Accounting For Sales (Selling products or services)

A. Sales

Recognition of Revenue:

1. Revenue recognition principle

Revenue should be recognized when earned and realized

Earned:?The work (providing goods or services) has been substantially completed.

Realized:Cash, or a valid promise of future payment, has been received.

2. 5 steps for revenue recognition

? ??Identify contract with customer

? ??Identify its separate performance obligations

? ??Determine the transaction price

? ??Allocate transaction price to the separate performance obligations

? ??Recognize revenue when entity satisfies a performance obligation

3. Revenue Recognition Method

a. Percentage of completion method

Recognizing revenue on long-term contracts as production occurs

????Does not require waiting until the final product is delivered

????Associated expenses must be recognized by the company

?Used when:

????There is surety of receiving payment?

????Progress measures are dependable?

????Contract obligations are explicit

b. Completed contract method

Recognizing revenue on long-term contracts that delays recognition of both revenue and related expenses until completion of the contract

Used when:

????there is uncertainty about customers paying at end of contract (U.S. GAAP)

????the outcome of a contract cannot be estimated reliably (IRFS)

4.?Typical Line of business about sale

Negotiation -> Contract -> Collect Cash -> Deliver Product -> Continuing Service

? ? ? ? OR

Deliver Product -> Collect Cash (Cash Discount?) -> Customer Return -> Bad Debt -> Continuing Service

Measurement of Sales

1. Gross Sales and Net Sales

Gross Sales:?initial revenues or asset inflows based on the initial sales price

Net sales:?Total amount of sales after deducting returns, allowances, and discounts

2. Sales Return and Allowances

A?sales return?occurs when a customer returns previously purchased merchandise

A?sales allowance?is a reduction of the original selling price

A contra account (Sales Returns and Allowances) combines both returns and allowances in a single account

Contra revenue account

? Used instead of reducing the revenue account directly

? Combines both returns and allowances

? Helps monitor changes in the level of returns and allowances

? Helps in forecasting demand and managing inventory

Dr. Sales Returns and Allowances

????Cr. Accounts Receivable (or Cash)

3. Sales Discount

Sale discounts?are rewards for prompt payment

Credit Terms:?

? ? p/n, x/m

p=discount percentage

n= # of days in discount period

x=otherwise, the full amount is due

m=maximum days in credit period

Discount?is a reduction in the full price due to either a sale, promotion or prompt payment

Trade discounts?offer one or more reductions to the gross selling price for a particular class of customers

The?Gross sales?is the price received after deducting the trade discount

There is no contra account for trade discount

Dr. Cash

? ? ? Cash discounts on sales

? ? Cr. Accounts Receivable

4. Credit Card Discount

Credit Card Fees: typically 1%???4% of gross sales

? An alternative to sales discount

? Deduct from gross sales directly

? Or Record as credit card discount

Dr. Cash

? ? ? Credit Card Discount

? ? Cr. Sales

5.?Reporting for Net Sales Revenue

B. Bad Debts

Record:

1. Classification of Receivables

Accounts Receivable,?Notes Receivable,?Interest Receivable,?Dividends receivable,?Other Receivables

2.?Uncollectible Accounts of A/Rs

Occur when customers do not pay for items or services purchased on credit

When an account receivable becomes uncollectible, a firm incurs a bad-debt expense

3. The Direct Write-off Method

journal entries:

when credit sales are made:

Dr. Accounts Receivable?

? ? Cr. Sales Revenue

when an A/R becomes uncollectible:

Dr. Bad Debt Expense

? ? Cr. Accounts Receivable

when cash received on the previously bad account:

Dr. Accounts Receivable

? ? Cr. Bad Debt Expense

Dr. Cash

? ? Cr. Accounts Receivable

Method is?objective?because bad debt expense is written off at the time it proves to be uncollectible.

This method is?not consistent?with the matching principle(All costs and expenses in generating revenues must be identified with those revenues period by period).

4. The Allowance Method

The firm estimates the amount of sales that will ultimately be uncollectible in the same period in which those credit sales are made.

A contra asset account(allowance for bad debts, or, Allowance for doubtful accounts壞帳準備) is set up and deducted from the A/R account on the BS.

journal entries:

when credit sales are made:

Dr. Accounts Receivable

? ? Cr. Sales Revenue

Bad debts are estimated and recognized?in the same period?as credit sales are made:

Dr. Bad Debt Expense

? ? Cr. Allowance for Bad Debts

when actually write off a bad account:

Dr. Allowance for Bad Debts

? ? Cr. ?Accounts Receivable

when credit customers eventually pay:

The Allowance Method: Reversing Written-off Receivables

Dr. Accounts Receivable

? ? Cr. Allowance for Bad Debts

Dr. Cash

? ? Cr. Accounts Receivable?

Estimate:

1.?As a Percentage of Credit Sales ?(matching+IS focus)

Amount of uncollectibles=a straight percentage of the current year’s credit sales.

Based on experience of prior years, modified for changes expected in current year.

Any existing balance in Allowance for Bad Debts is not considered

2. As a Percentage of Total Receivables ?(realizable+BS focus)

Amount of uncollectibles = a percentage of total receivables balance at period’s end.

Focus is on estimating total bad debts existing at the end of the period.

The ending balance in Allowance for Bad Debts is the amount of total receivables estimated to be uncollectible.

3. Aging Accounts Receivable ?(realizable+BS focus)

A more refined version of?% of total receivable method.

Based on how long receivables have been outstanding to estimate the ending balance in the Allowance for Bad Debts.

Each receivable is categorized according to age,?such as

Current

1-30 days past due

31-60 days past due, etc.

The total amount in each classification is multiplied by an appropriate uncollectible percentage

C. Analyze and management of Accounts Receivable

Assessing Management of Receivables

1. Accounts Receivable Turnover? ? 應收帳款周轉率

Accounts Receivable Turnover=Credit Sales/Average Accounts Receivable

Credit Sales=Net Sales on Account

Average Accounts Receivable=(Beginning of the year+End of the year)/2

為什么這是一個有效的衡量指標金赦？

Determines the number of times during a year a company is “turning over” or collecting its receivables.

Measure of how many times old receivables are collected and replaced by new receivables.

2. The Days to Collect A/Rs (Average collection period,?應收賬款平均收賬期)

Average Collection Period=365 days/Accounts Receivable Turnover

Converts A/Rs turnover into the number of days it takes to collect receivables.

For each dollar revenue, how long it takes the firm to collect the cash.

Balancing the desire to extend credit in order to increase sales with the need to collect cash quickly to pay the company’s bills.

3. Earning Manipulation through Bad Debt Expense

Overestimate:

? ? Years incurring huge loss

? ? CEO turnover - big bath

? ? Merger & Acquisition?

? ? Outside Negative forces

Underestimate:

? ? Loss Aversion

? ? Earnings growth

D. Cash Management & Internal Control

1. What is Internal Control?

a. Internal Control is an organizational plan and the?designed to accomplish the following:

Safeguard assets

Encourage employees to follow company policies

Promote operational efficiency related measures?

Ensure accurate, reliable accounting records

b.?Checklist of internal control:

Reliable personnel with clear responsibilities

Separation of duties makes it harder to collude?

Adequate documentation (source documents)?

Proper authorization for normal/abnormal transactions

Well-documented policies and procedures

Physical safeguards over items of value

Vacations and rotation of duties

Independent review of all systems

Cost-benefit considerations should apply

2. Internal Control of Cash

Bank Reconciliations????Daily Deposits????Purchase Approval ? ?Payment Approval?

Check Signatures????Pre-numbered Checks

Internal Control of Cash Receipts:

A mail room employee opens all mail and records the checks on a remittance advice.

The Treasurer is responsible for depositing the checks, documented with a deposit receipt.

The remittance advice goes the Accounting Department where is it recorded.

The Controller’s office matches the remittance advice and the deposit receipt.

Controls Over Cash Payments:

Bills are only approved for payment?by the accounting department when all the documents related to the transaction are matched together.

A payment voucher authorizes a check to be sent to the vendor.

Bank?Reconciliation:

A mathematical explanation of the difference between two numbers.

With a bank reconciliation, there is often a difference between the bank statement balance and the general ledger cash balance.

Process A:

Start with the Bank Balance at the end of the period

+?Add Deposits-in-Transit (DIT)

Cash you have collected from customers, but which has not yet been deposited

-?Deduct Outstanding Checks (O/S Checks)

Include ALL uncleared checks, even from previous periods

Adjust for bank errors

= Adjusted Bank Balance

Process B:

Start with the Book Balance at the end of the period

+ Add Bank Collections, Interest Revenue, and EFT Receipts

(Cash receipts not already on the books)

-Deduct Services Charges, NSF Checks,?and EFT Payments

(Cash payments not?already on the books)

Adjust for book errors

= Adjusted Book Balance?