting events
    related to such business activities as setting up your records and bank
    accounts, preparing for a loan request or developing a financing plan.

 

Tom
Perkins is a fitness business coach/adviser; a radio host, speaker and author;
and a certified personal trainer and nutritionist. He holds a degree in
business management/accounting and has been involved in fitness businesses for
more than 30 years. Contact him at www.megafitnessbusiness.com.

Avatar

Tom Perkins

Tom Perkins is a business coach/advisor, radio host, speaker, author and certified personal trainer with more than 30 years in the fitness industry. Having owned six startups since 1990, Tom provides fitness businesses and professionals with the systems, tools and support they need to get to the next level and beyond. Tom is an ACE continuing education provider.

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