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Chapter 7 Sales and Collection Cycle Business Process Making a sale and accounting for sale - related Decisions - what to sell, how, much to sell for Ie. Sales discount Accounts Receivable Largest current asset Managing size and conversion to cash Credit policies Collection efforts

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chapter 7
Chapter 7

Sales and Collection Cycle

business process
Business Process
  • Making a sale and accounting for sale - related
  • Decisions - what to sell, how, much to sell for
  • Ie. Sales discount
accounts receivable
Accounts Receivable
  • Largest current asset
  • Managing size and conversion to cash
  • Credit policies
  • Collection efforts
  • Selling A/R - factoring
sales cycle
Sales Cycle
  • Firm sells to customers that pay
  • Goods and services are delivered
  • Customers billed correctly
  • Money received and deposited
  • Recording to sale
  • Collecting payment
timing of revenue recognition
Timing of Revenue Recognition
  • Recognized and reported on income statement
  • Accrual accounting - not concerned about cash collection
  • GAAP - accrual accounting
  • Recognized - earnings process is virtually complete, collection reasonably
study break 7 1
Study Break 7-1

Cash 100,000

Unearned Rev 100,000

Unearned Rev 50,000

Ticket Rev Earned 50,000

Unearned Rev 33,333

Ticket Rev Earned 33,333

sales discounts
Sales Discounts
  • If pay bills promptly
  • 2/10, n/30
  • Deducted from sales - income statement
  • Contra-revenue account
study break 7 2
Study Break 7-2

Accounts Receivable 3,500

Sales 3,500

Cash 3,395

Sales Discount 105

Accounts Receivable 3,500

sales returns
Sales Returns
  • Return merchandise
  • Refund - full or partial cash, credit
  • Separate from sales
  • Contra-revenue account - see both numbers
  • Deducted from sales
payment for goods and services
Payment for Goods and Services
  • Customers - Two choices - cash or credit
  • Analyze risks
  • Controls
accounting for cash reconciling the bank statement
Accounting For Cash:Reconciling The Bank Statement
  • An important part of internal control, segregation of duties
  • Need for calculating a true cash balance
  • Two “sides” to be reconciled - SAME
    • balance per bank
    • balance per books
  • Locate errors and make adjustments
accounting for cash examples
Accounting For Cash:Examples
  • Company books know
    • Outstanding check
    • Deposit in transit
  • Bank knows
    • Service charge
    • NSF - nonsufficient funds check
    • Interest earned
    • Miscellaneous charges
    • Miscellaneous credits
    • Notes collected
cash bank reconciliation has 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

Cash (Bank) Reconciliation Has Two “Independent” Parts

Balance per bank

Balance per books

study break 7 3
Study Break 7-3

Balance per book $2,400

Interest 100

Collection 300

Service Charge (100)

True cash balance $2,700

Cash 300

Misc Oper Exp 100

Accounts Receivable 300

Interest Revenue 100

account receivables
Account Receivables
  • Do not expect to collect 100%
  • Balance Sheet - business expects to collect
  • Accounting for uncollectible accounts
    • Direct write-off method
      • Not GAAP
      • Write off when identified
    • Allowanced method
      • Estimated and matched
      • Recorded at end of period
      • GAAP
  • Bad debt expense
two methods
Two Methods

GAAP

Not GAAP

Allowance Method

Direct Write-Off Method

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

A/R Method

Sales Method

study break 7 4
Study Break 7-4
  • Accounts identified and written off - bad debt expense
  • 2005 - no journal entries required
  • 2006

Bad debt expense 35

Accounts receivable 35

allowance method
GAAP - matching principle - with related sale

Estimated - recognize expense

Allowance for uncollectible accounts - deducted from Accounts receivable - contra asset account

Net realizable value - amount expected to be collected - book value or carrying value

Expense - don’t wait until bad debt identified

Allowance method
allowance method continued
Allowance Method, continued
  • Two allowance methods - estimating with
    • Sales - Income Statement Method
      • Estimate based upon credit sales or total sales
    • Accounts Receivable - Balance Sheet Method
      • Accounts receivable - starting point
      • Aging schedule - length of time outstanding
  • Problem
    • Reduction of both accounts receivable and allowance - no effect in net accounts receivable
study break 7 5
Study Break 7-5

Bad debt expense 400

Allowance for uncollectible accounts 400

    • 500 - 100 = 400
    • Estimate - prior year overestimate = current estimate
  • 9,500 = 10,000 - 500 - net realizable value
credit card sales
Credit Card Sales
  • Credit card company is responsible for evaluating a persons credit worthiness and collecting payments
  • Cost compared to benefits
study break 7 6
Study Break 7-6

Accounts Receivable 4,850

Credit card expense 150

Sales revenue 5,000

5,000 * .97 = 4,850

other accounting issues related to sales warranty costs
Other Accounting Issues Related to Sales: Warranty Costs
  • Why give warranties?
    • Sales and marketing tool
    • Strategic decision
  • When should expense be recognized?
    • Time of sale - matching principle
    • Estimated future costs

Warranty

study break 7 7
Study Break 7-7
  • No warranty expense recorded - previously recorded with sale

Estimated warranty liability 500

Cash 500

finding and using information
Finding and using information
  • Revenue recognized when earned, often before collected
  • Analysis
    • Current ratio - quick ratio, acid test ratio
    • Accounts receivable turnover ratio - measures ability to collect cash from credit customers
    • # of days to collect
business risks
Business risks
  • Policies and procedures
    • Preventive controls
    • Detective controls
    • Corrective controls