Chapter 8-1 Prepared by Coby Harmon University of California, Santa Barbara Westmont College.

Chapter 8-1

Prepared byCoby Harmon

University of California, Santa BarbaraWestmont College

Chapter 8-2

Revenue and Cash Collection Processes and Controls

Chapter 8-3

1. An introduction to revenue processes

2. Sales processes and the related risks and controls

3. Sales return processes and the related risks and controls

4. Cash collection processes and the related risks and controls

5. An overview of IT systems of revenue and cash collection that enhance the efficiency of revenue processes

6. E-business systems and the related risks and controls

7. Electronic data interchange (EDI) systems and the related risks and controls

8. Point of sale (POS) systems and the related risks and controls

9. Ethical issues related to revenue processes

10. Corporate governance in revenue processes

Study ObjectivesStudy ObjectivesStudy ObjectivesStudy Objectives

Chapter 8-4

Staples®, the large office supply company, sells not only in retail stores, but also to other large corporations. Top

management at Staples realizes that these corporate sales are dependent upon customers’ satisfaction with their buying experience. Staples must have sales processes that maximize customer satisfaction, because the sales processes are what make up the buying experience. However, customer satisfaction depends on the whole range of activities from ordering, to product delivery, to efficient billing and collection, and facilitation of product returns. Staples must have, monitor, and improve all of the internal processes that generate the sale, deliver to the customer, and collect the payment. These processes must be able to handle

walk-in sales, telephone orders, and web orders. To improve performance in filling customer orders and collecting the cash, Staples monitors the following performance measures:

• Order entry accuracy • Order fill rate versus unit fill rate

• Percent of items mispicked • Percent of orders delivered next day

• Products delivered undamagedTo perform efficiently in these areas, Staples must have

processes within the company to enter customer orders, pick the correct items from the warehouse shelves, package and ship the items correctly, bill the customer correctly, and collect the payment as quickly as possible. If these processes are inefficient or poorly managed, the result may be unhappy customers and reduced sales. This chapter describes these types of revenue processes and the internal controls within those processes.

Real WorldReal WorldReal WorldReal World

Chapter 8-5

Companies sell products and/or services.

Examples:

SO 1 An introduction to revenue processes

Introduction to Revenue ProcessesIntroduction to Revenue ProcessesIntroduction to Revenue ProcessesIntroduction to Revenue Processes

Retailers:

Record the sale,

collect cash,

update inventory status

all at the time of the sale.

Manufacturers:

Sell product to other

companies.

Deliver goods and bill

customer at a later date.

Collect payment.

Chapter 8-6

Systems and processes must be in place to capture, record,

summarize, and report sales transactions.

Processes include:

Polices and procedures employees follow in completing the

sale.

Capturing customer data and sales quantities.

Routing sales documents to the right departments.


The Accounting System uses this flow of sales documents to various departments to record, summarize, and report the results of the sales transactions.


Chapter 8-7

Introduction Introduction to Revenue to Revenue ProcessesProcesses

Introduction Introduction to Revenue to Revenue ProcessesProcesses

Exhibit 8-1 Revenue Processes withinthe Overall System


Chapter 8-8

Business processes common in company-to-company sales transactions are:


1. Collect order data from customer

2. Deliver goods

3. Record receivable and bill customer

4. Handle product returns

5. Collect the cash

6. Update records, such as

accounts receivable, cash, inventory,

revenue, and cost of goods sold.


Chapter 8-9

Terminology

SO 2 Sales processes and the related risks and controls

Sales ProcessesSales ProcessesSales ProcessesSales Processes

Purchase Order

Sales Order

Price List

Credit Limit

Pick List

Packing Slip

Bill of Lading.

Shipping Log

Sales Invoice (Bill)

Sales Journal

Chapter 8-10


Exhibit 8-2Sales Process Map

See next slide for larger image.


Chapter 8-11




Chapter 8-12




Chapter 8-13

Common procedures associated with the sales

process:

Authorization of transactions

Segregation of duties

Adequate records and documents

Security of assets and documents

Independent checks and reconciliation

Cost-benefit considerations

Controls and Risks in Sales ProcessesControls and Risks in Sales ProcessesControls and Risks in Sales ProcessesControls and Risks in Sales Processes


Chapter 8-14

Characteristics indicating risk with respect to sales

processes:

Frequent changes made to sales prices or customers

Pricing structure is complex or based on estimates

Large volume of transactions

One or few key customers

Shipments not controlled directly by the company

Product mix is difficult to differentiate

Shipping and/or recordkeeping at multiple locations



Chapter 8-15

The purpose of tracing shipping documents to

prenumbered sales invoices would be to provide

evidence that

a. shipments to customers were properly invoiced.

b. no duplicate shipments or billings occurred.

c. goods billed to customers were shipped.

d. all prenumbered sales invoices were accounted

for.



Concept Check

Chapter 8-16



Concept Check

The purpose of tracing sales invoices to shipping

documents would be to provide evidence that

a. shipments to customers were properly invoiced.

b. no duplicate shipments or billings occurred.

c. goods billed to customers were shipped.

d. all prenumbered sales invoices were accounted

for.

Chapter 8-17 SO 3 Sales return processes and the related risks and controls

Company must have procedures for receiving returned goods,

crediting customer’s account, and placing items back in

inventory.

Terminology:

Sales Return ProcessesSales Return ProcessesSales Return ProcessesSales Return Processes

Receiving log

Receiving report

Credit memorandum

Chapter 8-18

Exhibit 8-8Sales Returns Process Map



SO 3 Sales return processes and the related risks and controls

Chapter 8-19

Sales Return ProcessesSales Return ProcessesSales Return ProcessesSales Return Processes Exhibit 8-8Sales Returns Process Map


Chapter 8-20



Exhibit 8-8Sales Returns Process Map

Chapter 8-21

Specific controls over the sales returns process:







Risks and Controls in the Sales Return Risks and Controls in the Sales Return ProcessesProcessesRisks and Controls in the Sales Return Risks and Controls in the Sales Return ProcessesProcesses


Chapter 8-22

Circumstances which may indicate high level of risk.

Quantities of returns are difficult to determine

High volume of credit memo activity

Product prices change frequently, or pricing structure is otherwise

complex

Returns are received at various locations, or issuance of credit

memos may occur at different locations

One or few key customers

Returns not controlled directly by the company

SO 3


Chapter 8-23

Concept Check



Under a system of sound internal controls, if a company

sold defective goods, the return of those goods from the

customer should be accepted by the

a. receiving clerk.

b. sales clerk.

c. purchasing clerk.

d. inventory control clerk.

Chapter 8-24

Company-to-company sales are typically made on account,

and a time span is given for the customer to pay.

Terminology:

SO 4 Cash collection processes and the related risks and controls

Cash Collection ProcessesCash Collection ProcessesCash Collection ProcessesCash Collection Processes

Remittance advice

Cash receipts journal

Chapter 8-25

Exhibit 8-12Cash Receipts Process Map




Chapter 8-26




Chapter 8-27




Chapter 8-28


Concept Check


Which of the following is not a document that is part of the

cash collection process?

a. Remittance advice

b. Cash receipts journal

c. Bank deposit slip

d. Packing slip

Chapter 8-29 SO 4 Cash collection processes and the related risks and controls

Risks and Controls in the Cash Collection Risks and Controls in the Cash Collection ProcessesProcessesRisks and Controls in the Cash Collection Risks and Controls in the Cash Collection ProcessesProcesses

Specific controls over the cash receipts process:







Chapter 8-30

Circumstances that may indicate risks to cash collections.

High volume of cash collections

Decentralized cash collections

Lack of consistency in the volume or source of collections

Presence of cash collections denominated in foreign currencies


Risks and Controls in the Cash Collection Risks and Controls in the Cash Collection ProcessesProcessesRisks and Controls in the Cash Collection Risks and Controls in the Cash Collection ProcessesProcesses

Chapter 8-31


Concept Check

SO 4

Which of the following would represent proper segregation of

duties?

a.The employee who has custody of cash also does accounts

receivable record keeping.

b.The employee who has custody of cash completes the bank

reconciliation.

c.The employee who opens mail containing checks prepares a list of

checks received.

d. The employee who opens mail containing checks records

transactions in the general ledger.

Chapter 8-32

Larger IT systems generally have:

Fewer manual processes

More computerized processes

SO 5 An overview of IT systems of revenue and cash collection that enhance the efficiency of revenue processes

IT Enabled Systems of Revenue and Cash IT Enabled Systems of Revenue and Cash Collection ProcessesCollection ProcessesIT Enabled Systems of Revenue and Cash IT Enabled Systems of Revenue and Cash Collection ProcessesCollection Processes

Chapter 8-33

IT Enabled IT Enabled Systems of Systems of Revenue and Revenue and Cash Cash Collection Collection ProcessesProcesses

IT Enabled IT Enabled Systems of Systems of Revenue and Revenue and Cash Cash Collection Collection ProcessesProcesses

Exhibit 8-17Revenue Processes System Flowchart

Exhibit 8-17 is a system flowchart of a generic version of revenue system withsome paper documents.

SO 5

Chapter 8-34

Sophisticated, highly integrated IT systems capture, record,

and process revenue and cash collection events.

Such systems include:

E-commerce systems.

Electronic Data Interchange (EDI) systems.

Point of Sale (POS) systems.



Chapter 8-35

Sophisticated IT systems usually lead to:

First, underlying processes are reengineered (BPR) so as to

be conducted more efficiently.

Second, IT systems improve the efficiency of the related

information.



Chapter 8-36

Two popular types of Internet sales:

Business to Business (B2B)

Business to Consumer (B2C)

SO 6 E-business systems and the related risks and controls

E-Business Systems and the Related Risks E-Business Systems and the Related Risks and Controlsand ControlsE-Business Systems and the Related Risks E-Business Systems and the Related Risks and Controlsand Controls

Chapter 8-37

Advantages of e-commerce include:

1. Reduced cost

2. Shorter sales cycles

3. Increased accuracy and reliability of sales data

4. Increased potential market for products and services



Chapter 8-38

Many large corporations sell to other companies. Staples® is

an example of a company selling to other companies via

websites. Regarding sales of office supplies to other large

corporations, management at Staples realizes that it must

support orders in the manner the customer prefers. Jay Baitler,

the senior vice president of the Staples Contract Division, said,

“Offering Internet-based transactions is now critical.”2 Internet-

based sales accounted for 70 percent of the revenue in the

contract division.



Chapter 8-39

Risks related to Internet Sales include:


Security and Confidentiality

1. Unauthorized access

2. Hackers or other network break-ins

3. Repudiation of sales transactions

Processing Integrity

4. Invalid data entered by customers

5. Incomplete audit trail

6. Errors when integrating data into back end systems


Chapter 8-40 SO 6 E-business systems and the related risks and controls

Controls should be in place to reduce the security,

availability, processing integrity, and confidentiality risks.


Risks related to Internet Sales include:

Availability

7. Hardware and software system failures that block customers from access to the website

8. Virus and worm attacks

9. Denial-of-service attacks by hackers


Concept Check


When a company sells items over the Internet, it is usually

called e-commerce. There are many IT risks related to Internet

sales. The risk of invalid data entered by a customer would be

a(n)

a.availability risk.

b.processing integrity risk.

c.security risk.

d.confidentiality risk.



Concept Check

When a company sells items over the Internet, there are many

IT risks. The risk of hardware and software failures that

prevent Website sales would be a(n)

a.availability risk.

b.processing integrity risk.

c.security risk.

d.confidentiality risk.

Chapter 8-43

Electronic data interchange is the inter-company, computer-

to-computer transfer of business documents in a standard

business format.

SO 7 Electronic data interchange (EDI) systems and the related risks and controls

ANSI X.12 standards divide EDI data transmissions into

three parts:

Header and trailer data

Labeling interchanges

Data segments

Electronic Data Interchange (EDI) Systems Electronic Data Interchange (EDI) Systems and The Risks and Controlsand The Risks and ControlsElectronic Data Interchange (EDI) Systems Electronic Data Interchange (EDI) Systems and The Risks and Controlsand The Risks and Controls

Chapter 8-44

Exhibit 8-18EDI Using a Third-Party Network

Value Added

Networks (VANs)

Electronic Data Interchange (EDI) SystemsElectronic Data Interchange (EDI) SystemsElectronic Data Interchange (EDI) SystemsElectronic Data Interchange (EDI) Systems

SO 7

Chapter 8-45


Advantages to an EDI system within the revenue and cash

collection processes:

1. Reduction or elimination of data keying

2. Elimination of keying errors

3. Elimination of costs related to keying errors

4. Elimination of time needed to key in orders

5. Elimination of mail delays


Chapter 8-46


Advantages to an EDI system within the revenue and cash

collection processes:

6. Elimination of postage costs

7. Reduction in inventory levels

8. Competitive advantage through better customer service

9. Preservation of business with existing customers who have

adopted EDI


Chapter 8-47

Northern Telecom (Nortel) switched to an Internet EDI system in the late

1990s. Nortel has customers all over the globe, and the use of the

Internet by Nortel customers to transmit purchase orders is a low-cost

transmission option for those customers. This was especially beneficial

to Nortel in expanding its customer base in Europe and Asia. As Nortel

works to gain new customers, a low-cost way to order is an enticement to

those customers. There are also other benefits to Nortel. The use of

Internet EDI eliminated the need for customers to fax purchase orders or

supplier information to Nortel. Michael Keef, the senior manager of

electronic business solutions at Nortel, said, “Errors occur when people

fax things. We won’t have to rekey shipment notices.”3 Details of Internet

EDI are described in a later chapter on e-commerce.



Chapter 8-48

Security and Confidentiality

1. Unauthorized access

2. Trading partners gaining access to unauthorized data

3. Hackers or other network break-ins

4. Repudiation of sales transactions



Risks in an EDI system include:

Chapter 8-49

Processing Integrity

5. Invalid data entered by trading partners

6. Incomplete audit trail

7. Errors when integrating data into back end systems



Risks in an EDI system include:

Availability

8. Hardware and software system failures that block customers from access to the EDI system.

Chapter 8-50


IT controls can lessen these risks. Controls are:

Authentication

Encryption

Transaction logging

Control totals

Acknowledgment


Chapter 8-51


Concept Check


The use of electronic data interchange (EDI) to conduct sales

electronically has both risks and benefits. Which of the

following is a benefit of EDI, rather than a risk?

a.Incomplete audit trail

b.Repudiation of sales transactions

c.Unauthorized access

d.Shorter inventory cycle time

Chapter 8-52 SO 8 Point of sale (POS) systems and the related risks and controls

Point of Sale systems, features that assist accountants and managers:

1. Touch screen menus

2. Bar code scanning

3. Real-time access to inventory and price data

4. Credit card authorizations during the sale

5. Real-time update of cash, sales, and inventory records

6. Immediate summaries and analyses

7. Integration with the company’s general ledger system

Point of Sale (POS) Systems and the Point of Sale (POS) Systems and the Related Risks and ControlsRelated Risks and ControlsPoint of Sale (POS) Systems and the Point of Sale (POS) Systems and the Related Risks and ControlsRelated Risks and Controls

Chapter 8-53

Point of Sale systems can reduce some processing integrity risks within revenue and cash collection:

1. Pricing errors for products sold

2. Cash overage shortage errors

3. Errors in inventory changes—less chance of an incorrect

product number

4. Erroneous or invalid sales voids or deletions

SO 8 Point of sale (POS) systems and the related risks and controls


Chapter 8-54 SO 8 Point of sale (POS) systems and the related risks and controls

Concept Check


An IT system that uses touch screens, bar coded products,

and credit card authorization during the sale is called a(n)

a. electronic data interchange system.

b. e-commerce system.

c. point of sale system.

d. e-payables system.

Chapter 8-55 SO 9 Ethical issues related to revenue processes

Intentional revenue inflation is unethical, and many

types of revenue inflation are illegal.

Two ways to inflate revenue:

Channel stuffing

Leaving sales open

http://www.sec.gov/litigation/litreleases/lr17001.htm

Ethical Issues Related to Revenue Ethical Issues Related to Revenue ProcessesProcessesEthical Issues Related to Revenue Ethical Issues Related to Revenue ProcessesProcesses

Chapter 8-56

In the early days of personal computers, one of the manufacturers of

hard drives was MiniScribe Corporation. The chief executive officer of

MiniScribe, Q.T. Wiles, was convicted of fraud in 1994 and subsequently

served 30 months in prison for falsifying revenue. To inflate revenues,

Q.T. Wiles came up with a novel idea. He made the employees ship

bricks, rather than hard drives, in boxes that were sent to distributors.

The company also shipped scrapped parts in boxes that were labeled as

hard drives. The company inflated revenue by recording completely

fictitious, fraudulent sales of these bricks and scrap materials. In

addition to the CEO being sentenced to jail time, the chief financial

officer, a CPA, was disciplined by the SEC. The company ultimately

failed.


SO 9 Ethical issues related to revenue processes

Chapter 8-57

In 2008, the Coca-Cola Company agreed to pay a $137.5 million

settlement related to accusations of channel stuffing. After an eight-year

SEC investigation, Coke agreed to the settlement but admitted no

wrongdoing. The company had been accused of pressuring bottlers to

buy more soft drink concentrate than necessary. This overselling

technique added sales, and therefore higher profits, to Coke’s financial

reports, and it kept the stock price artificially inflated. Those who

purchased Coke stock in a short period in late 1999 to early 2000 were

entitled to a portion of the settlement. In a similar case, the SEC

investigated McAfee, Inc. in 2006. McAfee, a software seller, was

accused of selling its software products to its distributors in quantities

greater than end-consumer demand. The company admitted no

wrongdoing but ultimately agreed to a $50 million settlement.



Chapter 8-58

A recent example of accountants being involved in revenue misstatement

in an accounting fraud scheme occurred at HealthSouth Corp. Richard

Scrushy, the CEO, and five different financial officers were accused of

inflating profits by $1.4 billion. The accountants involved claimed that

Scrushy held so-called “family meetings” to help devise and cover up

earnings falsifications. In June of 2005, to the surprise of federal

prosecutors, Scrushy was found not guilty of all counts against him even

though the five other HealthSouth officials had plead guilty

and testified that Scrushy ordered the actions. Although a jury found him

not guilty, Scrushy’s job prospects as a CEO are severely damaged. At a

minimum, he tolerated and failed to prevent unethical behavior, even

though it was not proven beyond a reasonable doubt that he participated

in the events.



http://www.usdoj.gov/opa/pr/2003/July/03_crm_436.htm

Chapter 8-59 SO 10 Corporate governance of revenue processes

Four primary functions of the corporate governance process:

Management oversight.

Internal controls and compliance.

Financial stewardship.

Ethical conduct.

Establishing proper processes, internal controls, and ethical guidelines leads to better corporate governance and, therefore, good financial stewardship.

Corporate Governance of Revenue Corporate Governance of Revenue ProcessesProcessesCorporate Governance of Revenue Corporate Governance of Revenue ProcessesProcesses

Chapter 8-60 SO 10 Corporate governance of revenue processes

Corporate Governance of Revenue Corporate Governance of Revenue ProcessesProcessesCorporate Governance of Revenue Corporate Governance of Revenue ProcessesProcesses

Concept Check

Which of the following is not a method of unethically inflating

sales revenue?

a.Channel stuffing

b.Holding sales open

c.Premature recognition of contingent sales

d.Promotional price discounts

Chapter 8-61

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Chapter 8-1 Prepared by Coby Harmon University of California, Santa Barbara Westmont College.

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Transcript of Chapter 8-1 Prepared by Coby Harmon University of California, Santa Barbara Westmont College.