 Hello and welcome to this session. This is Professor Farhad in which we would look at the revenue cycle. The revenue cycle is one of six cycles that we need to learn about whether you are a CPA candidate or an accounting information student or you are taken an audit course or studying for the CPA exam, the auditing section and those are the revenue cycle, the expenditure cycle, the financing cycle, production or manufacturing, HR and payroll, reporting and general and ledger. In this session we'll focus only on one session and this is the revenue cycle. We'll focus on the revenue cycle. So what is revenue? Just in case we don't know what revenue is, it's what the company does on a day-to-day basis to generate assets, usually a count receivable, then transfer that receivable into cash by either providing services or selling goods or both or either or or manufactured goods. Sometimes you could be a manufacturing company where you have to manufacture the goods first, like you have a production cycle, then the production cycle will feed into the revenue cycle and sometimes you're just a retailer and there is no production cycle, you basically buy and sell the material. Now revenue encompasses or touches many aspects of the company and we looked at this in the prior session when we looked at introduction to the accounting information cycle. Basically if we are a manufacturing company we have to start manufacturing the product, then the manufacturing process will send the items or will notify the revenue that the items are ready to be sold. The revenue cycle will help sell the goods and services and this is what we study the process in this cycle right here. Then the revenue will provide funding to the financing cycle, will provide information to the general ledger about the sales. Now bear in mind that the production cycle also gets information or data from the expenditure cycle such as the purchase of raw material comes from the expenditure cycle, operating expenses that's supported by the expenditure cycle and also the production process needs HRN payroll. So simply put if you notice HRN payroll feeds into the production, the expenditure cycle feeds into the production, the production cycle feeds into the revenue cycle, the revenue cycle finance the company and revenue cycle will send data to the general ledger and reporting. So if you notice practically the revenue touches every aspect of the company. Now it's very important to go back and review what we know from a journal entry perspective because in this session we're going to be focusing on the operating section but if we can go through some journal entries just to remember to refresh our memory it will make our life easy. First we make sales on account for example we sold 50,000 worth of goods and services and I'm going to assume we're selling on account receivable could be cash but we want to make the process a little bit more interesting. Debit account receivable credit sales. Now also if we manufacture the product or if we purchase it we're going to debit cost of goods sold and credit inventory this is for sale and if life is good we would receive the money we debit cash credit account receivable if life is perfect this is this is the whole revenue cycle we sell on account then we receive cash but that's not what really happens in the real world we might have sales return customers might return some items so we have to process the returns and at the end of the period if we still have receivables we know that we cannot collect 100 percent we have to estimate the bad debt and eventually we might have to also write off accounts so notice this is basically the revenue cycle from A to Z this is it now we're going to look at it from an operating perspective from an operating perspective the revenue cycle starts with the sales with sales order and ends with cash collection that's basically how it works I'm going to go ahead and break the sales process into seven steps the first step is actually receiving a sales order the second step is granting credit once we grant the credit we deliver or ship the goods or the services to the customers then we build the customer we invoice the customer then we process and record the cash receipts assuming we sold it on account and this is what we are assuming here then we process and record any sales return if any then we write out we write off accounts and estimate bad debt and remember basically this is basically the typical process now sometime you may have to write off an account before a sales return but to a great degree this is how it works now what I'm going to do in this session is identify the risks and control in each of these steps and so obviously we have seven steps and if you know anything about me I'm going to go ahead and put each step on a separate slide and identify the documents involved now I am not going to show you the documents involved whether it's a sales order, bill of lading, remittance advice what I suggest you do if you're not familiar just google it and see what the document would look like because it's going to make the learning easier before we proceed any further I have a public announcement about my company farhatlectures.com Farhat Accounting Lectures is a supplemental educational tool that's going to help you with your CPA exam preparation as well as your accounting courses my CPA material is aligned with your CPA review course such as Becker, Roger, Wiley, Gleam, Miles my accounting courses are aligned with your accounting courses broken down by chapter and topics my resources consist of lectures, multiple choice questions, true-false questions as well as exercises go ahead start your free trial today no obligation no credit card required starting with the sales order which is step one nothing will happen until we have a sales order well we're going to process the customer orders that customer order could come in via email telephone fax phone web application walk-in etc it doesn't matter we need the sales order we need to start the process so the document here is we have a sales order now the sales order should be pre-number pre-printed and accounted for what does that mean I'm going to keep repeating this pre-number it's good for reconciliation simply put if we know we have 100 sales order and of those 120 are used we know which 20 because we can identify them we know we have 80 remaining so we have to reconcile making sure the 20 that are used are appropriately used and we have 80 so we have to account for those that's what we mean by pre-numbered and pre-printed basically have the company name on it maybe sometime the product that we sell if it's a few product and basically maybe we can check those product this way it's pre-printed there's the quantity place price so on and so forth and accounted for or reconciled basically says at the end of the period make sure we account for everything to make sure whatever is not used is not being misused someone is not issuing sales order and we don't we cannot account for because everything have to be serial has a serial number think about your checkbook your checks are pre-numbered so this way you would know if you wrote a check if you have 100 checks and you wrote one you know you should still have 99 but if those checks are not pre-numbered you don't know how many you have you don't know which one are used with you don't know which one are not used so that's why it's very important to know the importance of the pre-numbered documents what departments are involved in this process well we're going to send one of the sales order we're going to send it to the shipping department one to the billing and one to the accounting now not I mean those sales order they're going to be approved first but the point is the sales order one it's going to go to shipping billing and accounting so more people are involved what are the risks in this process in this step the risk is completeness not all sales are processed some somehow we fail to process the whole sale or the existence of actual sales what if we are processing sales for fake customers to increase our sales those are the risks in this step the controls are verification of customer existence we want to make sure for example the customer submit some document for verification in the it section we'll talk about more controls such as field checks for example when the customer complete an order we want to make sure we have all the information you know the transaction doesn't go through until everything all the boxes are complete and the appropriate characters are included and this helps with the completeness test step one step two basically step one and step two are related because after we receive a sales order when now here we are assuming we are selling on credit the issue here is the customer approved for credit sales is the proper authority granting the credit because very important to only sell to credit to credit worthy and credit approved customers and customers that we want to deal with okay what documents are involved here approved sales order the sales order gonna turn into an approved one and who's gonna get this sales the sales department the inventory warehouse the shipping people the billing and inventory control and those are all to be discussed later now when I say these guys receive them in the prior on the prior slide basically what they're looking for for the approved for the approved sales order because if the sales order is not approved there's no sale therefore they don't receive any of it but the point I was trying to make let's assume it's approved that's why I mentioned them there what are the risks here the risk is selling to not credit worthy customers if we skip this step or if this step was not properly followed selling to customers without checking their credits that's could be a problem we could have the link what accounts accounts that we cannot collect we're gonna have problem collecting our money in the future this could affect our our valuation for the account receivable so how should you mitigate this risk segregation of duties people that issue the credits this should not be under the risks this should be under the control segregation of duties people that grant credit should not be people that make the sales because people that make the sales have every incentive to to approve your credit I remember when I was in college I used to work in a place called I'm not sure if it exists or not Baskoff's it's in Pennsylvania I'm not sure if it's another state it's a retail store and basically I used to work in the shoe department I would sell shoes and if I sold shoes I don't remember the commission was a two dollars or I don't remember oh no it was two dollars for every credit I open and there was a commission for the sales and I don't remember what it was but there was a commission for selling shoes okay they want you know they they will motivate you I don't remember I just I can't but I know from opening credit was two dollars so basically to open the credit obviously I wanted everyone to be granted the credit because I will get two dollars but if Baskoff's allow me to grant credit to everyone I have no risk I will grant them the credit get the two dollars and maybe they will buy the shoes they'll be an extra commission as well but the point is the people that approve the credit should not be the salespeople okay no and no sale should be made prior to credit approval you should have a policy where no sale every sale will have to go through a credit approval now this credit approval could be automated for example I remember at the Baskoff's or at stores these days if you go to to open a credit last time I was at Best Buy I was trying to buy actually a laptop and what they did is basically they they started the application and I filled everything on on a tablet just inputted my social security data birth my address and we waited and I was approved so I was approved obviously by a computer no one was there on the other end but the point is the credit approval does the the person that's selling cannot approve your credit that's the whole point and some companies what they do outsource the whole process use visa visa and credit card is basically outsourcing the credit process because you are you are letting visa the banks that's issuing the visa and the credit card worry about this credit approval process and taking the credit risk so this is the granting the credit now that's an important step shipping the goods assuming the the sales are approved now we ship the good now remember the shipping department or the shipping people they already have a sales order and an approved sales order just what we care about is the approved sales order remember that's prerequisite in other words they already have this so the inventory warehouse pulls the goods and forward them using something called a pick in pick in list now everything highlighted in yellow those are documents and this is what they're going to be testing you on to make sure you know what they are the picking list list of items to be picked and packaged now a company like amazon believe it or not and many of their warehouses a robot pick the items pick the items from the warehouse so the robot the whole process is automated okay and only the goods that belong to the sales order should be picked now the shipping person the shipping clerk prepares a packing slip again a pack there's a packing slip and a picking slip list of items to be shipped so basically they will just basically this this packing slip is coming from the sales approve order so this is basically a verification process now they look at the sales order they will prepare a packing slip make sure make sure the packing slip matches with the approved sales order matching with the picking slip match the sales order and the picking slip together then we prepare what's called bill of lading or lading now this is important this is the document then when you open your amazon box you will see it you will see something was shipped to you sent with the shipment it's basically a contract outlining the allocation of the responsibilities between the parties and here we could have oftentimes three parties the buyer the seller and the shipper the shipper could be like ups or or or some other party a united states postal service it could be any any company so a shipping company so that's the bill of lading the bill of lading is important because it has the date of the shipment which is it helps with the cutoff period when was the when did the sale took place and also depending on the terms of the sale whether it's fob shipping fob destination make sure you know what a bill of lading is now we ship the goods to the customers okay documents in this process are also pre-numbered pre-numbered and accounted for I know I don't have to tell you this I'm gonna keep saying this it's important now also billing and accounting would receive copies of these of these of the shipping which is picking packing and copy of the bill of lading that it we indeed ship the product now sometime this whole process is automated electronic shipping document may generate the related sales invoice and entries in the sales journal so this whole process and some companies could be automated what is the risk and in this step the risk is shipping the wrong product to the customer what is the controlled verification process like the shipping clerk verifying the picking list the packing list and the approved sales order or using technology such as barcode or RFID that make sure everything is matched properly because computer wants its program properly it should not make any mistakes that's the benefit of automated system now from the shipping once we ship the goods now we move to the billing and the accounting process here the billing and the accounting process should have a packing list bill of lading and approved sales order what did they do they match all three and prepare a multi-part invoice which is a sales invoice and they build the client now we have a new document sales invoice this sales invoice we the customer gets one and the accounting department will have one billing this process is important this this step because it's it has it does the matching of the shipping the order the invoice also check for arithmetic pricing discount so on and so forth here we want to make sure all shipment are billed there's a completeness everything is so if we have a shipping document we want to make sure we bill the client think about if we ship something and we don't bill the client that could happen no shipment has been no shipment has been billed more than once so we don't we don't want to ship the client more the client more than once occurrence it happened once no more than once and each customer is billed for the proper amount here we want to make sure we are accurate so that's why it's important in this step so an account receivable is created based on the matching documents received from the various sources and the sales journal is updated at this point the the goods are shipped and the customer is billed now we can tell the customer to pay us what are the risks here one of the risks I already mentioned you failure to build the customer we shipped it but somehow the paperwork are lost and let me tell you the customer is not going to call you for that okay or we build the wrong we build them for the wrong amount that could be a problem too and if we build them for the wrong amount sometimes the customers don't call if you under build them they're not going to complain about this what are the control process here reconciliation process make sure you are matching you are matching the approved sales order to the packing slip to the bill of lading everything is being matched everything is properly recorded reconciliation process after we build the client now it's time to receive the cash the risk here is theft the cash don't make it to the company what are the control here logbox system is an alternative or electronic fund transfer rather than receiving money let the customer send the money to a logbox system but for example to the bank and the bank will deposit the money immediately in the bank account and give us tell us who paid and will give them credit or electronic fund transfer it's easier here segregation of dues is very important for example if you are receiving checks in the mail well once the checks are received more than one person should open the mail they should be stamped immediately as as for deposit only okay and we want to encourage the customer to submit a remittance advice and usually we send them that and the customer send it back to us indicating how much they paid and if not us if not if no remittance advice is sent the person that opened the mail they should have a list of all the customer names that paid with the total the name and the total for the day and the cash should be separate so those two should be separate pre-list enough cash receipts prepare with someone with no record keeping responsibilities so people that list the names and have access to the cash should not have access to the record okay we verify that the cash was received then what we do we notify the accounting department the people that have access to the record to update the record of each account receivable from the names of these of the people that paid and the and update the general accounting now the cash goes to a cashier which have no accounting capabilities at this process remember people with access to assets should not have access to the records those two should always be separate so if we have the names of the people that pay that's fine and at some point we might also have access to the cash but we cannot change the record so we have access to the record we should not have access to the cash people that have access to the cash should have access to the cash should not be able to change the record someone else should change the record so the cashier will have access to the cash the account receivable can update the record always custody of assets and the record keeping those two should be separate okay in some textbook they call it arc you know asset and record keeping should be separate sales returns and allowances sometimes customers are not happy they would they would return the items if they do so the company should prepare a receiving report again pre-numbered or serially numbered for goods return and put them in storage if they're so long a chain they need to be inspected record the sales return allowances in the transaction file as well as in the account receivable update the account receivable for the customer don't build them again create a credit memo or issue a credit memo to make sure we have a record of what happened and to facilitate record keeping we gave the client a credit for that therefore we reduce their account receivable to support the reduction in the account receivable what are the risks in this step here fake returns people are not they're not really making a return someone is helping them giving them credit or theft simply put stuff are being returned we are writing it off in someone stealing it control segregation of duties people that have access to the assets that receive the asset you should not give them any incentive you should not give them record record keeping capability and opportunity to steal it therefore they have no incentive to do so segregation of duties is important automate the process have internal control cameras so on and so forth step seven in the in the in the process is writing off accounts and estimating but that and hopefully you don't want that to happen but that's part of the selling on credit in collectible authorization they should be all all serially numbered pre numbers every time we write off an account the appropriate party here can issue the credit or can and not the credit can issue the write-off based on the company's guidelines whatever those guidelines are but someone is following the guidelines and that person they have no incentive you don't give them the opportunity and incentive to be to be able to write off the account if they already made the sale made the sales themselves and they have access to the assets for example the guidelines could be if the customer is bankrupt over 180 days once it's turned to collection agency whatever our guidelines are they should follow the guidelines and companies cannot expect to receive 100% on older sales on credit that's important so what they have to do they have to comply with the matching principle this means you have to estimate that that at the end of each month at the end of each quarter and you have to update your general journal to make sure those figures are reflected what are the risks here again it's either theft on a personal level for the for the write-off of accounts you would write off the account and keep the money or overstating of assets your account receivable should be written down and you're keeping it control segregation of duties people that should be able to write off these accounts they should have no incentive you should not give them incentive or opportunity to be able to commit fraud and a regular review of account receivable a third person independent person should review account receivable on a regular basis to make sure our assets are not overstated what should you do now go to far hat lectures in work mcqs in the next session we would look at the other i believe would look at the expenditure cycle stay motivated good luck study hard the CPA exam is worth it and stay safe