REVENUE CYCLE SELF-TEST
A. REVIEW QUESTIONS (P. 197)
1. What document initiates the sales process?
The sales process is initiated with the receipt of a customer order that indicates
the type and quantity of merchandise desired. At this point, the customer order is not in a
standard format and may or may not even be a physical document.
2. Distinguish between a packing slip, a shipping notice and a bill of lading.
A packing slip and shipping notice are the two documents received by the
shipping department before the arrival of goods and the verified stock release document.
A packing slip is a document that will ultimately travel with the goods to the customer to
describe the contents of the order, while a shipping notice is a document forwarded to
the billing function as evidence that the customer’s order was filled and shipped. The
shipping notice also conveys pertinent new facts like the date of shipment, the items and
quantities actually shipped, the name of the carrier, and freight charges. Finally, a bill of
lading is a formal contract between the seller and the shipping company (carrier) to
transport the goods to the customer, and establishes legal ownership and responsibility
for assets in transit. In summary, the difference between the three documents are their
functions. A packing slip is used to describe the order, a shipping notice is an evidence of
filling and shipment of an order, while a bill of lading is a formal contract that establishes
legal ownership of assets in transit.
3. What function does the receiving department serve in the revenue cycle?
The receiving department is where the sales return process begins. This is where
personnel receive, count, inspect for damage, and send returned products to the
warehouse. A return slip is prepared by the receiving clerk, which is forwarded to the
warehouse for restocking and to the sales department for issuance of a credit memo.
4. The general ledger clerk receives summary data from which departments? What
form of summary data?
The general ledger clerk receives summary data from the billing and inventory
control departments, as well as, from the accounts receivable department.
Specifically, the summary data received from the billing and inventory departments are in
the form of journal vouchers, and the summary data received from the accounts
receivable department are in the form of an account summary. The general ledger clerk
reconciles the information and posts to the control account.
5. What are three authorization controls?
The three transaction authorization controls include credit check, return policy
and remittance list (cash prelist). Credit check entails ensuring the proper application of
the firm’s credit policies and the principal concern is the creditworthiness of the
customer. Return policy pertains to authorizing the processing of sales returns. Lastly,
the remittance list provides a means for verifying that customer checks and remittance
advices match in amount.
6. What are the three rules that ensure no single employee or department processes a
transaction in its entirety?
The first rule that ensures no single employee or department processes a
transaction in its entirety is ‘Transaction authorization should be separate from
transaction processing.’ This is because within the revenue cycle, the credit department is
segregated from the rest of the process, which is why formal authorization of a
transaction is an independent event. The importance of this is clear in the consideration of
the potential conflict in objectives between a person and the business. The second rule is
‘Asset custody should be separate from the task of asset record keeping.’ This means that
there is a need to separate asset custody from record keeping, because the physical assets
at risk in the revenue cycle are inventory and cash. The inventory warehouse has physical
custody of inventory assets, while inventory control maintains the records of inventory
levels. To combine these tasks would open the door to fraud and material errors. The
third and last rule is ‘The organization should be structured so that the perpetration of a
fraud requires collusion between two or more individuals.’ This means that recordkeeping tasks need to be carefully separated, because an individual with total recordkeeping, in collusion with someone with asset custody, is said to be in a position to
perpetrate fraud.
7. At which points in the revenue cycle are independent verification controls
necessary?
Independent verification controls are necessary at the three points. The first point
is during the time where the shipping function verifies that the goods sent from the
warehouse are correct in type and quantity. The stock release document and the packing
slip are reconciled first before the goods are sent to the customer. The second point is
during the moment the billing function reconciles the original sales order with the
shipping notice to ensure that customers are billed only for the quantities shipped. The
third and last point is when the general ledger function reconciles journal vouchers and
summary reports prepared independently in different function areas prior to posting to
control accounts. (The billing function summarizes the sales journal. The inventory
control summarizes changes in the inventory subsidiary ledger. The cash receipts
function summarizes the cash receipts journal. The accounts receivable summarizes the
AR subsidiary ledger.)
8. What is automation and why is it used?
Automation involves the creation and application of technology in order to
control and monitor the production and delivery of various goods and services, and
involves the performance of tasks previously performed by humans. Automation is used
in order to improve the efficiency and effectiveness of a task. It is used to achieve higher
production rates and increased productivity, more efficient use of materials, better
product quality, improved safety, shorter workweeks for labor, among others.
9. What is the objective of reengineering?
The objective of reengineering is to improve operational performance and reduce
costs by identifying and eliminating non value-added tasks. This means that traditional
procedures are replaced with procedures that are innovative and often very different from
those that previously existed.
10. Distinguish between an edit run, a sort run, and an update run.
An edit run or an edit program is the first run in the batch process. This validates
transactions by testing each record for the existence of clerical or logical errors. A sort
run is done at a point where the sales order file is in no useful sequence. The sort run
rearranges the sales order file by order of the secondary key – account number. Finally an
update run is done for various purposes. One is for AR update where the program posts
to AR by sequentially matching the account number key in each sales order record with
the corresponding record in the AR subsidiary master file. Another is for sort update
program which sorts the sales order file on the secondary key – inventory number. There
is also the inventory update program which reduces the quantity on hand field in the
affected inventory records by the quantity sold field in each sales order record. Lastly, is
the general ledger update run where the journal vouchers are sorted by general ledger
account number and posted to the general ledger in a single run, and a new general ledger
is created.
11. What are the key features of a POS system?
A point of sale system, or POS, is the place where a customer pays for products or
services in a store. Simply put, every time a customer makes a purchase in a store, they
are completing a point of sale transaction. A key feature of this system is it immediately
records both cash and credit transactions and the corresponding inventory changes. Other
key features of a POS system include maintaining no accounts receivable, keeping
inventory on the store’s shelves and not in a separate warehouse, and having customers
personally pick the items they wish to buy and carry them to the checkout location, where
the transaction happens.
12. How is the primary key critical in preserving the audit trail?
The primary key provides the link between the magnetic records stored on a
computer disk and the physical source documents as well as business events that they
represent. This ensures that system resources have not been harmed by hackers, insiders,
disgruntled employees, and technical problems that may arise.
13. What are the advantages of real-time processing?
Real-time processing has been shown to significantly reduce operational costs
while increasing revenues. Here are the advantages of real-time processing. First, it
greatly shortens the cash cycle of the firm. For instance, lags inherent in batch systems
can cause delays of several days between taking an order and billing the customer. These
lags can be reduced or eliminated by real-time systems with remote terminals, which can
permit same-day billing of customers.
Second, it can give the firm competitive advantage in the market. By maintaining
current inventory information, sales staff can determine immediately whether the
inventories are on hand. This enhances the firm’s ability to maximize customer
satisfaction, which translates into increased sales.
Third, clerical errors tend to be produced in manual procedures, like incorrect
account numbers, invalid inventory numbers, and price–quantity extension
miscalculations, which may not be detected in batch systems until the source documents
reach data processing. By this time, damage may have already been done. In real-time
processing, these errors are identified as they occur, which greatly improves the
efficiency and effectiveness of operations.
Fourth and last, the amount of paper documents in a system is reduced in realtime processing. The permanent storage of hardcopy documents can become a financial
and operational burden, as they are expensive to produce and clutter the system. Digital
documents are more efficient, effective, and adequate for audit trail purposes.
14. Why does billing receive a copy of the sales order when the order is approved but
does not bill until the goods are shipped?
This is because the billing before shipment encourages inaccurate record keeping
and inefficient operations. When the customer order is originally prepared, some details,
like inventory availability, prices and shipping charges are not known with certainty.
Billing for goods not yet shipped causes confusion, damages relations with customers,
and requires additional work to make adjustments to the accounting records. To prevent
such problems, this is why the billing function awaits notification from shipping before it
bills.
15. Why was EDI devised?
EDI was devised to expedite or to speed up routine transactions between
manufacturers and wholesalers, and between wholesalers and retailers. The customer’s
computer and the seller’s computer are directly connected through telephone lines. Every
time the customer’s computer detects the need to order inventory, it automatically
transmits an order to the seller. The order is then received by the seller’s system and is
automatically processed. In this system, there is little to no need of human involvement.
16. What types of unique control problems are created by the use of PC accounting
systems?
For instance, one employee may have the responsibility for entering all
transaction data, including sales orders, cash receipts, invoices, and disbursements.
Controlling the PC environment requires a high degree of supervision, adequate
management reports (such as detailed listings of all transactions), and frequent
independent verification.
Another is that PC systems generally provide inadequate control over access to
data files. Although some applications achieve modest security through password control
to files, accessing data files directly via the operating system can often circumvent this
control. Solutions for dealing with the problem include data encryption, disk locks, and
physical security devices.
Lastly, data losses that threaten accounting records and audit trails afflict the PC
environment. The primary cause of data loss is computer disk failure, wherein recovery
of data stored on the disk may be impossible. This threat may be reduced considerably
through formal procedures for creating backup copies of data files and programs. In the
mainframe environment, backup is provided automatically. Backup of PC data files relies
on a conscious action by the users, who too often fail to appreciate its importance.
17. In a manual system, after which event in the sales process should the customer be
billed?
A manual system is a bookkeeping system where records are maintained by hand,
without using a computer system. Instead, transactions are written in journals, from
which the information is manually rolled up into a set of financial statements. In a manual
system, the customer should be billed after the shipping notice is sent by the shipping
department to the billing department.
18. What is a bill of lading?
A bill of lading is a formal contract between the seller and the shipping company
(carrier) to transport the goods to the customer. This document establishes legal
ownership and responsibility for assets in transit. The bill of lading is a legally binding
document providing the driver and the carrier all the details needed to process the freight
shipment and invoice it correctly.
19. What document initiates the billing process?
The shipping notice is the document that serves as a proof that the customer’s
order was filled and shipped. This is the document that the billing function awaits before
it bills. This is the trigger document that initiates the billing process.
20. Where in the cash receipts process does supervision play an important role?
Supervision plays an important role in the mail room, which is a point of risk in
most cash receipts system. Here, the individual opening the mail has access to both the
cash (the asset) and the remittance advice (the record of the transaction). This opportunity
can be used to steal the check, cash it and destroy the remittance advice, thus leaving no
evidence of the transaction.
B. DISCUSSION QUESTIONS (P. 198)
1. Why do firms have separate departments for warehousing and shipping? What
about warehousing and inventory control? Doesn’t this just create more
paperwork?
The reason why firms have separate departments for warehousing and shipping is
because both are focused on different tasks. The main task of the warehousing
department is to offer appropriate space to stock merchandise safely from the elements.
While the shipping department focuses mainly on movement of inventory that is both
incoming and outgoing. The separation of the two assists in the segregation of duties, and
enhances the efficiency and effectiveness of handling assets during the revenue cycle.
The warehouse maintains the inventory section of inventory control, and the two
main approaches applicable for inventory control under emergency situations which are
reorder level policy and reorder cycle policy. Another key difference is that the
warehousing responsibility is separated from record-keeping functions. Keeping the
accounting records of the items in the inventory is the responsibility of the inventory
control department.
This does create additional paperwork, however this is considered as a minor and
a necessary cost for the added benefit of control over the inventory. This process
mitigates opportunities for theft and deception in the business.
2. Distinguish between the sales order, billing, and AR departments. Why can’t the
sales order or AR departments prepare the bills?
The sales order department’s function is to take the order from customers and
process it into a specific format. This department stores information like the name of
customer, address, a/c no, quantities and units of each product, discounts, etc. and helps
in determining the possible shipping date. The billing department is the one that
receives a copy of the sales order from the sales order department. As soon as it receives
the shipping notice and the stock release document, it then starts preparing the sales
invoice, which is the bill of the customer that charges them for shipping other than tax
and discounts. The AR department’s function is to receive the sales order from the sales
department and enter it into the accounts receivable subsidiary ledger. Upon receiving
payment suggestions, these will be noted down to the customer’s account in the accounts
receivable subsidiary ledger.
The sales order department should not prepare the bills as there could be chances
of collaboration with customers and a lower amount could be negotiated with them. AR
department should also not prepare the bills as billing could be postponed or amount
charged could be reduced by the department for the customers favored by the staff.
Finally, since both sales order and AR departments are in direct contact with customers, it
is appropriate that they are segregated from the billing function.
3. Explain the purpose of having mail room procedures.
These procedures are important because mail room procedure in relation with
cash receipts involves proper recording of cash and checks received from accounts
receivables which are sent through mails. The purpose of this procedure is to minimize
and reduce possible errors and frauds in relation with the received payment. The checks
received in payment for accounts receivable are a crucial asset for the firm. These checks
must be protected from individuals who might try to deposit these checks into their own
accounts. The process of having a member of the mail room personnel open the mail and
record all checks received before they are routed to the cashier or the accounts receivable
department is to ensure that the accounts receivable personnel do not engage in such
activities as lapping the accounts receivable accounts.
4. In a manual accounting system, what advantage does the journal voucher system
have over the traditional general journal system?
The function of the traditional general journal system is to record nonrecurring,
infrequent, and dissimilar transactions. General journals only have columns that are not
specific, which permit the recording of any type of transaction that are arranged not by
account, but chronologically. On the other hand, a journal voucher is a special source
document that contains single journal entries that specify what accounts are affected.
These are used to record summaries of routine and non-routine transactions which makes
it more convenient. Because of this, the need for the formal general journal is eliminated
by the journal voucher system.
5. How could an employee embezzle funds by issuing an unauthorized sales credit
memo if the appropriate segregation of duties and authorization controls were not
in place?
If the appropriate segregation of duties and authorization controls are not in place,
an employee may embezzle funds by generating debt under the name of someone else,
and steal/take the money for himself. An employee may also buy goods as this false
person, then consequently return the goods and issue a credit memo, and afterwards
eventually intercept the checks.
6. What task can the AR department engage in to verify that all customers’ checks
have been appropriately deposited and recorded?
An account summary, listing invoices and amounts paid by check number and
date, should be sent by the company to each customer periodically or perhaps monthly.
This form permits the customer to check and verify the accuracy of the records. In case
there are unrecorded payments, the company will then be notified by the customer of the
discrepancy. The accounts receivable clerk or the cashier should not handle these reports.
7. Why is access control over revenue cycle documents just as important as the
physical control devices over cash and inventory?
The reason why access control to the billing and accounts receivable records that
are part of the revenue cycle is just as important as the physical control devices over cash
and inventory, is because these records affect the collectability of an asset— accounts
receivable—which should eventually be converted into cash. In instances where these
records are not adequately controlled, inventory may not be ultimately converted into the
cash amount deserved by the firm.
8. How can reengineering of the sales order processing subsystem be accomplished
using the Internet?
With the advent of the internet, it has become much easier to transfer data. In
today’s generation, the internet has become an integral part of our everyday lives. In the
business context, the internet’s ability to quickly gather needed data greatly improves a
firm’s margin of error. Because of the rise of both technology and the internet, sales
processing can be done much faster. A customer can order products through the internet
as a medium and can receive a bill almost instantly. This reduces the rate of error of
businesses to oversell an item or have backorder items since the entire system would be
automated. Additionally, this would also lessen the overall cost businesses may possibly
incur due to such problems. Ultimately, the internet has been beneficial to both the
customers and the businesses for it has provided the latter with the power to process large
amounts of information in a matter of seconds.
9. What financial statement misrepresentations may result from an inconsistently
applied credit policy? Be specific.
Financial misrepresentations happen when the financial position of a company is
presented to be healthier than what is in actuality. This happens when the financial
figures of a business is manipulated, such that assets are overstated and/or liabilities are
understated. Credit policy pertains to how credit memos are sent to the customer by the
business. This may be because of defective or returned merchandise, and price changes.
A possible result of an inconsistent application of a credit policy is the overstatement of
accounts receivable. An overstatement of an accounts receivable, which is an asset, will
ultimately lead to the misrepresentations in the financial statements causing them to
appear higher than their actual value.
10. Give three examples of access control in a POS system.
One example would be to assign each sales clerk to a separate cash register for an
entire shift and give them a physical lock and key or a password for the cash register that
only they know, so as to prevent unauthorized access. Another would be having physical
security over the inventory such as steel cables to secure expensive leather coats to the
clothing rack; locked showcases to display jewelry and costly electronic equipment;
magnetic tags attached to merchandise that will sound an alarm when removed from the
store. Third example would be to have an internal cash register tape that can be accessed
only by the manager.
11. Discuss the trade-off in choosing to update the general ledger accounts in real time.
Real-time data processing involves continuous input and output of data. In realtime processing, information is always up to date. This gives the organization the ability
to take immediate action when responding to an event, issue or scenario in the shortest
possible span of time. However, there are also trade-offs in choosing this type of data
processing. Firstly, it’s more expensive and complex. Second, it is a bit tedious and more
difficult for auditing. Lastly, using real-time processing brings the need for
implementation of daily data backups and the necessity to ensure the retention of the
most recent data transaction. The decision to select the best data processing system is
dependent on the current system in your business, and whatever system suits your
business best should be chosen.
12. Discuss how the nature of the necessary internal control features is affected by
switching from a manual system to (1) a large-scale computer-based accounting
system or (2) a PC-based accounting system.
The separation of duties is the first internal control procedure that will be affected
when switching from a manual system to a more advanced system. It will be affected in
such a way that some jobs become irrelevant and new ones are opened. Because of this,
the need to change or reassign people in the business arises. Due to the changes in the
segregation of duties, changes also happen to other procedures such as the accounting
system access controls, physical audit of assets, and authority requirements. Finally, the
change in systems also affect financial documentation and periodic reconciliations.
13. Under what circumstances will automated mail room procedures provide the most
benefit? The least benefit?
An automated mail process is done using technology to digitize and automate the
classification and distribution of information or checks within an organization. The
benefits from this would be a reduction of paper costs, efficient data tracking,
rationalization of information, and most importantly, reducing the decision cycle which
then leads to improved customer service.
However, automated mailroom procedures also come with disadvantages. One
disadvantage is the elimination of paper trails which will be used to ensure the
verifiability of the information gathered. An automated system will also need much more
trained individuals to manage and operate, which translates to the incurrence of higher
costs.
14. What makes POS systems different from revenue cycles of manufacturing firms?
POS systems are different from manufacturing firms because in this system, the
customers literally have possession of the items bought, which means inventory is on
hand. POS systems are widely used in grocery stores, department stores, among others,
and only generally accepts cash, checks and bank credit cards, which means there is no
maintenance of customer accounts receivable. Unlike some manufacturing firms,
inventory is kept on the store's shelves, not in a separate warehouse. The customers
personally pick the items they wish to buy and carry them to the checkout location, where
the transaction begins. Shipping, packing, bills of lading, etc. are not relevant to POS
systems.
In manufacturing firms, the order is placed and the good is shipped to the
customer at some later time period. Thus, updating inventory at the time of sale is
necessary in point-of-sale systems since the inventory is changing hands, while it is not
necessary in manufacturing firms until the goods are actually shipped to the customer. In
manufacturing firms, the organization maintains customer accounts receivable and
inventory is kept in a separate warehouse.
15. Is a POS system that uses bar coding and a laser light scanner foolproof against
inaccurate updates? Discuss.
Although the use of a POS system with bar coding and a laser light scanner can
generate the most accurate records because of its ability to update inventory quantity on
hand in real time to reflect the items sold, it does not guarantee foolproofness against
inaccurate updates. This is because small discrepancies can still often exist due to errors
in making changes for the customers.
16. How is EDI more than technology? What unique control problems may it pose?
Electronic Data Interchange (EDI) is more than just technology, such that it
represents a business arrangement between the buyer and seller in which they agree, in
advance, to the terms of their relationship. One example is when they agree to the selling
price, the quantities to be sold, guaranteed delivery times, payment terms, and methods of
handling disputes. These terms are specified in a trading partner agreement and are
legally binding. Once the agreement is in place, no individual in either the buying or
selling company actually authorizes or approves a particular EDI transaction. In its purest
form, the exchange is completely automated.
There are unique control problems that EDI poses. One problem is ensuring that,
in the absence of explicit authorization, only valid transactions are processed. Another
risk is that a trading partner, or someone masquerading as a trading partner, will access
the firm’s accounting records in a way that is unauthorized by the trading partner
agreement.
17. Discuss the key segregation of duties related to computer programs that process
accounting transactions.
In computer programs, tasks that are segregated in manual systems are often
consolidated. An instance would be a computer application performing seemingly
incompatible tasks like inventory control, AR updating, billing, as well as general ledger
posting. Answers to the concerns that arise with regards to the integrity of these computer
programs lie in the quality of general controls over segregation of duties related to the
design, maintenance and operation of computer programs. Programmers who write the
original computer programs should not also be responsible for making program changes,
both of these functions should be separate from the daily task of operating the system.