Chapter 10 Marketing/Sales/Collection/Customer Support Process: Recording and Evaluating Revenue Process Activities

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved What are the Primary Activities in the Revenue Process?  Determine marketing and distribution channels  Receive and accept orders  Deliver goods/services  Receive payment from customers  Provide customer support

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved Which of the Revenue Process Activities are Accounting Events?  Deliver goods/services –Increase sales revenue –Increase accounts receivable –Increase cost of goods sold –Decrease inventory  Receive payment from customers –Increase cash –Decrease accounts receivable

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved Accounting Events Continued  Provide customer support –Various effects, depending on the support provided, see Chapter 8 for employee events

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved What is the Basic Flow of Information in the Revenue Process?  Customer places an order and credit manager approves credit  Warehouse releases goods and notifies shipping  Shipping prepares shipping documents and ships the goods to the customer  Billing prepares the sales invoice based on the sales order and the shipping notice  Inventory, accounts receivable, and sales records are updated

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved Information Flow Continued  The mail room receives payment and remittance advice from customers and prepares a remittance list  Remittance list is used to update cash receipts and accounts receivable records  The checks are deposited in the bank.

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved When are Revenues Recognized?  When earned, regardless of when cash is received. Assume a December 31 year-end for the following examples. –Example #1—provided services in November and sent a bill to the customer in December, recognize revenue in November –Example #2—received payment in November for services to be provided in December, recognize revenue in December when services are provided to the customer –Example #3—provided services and received payment in November, recognize revenue in November

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved What are the Accounts Used in the Revenue Process?  Sales—gross amount of revenue earned  Sales returns and allowances (contra revenue)—gross amount of allowance given to customer for a return or sales allowance  Sales discount (contra revenue)—discount granted to customers who pay within the discount period

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved Example  Sell $800 of inventory to a customer on account for $1,200 (terms: 2/10, n/30). Customer subsequently returns $200 of inventory for a $300 credit. Customer pays their bill within the discount period. A perpetual inventory system (Chapter 8) is used.

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved Answer  Sale –Increase (debit) accounts receivable by $1,200 –Increase (credit) sales by $1,200 –Increase (debit) cost of goods sold by $800 –Decrease (credit) inventory by $800  Return –Recognize (debit) sales returns and allowances for $300 –Decrease (credit) accounts receivable by $300 –Increase (debit) inventory by $200 –Decrease (credit) cost of goods sold by $200

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved Answer Continued  Payment received within the discount period –Increase (debit) cash by $882 ($900 * 0.98) –Recognize (debit) sales discount for $18 ($900 * 0.02) –Decrease (credit) accounts receivable by $900 ($1,200 - $300)

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved What if Payment is Received After the Discount Period has Expired?  Payment after discount period –Increase (debit) cash by $900 –Decrease (credit) accounts receivable by $900 ($1,200 - $300)

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved Thought Questions  Why not simply credit sales for the return? –Management needs a record of returns to evaluate quality and customer service  Why not simply credit sales for the discount or record sales net-of-the discount? –Management needs a record of discounts taken to evaluate credit policies and customer service.

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved What is a Cost Flow Assumption?  A method used to assign a cost to a product when it is not specifically identified with a cost.  FIFO—first-in, first-out –Assumes that the first costs recorded are the first costs expensed  LIFO—last-in, first-out –Assumes that the last costs recorded are the first costs expensed

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved Example March 1, beginning inventory 10 units with a cost of $5 each March 3, purchase 12 units with a cost of $6 each March 5, sell 15 units What is the cost of goods sold using FIFO? (10 * $5) + (5 * $6) = $80 What is the cost of goods sold using LIFO? (12 * $6) + (3 * $5) = $87

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved So FIFO is good because it Reduces Costs?  No, for 2 reasons  First, the difference in cost of goods sold between FIFO and LIFO ($7) results in a difference in ending inventory, not a permanent difference in cost. Ending inventory under FIFO is $42 (7 * $6) while ending inventory under LIFO is $35 (7 * $5)  Second, in a period of rising prices (as this example shows) a company using LIFO will incur less tax expense because costs are higher

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved Why is it Necessary to Estimate Uncollectible Accounts?  Proper matching of revenue and expense— the cost incurred in an attempt to generate revenue is the possibility of not collecting the monies due from customers  Asset definition—accounts receivable should reflect the amount we believe we can collect, amounts which are deemed uncollectible have no future benefit

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved How are Revenue Process Activities Communicated to Users?  Income statement –Net sales, uncollectible accounts expense, miscellaneous revenues  Balance sheet –Accounts receivable (net), related liabilities (unearned revenue), related assets (inventory)  Statement of cash flows –Cash received from customers

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved How can we Estimate Cash Received from Customers? Beginning accounts receivable (balance sheet) + Net sales on account (income statement) = Maximum amount owed by customers - Cash received from customers (calculated) - Write-offs (if known) = Ending accounts receivable (balance sheet)

McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved What are Revenue Variances?  Actual revenues less planned (budgeted) revenues  Sales price variance –(ASP – SSP) * AQ –Tells us whether our selling price is greater than or less than expected  Sales quantity variance –(AQ – SQ) * SSP –Tells us whether we sold more or fewer products than anticipated (budgeted)