As the legalization of cannabis trends, more and more entrepreneurs are seeking to enter the industry. While there is ample opportunity for potential business owners, it’s important to keep in mind that the industry is highly regulated and has its own unique set of challenges. It takes extreme diligence to break into the cannabis space as there’s a lot you need to learn before you should even draft a business plan.
One of the main areas that cannabis entrepreneurs struggle in is their finances and accounting procedures. With state laws and regulations that are constantly changing, it can be challenging to keep a compliant financial system in place. This, unfortunately, can lead to costly mistakes, such as getting hit with unforeseen fines and sanctions.
Getting cannabis products from seed to sale involves a lot of moving parts. Because of this, cost accounting is a crucial element of your business’s overall financials. Practicing excellent cost accounting will help you track your profits and make sound financial decisions for your business.
Keep reading to learn more about cost accounting and why it’s so essential for those in the cannabis, hemp, or CBD spaces.
What is Cost Accounting?
Cost accounting is defined as “the recording of all the costs incurred in a business in a way that can be used to improve its management,”. In other words, we use cost accounting to determine the actual cost associated with manufacturing a product by looking at all expenses within the supply chain.
While tax code 280e prevents cannabis companies from writing off expenses like rent, salaries, and utilities, they do allow you to deduct your Cost of Goods Sold (COGS). COGS is the total amount your business paid as a cost directly related to the sale of products.
Cost accounting is important in all cannabis verticals, but particularly for cultivators and manufacturers as they have the most complicated processes. Staying on top of cost accounting allows business owners to track their expenses and profits more carefully, making it easier to make informed decisions about their business.
The cost accounting process starts with determining fixed and variable costs.
Fixed costs are expenses that recur each month regardless of production level. This would include things like rent, depreciation, or interest on loans. Typically these prices do not fluctuate, or if they do, they’re not by much.
Variable costs are expenses that fluctuate with changes in production level. This would be your labor costs, maintenance expenses, supplies, etc. These costs are related to production in that the more products produced, the more expenses there are associated with the materials and labor.
Knowing your expenses is essential to business owners because it helps them determine profitability as well as accurately predict future cash flows.
Why is Cost Accounting Important?
Cost accounting is vital for businesses in various industries, but particularly cannabis. This is because, as mentioned above, the cannabis industry has stricter, more specific tax rules. For example, should you incorrectly claim your costs allocated to inventory, it can result in serious financial and legal trouble, even if it was an honest mistake.
On top of that, it’s equally important for those seeking to raise capital for their business. Lenders and investors will want to see accurate accounting in order to trust you with their money. These institutions don’t want to risk fines, penalties, or a loss of license if accounting is not done correctly.
Your best bet for impeccable cost accounting and comprehensive financial solutions is to partner with a CPA or accounting firm specializing in cannabis, like Green Space Accounting.
At Green Space, we have extensive experience working with cannabis companies and know how to identify and avoid the common pitfalls that arise for dispensaries, growers, and other businesses in the industry. When you work with us, we become a part of your team that handles all of your accounting and finance needs.
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