Accounting policies: one business, two profits, and neither of them wrong

Hook

Boss, here is something that will make you uncomfortable: the same business and the same pile of documents, given to two accountants, can produce two different profits. Your first reaction is that one of them must have got it wrong. Not necessarily. Both can be right — because in a few places they chose different treatments. Those treatments are today's subject: accounting policies.

What an accounting policy is

First the definition. Accounting standards are not a book that prescribes every step. In many places they read: "you may use this method, or you may use that one — but choose one, state it, and keep using it." The one you choose is your accounting policy. Note the word permitted. A policy is not "whatever suits me best". It is picking, within what is permitted, the treatment that best reflects the reality of your business. And once chosen, the most important thing is to write it down. What you write down is your company's accounting policy, and it survives a change of staff, a change of system and a change of auditor (the twenty-third lesson).

The ones an SME really meets

So what actually gets chosen? Five that SMEs meet constantly. One, depreciation: how many years and which method. How long a car or a machine lasts is not fixed by the standards — it depends on how you use it. A car doing three hundred kilometres a day and a car driven twice a week do not have the same life. Two, when something is an asset and when it is an expense. Buy a desk — capitalise it or expense it? The company sets a threshold (the forty-seventh lesson): above it goes to assets, below it is an expense of the period. What the threshold is matters less than having one. Three, how stock is valued. The same item bought at the start of the year cost a different amount from the same item bought at the end, so which batch's cost applies to what was sold? First in first out, or weighted average (the ninth lesson)? Both are legitimate, but having chosen, do not switch every year. Four, when revenue is recognised. On delivery? On acceptance? Or by stage of completion (the job businesses in the fifty-first lesson)? Does a deposit received count? No — that is a liability; nothing has been delivered yet. Five, how uncollectable debts are treated. At what age you start providing (the sixth lesson) and when you actually write off. With a rule, it stops being "whenever the boss is in the mood".

What is valuable is not choosing right, it is staying the same

Now the crux. Which of those five you choose really does not matter very much. What is genuinely valuable is that, once chosen, it stays the same year after year. Why? Because the main use of financial statements is comparison — this year against last, this company against that. The ruler cannot change. Measure with one ruler this year and a different one next, and putting the two numbers side by side looks like a change but is an illusion (the same logic as "classifications drift" in the forty-eighth lesson). And if you genuinely need to change? You may, but in three steps. One, have a reason you can state — did the business change, or did the standard change? "I want it to look better this year" is not a reason. Two, tell the readers of the statements — disclose what changed. Three, restate last year's figures on the new method, or the two years still cannot be compared (the comparatives in the thirty-ninth lesson). Changing a policy is not forbidden; it has to be changed in the open.

What consistency actually earns you

Four practical benefits. One, the bank can read you. As the first lesson said, the bank has never been to your shop and has only seen your statements. Three years on one set of policies and it can see a trend; policies that change every year produce only noise, and what a bank cannot read it treats as risk. Two, the audit is faster and cheaper. With the policy written down, the auditor does not have to ask "how do you calculate this" all over again each year (the compliance budget in the thirty-second lesson). Three, the tax filing holds. With classifications and methods fixed, each year's form follows the same path with nothing to unpick at the last minute (the forty-eighth lesson). Four, you can see clearly yourself, which is the most important one. Gross margin dropped two points — did it really drop, or did the method change? Keep the policy still and you know the answer.

To close

In summary: an accounting policy is choosing one treatment within what is permitted — depreciation, the capitalisation threshold, stock, revenue timing, bad debts. Which one matters less; staying the same every year is what is valuable. You may change, but with a reason, disclosed, and last year restated. What consistency buys back is the bank's trust, an efficient audit, and your own clear view of the business. You may choose the ruler, but you may not change it every day. Want to know whether your company's policies are written down and whether they have drifted? Grab a coffee first and talk about your business. For the accounting, come to LTT. I am LTT, helping SME bosses get their accounts straight. Follow us, and see you next time.