Copyright 2003 Prentice Hall Publishing Company1 Chapter 7 Sales and Collection Cycle.

Copyright 2003 Prentice Hall Publishing Company

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Chapter 7Chapter 7

Sales and Collection CycleSales and Collection Cycle


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Controlling CASHControlling CASH

Cash has universal appeal and ownership is difficult to prove.

Both cash receipts and cash payments should be recorded immediately when received and made.

Checks should be prenumbered and kept secure.


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Safeguarding CashSafeguarding Cash

Separation of duties Different people receive and disburse

the cash. Procedures for the record keeping of

cash receipts and disbursements are separate.

Handling the cash and record keeping are completely separate.


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ProceduresProcedures

Use pre-numbered checks, and keep a log of electronic transfers.

Payment approval, check signing, and electronic funds transfer should be assigned to different individuals.

Bank accounts and cash balances should be reconciled monthly.


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Accounting For Cash:Accounting For Cash:Reconciling The Bank StatementReconciling The Bank Statement An important part of internal

control Need for calculating a true cash

balance Two “sides” to be reconciled

balance per bank balance per books

If there are any mistakes or transactions that have not been recorded in the company’s books, the company’s records should be updated.


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TerminologyTerminologyBank statement

Monthly report prepared by bank that contains details of a company’s deposits, disbursements, and bank charges.

Bank reconciliationReport prepared by the company after receiving the bank statement that compares the bank statement with the company’s records to verify the accuracy of both.


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More TerminologyMore Terminology

Outstanding checkA check written by the company that has been recorded on the company’s records but has not yet cleared the bank

Deposit in transitA deposit that the company has made and recorded, but it has not reached the bank’s record keeping system yet.


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More TerminologyMore TerminologyNSF check

A “bad” check written by a customer that must be deducted from the company’s records. The company recorded the check as a cash receipt (and then deposited it), but the check writer didn’t have the money in his or her account to cover it. The bank will have already deducted it from the company’s balance (in the bank’s records), but the company will have to make an adjustment to their records.


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More TerminologyMore TerminologyCredit memo

An addition to the company’s balance in the bank’s records for a reason such as the bank having collected a note for the company (from a third party who owed the company).

Debit memoA deduction from the company’s balance in the bank’s records for a reason such as a bank service charge.


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Cash (Bank) Reconciliation Cash (Bank) Reconciliation Has Two “Independent” PartsHas Two “Independent” Parts

++ deposits in transit

++

-- outstanding checks

--

True cash balance

++ collections for us made by the bank

++

-- NSF checks (from customers)

-- Service charges

True cash balance

Balance per bankBalance per bank Balance per booksBalance per books


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A/R are the expected future cash receipts of a company. They are typically small and are expected to be received within 30 days.

N/R are used when longer credit terms are necessary. The note specifies the maturity date, the rate of interest, and other credit terms.

Accounts And Notes ReceivableAccounts And Notes Receivable


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Value Of ReceivablesValue Of ReceivablesValue Of ReceivablesValue Of Receivables

Receivables are reported at their face value less an allowance for accounts which are likely to be uncollectible.

The amount which is actually expected to be collected is called the net realizable value (NRV).

GAAP requires that A/R be reported at NRV.


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Used only when bad debts Used only when bad debts are a very small item or are a very small item or when credit sales are when credit sales are insignificant.insignificant.

GAAP Not GAAP

Two MethodsTwo Methods

Allowance Method Direct Write-Off Method

A/R Method

Sales Method


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The Most Common MethodThe Most Common Method

Allowance method Estimate the bad debt expense as an

adjustment when it is time to prepare the financial statements.

Record the amount as a reduction in ACCOUNTS RECEIVABLE, even though you don’t know whose accounts will be “bad.”


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Allowance Method, continuedAllowance Method, continued

We will base the estimate on:» Sales, or» Accounts Receivable

This method attempts to match the expense (bad debt) with the revenue (sale) by recording the expense in the same period as the sale even though the company has not specifically identified which accounts will go unpaid.


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The Other MethodThe Other MethodDirect Write-Off

No estimates of bad debts are made. Only when a specific account is known to be

uncollectible (customer files bankruptcy, for example) is bad debt expense recorded.

This doesn’t do a very good job of matching the revenue (sale) with the expense (bad debt), because a company often discovers an account is uncollectible in a period subsequent to the one in which the sale was made.


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1. Provided services to customers for $9,000, 1. Provided services to customers for $9,000, on account.on account. 1. Provided services to customers for $9,000, 1. Provided services to customers for $9,000, on account.on account.

Assets = Liab. + Cont. Cap. + Ret. Earnings

+9000 AR +9000 Sales

Income Statement: Statement of Changes in Equity: Statement of Cash Flows:

Increases income

Increases equityNo effect on cash flow


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22. Collected $6,000 Cash From Account . Collected $6,000 Cash From Account Receivable.Receivable.

22. Collected $6,000 Cash From Account . Collected $6,000 Cash From Account Receivable.Receivable.


+6000 Cash

(6000) AR


no effect on income

no effect on equity

increases cash flow


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3. At year-end it was estimated that $200 of 3. At year-end it was estimated that $200 of accounts receivable will never be collected.accounts receivable will never be collected.3. At year-end it was estimated that $200 of 3. At year-end it was estimated that $200 of accounts receivable will never be collected.accounts receivable will never be collected.


(200) AFDA (200) expense


Decreases income

Decreases equity

No effect on cash flow


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How Do We Report AR On The How Do We Report AR On The Balance Sheet?Balance Sheet?

Net Realizable Value of AR = what we expect to collect

On the balance sheet:

Accounts Receivable $3,000less allowance for uncollectible accounts (200)

Net AR $2,800


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Effect of Transaction 4 on Effect of Transaction 4 on AR Net Realizable ValueAR Net Realizable ValueEffect of Transaction 4 on Effect of Transaction 4 on AR Net Realizable ValueAR Net Realizable Value

Before Event 4 After Event 4

AR $3,000 AR $2,950

Allow. 200 Allow. 150

N.R.V. $2,800 N.R.V. $2,800

Net realizable value of accounts receivable did not change as a result of the write-off.


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Allowance Method, ContinuedAllowance Method, ContinuedAllowance Method, ContinuedAllowance Method, Continued

One way to estimate bad debt expense is to use a percentage of current period sales. Expense = (% * sales)

Another way to estimate bad debt expense is to use a percentage of ending A/R (or an aging schedule) Expense = (% * A/R) – allowance balance


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Other Accounting Issues Other Accounting Issues Related to Sales: Warranty Related to Sales: Warranty CostsCosts

Other Accounting Issues Other Accounting Issues Related to Sales: Warranty Related to Sales: Warranty CostsCosts

Why give warranties? When should expense be recognized?

WarrantyWarranty

We will We will repair orrepair orreplace thisreplace thisitem...item...

Copyright 2003 Prentice Hall Publishing Company1 Chapter 7 Sales and Collection Cycle.

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Transcript of Copyright 2003 Prentice Hall Publishing Company1 Chapter 7 Sales and Collection Cycle.