Ecommerce: Accounting 101
(This was first posted by OneSaas on 21 Sept 2015).
If you’re an e-commerce merchant, there are some unique ways transactions “flow” in your business which have their own accounting terms and characteristics, compared to a “bricks and mortar” retail business.
The primary transaction flows are outlined below, including the system that will pick them up to record what’s going on in your business. There's also included a glossary of terms for ecommerce accounting – as you can see it’s a long list!
It could be you’re shipping into your home country right now and are looking at expanding – the example used here shows what’s possible if you can setup the distribution rights for your product in new countries, using integrated and automated workflows.
In this case I’ll illustrate by example – you’re an ecommerce merchant with a product line of popular baby and children’s products, made in China and imported into the US, Australia, UK and Germany.
You’ve got arrangements setup with freight forwarders in each country to ensure orders can be fulfilled in 48 hours, and your website and social media strategy are your main customer acquisition channel.
Note that while references to taxes are made, this should always be confirmed with your tax advisor in each country.
Purchase of goods
You have distribution points in each country to fulfil online orders and you make stock purchases monthly.
You pay the Chinese supplier once the goods land in the distribution point in each country.
Due to the fact the product is exported from China, no VAT (tax) is payable on the purchase order.
These are the accounting steps you’d take:
- In your accounting system, setup a purchase order for the purchase of stock, with ship-to address being the relevant distribution centre in that country. (VAT = 0%)
- Once the order is received by the distribution centre, they receipt the goods into your inventory system.
- At the same time, the invoice is entered into your accounting system to show the purchase order has been fulfilled.
- The payment to the supplier is scheduled in your accounting system. Online order placed
On your website, customers can place orders for individual products, via a shopping cart. That shopping cart will interact with your inventory system to make sure you have stock on hand of that particular item.
Note as this is a B2C (business to consumer) business, prices on the website include GST / VAT in Australia, Germany and the UK, however in the US this would be added at checkout.
Once they complete their shopping, they “checkout”. This is the point the order is finalised, and the payment details are confirmed. In this case payment is taken once the order is confirmed, you may have it setup to happen on shipment, if so steps d and e below would be part of shipment.
At this point, these are the transaction flows:
- A sales order is created in the shopping cart
- That sales order is passed to your inventory system to note a reduction of the number of those units on hand
- Part of the checkout process includes processing a payment against the customer’s credit card. This is done between the shopping cart and a payment gateway system, utilising the merchant facility you have with your bank. This will also require a bill-to address (which may differ from the shipping address). In the US, sales tax would be applied at checkout.
- The sales order also goes to your accounting system, is converted to an invoice. The relevant GST / VAT or sales tax rate would be applied to the order at this stage for Australia, UK and Germany.
- The accounting system includes a bank feed, which includes the payments received via the merchant facility, these can then be matched against the invoice to show it as paid in your accounting system.
Online Order Shipped
Once the order has been “checked out”, order fulfilment can occur.
The details from the sales order in your inventory management system are then passed to your fulfilment system, showing the quantities of items to be shipped, and the ship-to address.
These are the transaction flows:
- The sales order is passed from your inventory system to order fulfilment
- The order is shipped to the ship-to address, which will also send a notification to the customer
- Once the order has arrived at the customer address, this is updated in order fulfilment (usually by the courier company who shipped the package).
In summary, there are several transaction flows, involving your accounting system, shopping cart, inventory management & order fulfilment, along with your merchant facility and payment gateway.
Automating the flow of data between all of your business management tools will keep you up to date and on top of every moving part in your business. In this example, products were being shipped to 4 different countries, taking full advantage of automation may mean you can expand further without the headaches of setting up offices and administration in every location you’re in.
Glossary of terms
B2B (Business to Business) - The exchange of goods and services between two businesses.
B2C (Business to Consumer) - The exchange of goods and services from a business to a retail consumer.
Certificate Authority - A third party company that issues digital certificates that confirms a company or individuals identification.
Chargeback - Where a transaction is debited against a merchant account when the credit card owner does not recognise the transaction (normally in the case of fraud or refunds). Chargebacks usually attract a fee that is debited against the merchant
Chart of Accounts - A list of account codes (usually numeric) added to each transaction to allow them to be organised. For example, you will have revenue, cost of goods sold and expense codes.
Cookies - Small text files stored on your computer when visiting a site that record preferences for that particular sites usage. Cookies are also common in shopping cart applications to remember visitors as they move throughout product pages
Cost of Goods Sold - This is an accounting term that refers to either the purchase or the manufacture cost of goods sold. Product shipping costs would also have their own account code within cost of goods sold. Note this differs from purchases & inventory.
CRM - Customer Relationship Management, again usually a cloud based system such as SalesForce or Sugar, where details of your existing customers and prospective customers are captured and reported.
EDI - Electronic Data Interchange
Encryption - Process of transforming data into a type that prevents casual observers from deciphering
E-tailing - These are mainly "virtual" storefronts which act as a catalogue of products of merchants and usually include a shopping cart system to enable consumers to purchase online with the use of credit cards
Firewall - Software/hardware used to prevent unauthorised access from a computer system or network of computer systems
Payment Gateway - Allows communication between two networks, used in ecommerce to act as an interface between a merchant and a bank
Invoices - Record the sale of an item to a customer, but they do not record the payment. The payment needs to be recorded in QuickBooks and applied against the invoice.
Merchant account - A special account account where money from credit card sales is first routed to and held before transfer to your own business account. This process is usually fully automated ecommerce transactions. Money may in real-time or during various points in a 24 hour period.
Merchant Identification Number - Unique merchant identification number that is used in conjunction with all transactions
Payment threshold - The minimum accumulated commission an affiliate must earn to trigger payment from an affiliate program.
Purchase Orders - These are orders placed with suppliers to order either raw materials for products you manufacture, or inventory for products you sell.
Sales Orders - Used to track orders that you have received but not shipped. They need to be converted to an Invoice in your accounting system.
Sales Receipts - Used to record the sale and the payment. This is often the easiest way to record your e-commerce sales
Shopping Cart - Software that keeps track of items a visitor picks to buy from your site until they proceed to the "checkout".
SLA (Service Level Agreement) - Used in many merchant/institution and merchant/consumer transactions to define the boundaries of what the service is committed to deliver and under what circumstances
SSL (Secure Socket Layer) - A secure protocol that ensures the integrity of information that is transmitted
Tax codes - These show the tax treatment for the transaction (applies to both purchase orders and sales orders). This is true for both VAT / GST countries and those who use sales tax.
Turnkey - Refers to an application that with very few adjustments is ready for use, such as a remotely hosted shopping cart service