The process of planning is an integral part of effective management. In this respect, consideration of revenue and collection cycles is used in different areas of business related to healthcare services and manufacturing. The focus of the present paper is the analysis of revenue and collection cycles as suggested in the seventh chapter of the book Auditing & Assurance Services by Louwers, Ramsay, Sinason, Strawser and Thibodeau. Though the revenue can include income received from manufacturing and selling goods and services, it is generally referred to as the overall amount of costs received from selling of goods and services, different dividends, and other ways of making costs.
Overall Audit Approach for the Revenue and Collection Cycle
As suggested by Louwers et al., the overall audit approach for revenue and collection cycle includes analysis and evaluation inherent risk and control risk (262). In other words, it is necessary to take into account the inherent risk existent in every business and control risk used as a benchmark to measure the problems that may potentially occur while managing different projects and maintaining the company. For instance, auditing standards can be used to monitor and assess the risk of different campaigns and deald with regard to auditing standards, standards of fieldwork, standards of reporting, and other standards of auditing activities suggested by Puncel (2.13-2.14).
Inherent Risks in the Revenue and Collection Cycle
Recognition of revenue is one of the integral elements of monitoring and assessment. As reported in the study by Puttick et al., “the main risk of significant misstatement (combined inherent risk and control risk assessment) are in the completeness and cut-off, occurrence, accuracy and classification of sales transactions, cash transactions” (617) and other aspects of the statement with regard to revenue recognition. Louwers et al. state that revenue recognition has two important features as it has to be either realized or realizable as well as earned (264-266). In other words, this should not be a hypothetical sum that was supposed to be earned.
Collectibility of Accounts Receivable
The accounts should be recognized by a special software system designed for accounts. However, the collectibility of accounts receivable should be taken into account by the company because it should collect the accounts to be paid and pay those in a timely manner. As the company may fail to plan the collecting of accounts activity, it should take measures to manage the accounts-paying process because it is an obligatory activity in every company. Inherent risks include bills (accounts receivable and their collectibility) due to the frequency of similar problems occurring in all companies in every field of business.
Customer Returns and Allowances
Returns and allowances are integral parts of the business that is based on manufacturing and trading. In this respect, some discounts and returns may be possible to attract more audience and develop loyalty. For instance, as suggested by Nikolai, Bazley and Jones, “a few defective items can be returned by customers” (324) in case when some problems occur and customers have noticed the defects and reacted in an appropriate way. The more problems occur, the more defective items can be returned due to defects. Every return and allowance influences the revenue and cut it to the extent of the primary level.
Revenue and Collection Cycle: Typical Activities
Receiving and Processing Customer Orders, Including Credit Granting
All accounts and credits influence the revenue of the company. In this respect, Louwers et al. suggest that this activity should be treated as one of the typical activities of the revenue and collection cycle (267). Moreover, customer orders should be received and processed in an appropriate manner because any mistake made in the process of filling out the order form can result in necessity of customer return and allowances made to sustain customer loyalty. Every inherent risk should be taken into account with regard to the influence on revenue and overall performance of the company.
Delivering Goods and Services to Customers
A specific system in receiving and processing of customer orders should be effectively combined with another system called delivering goods and services to customers. In other words, every mistake that occurs in the process of these to activities affects the customers, their perception of the company, and their readiness to purchase goods from this very company another time. So, every company should implement a software program to make the accounting system more reliable in term of receiving customer orders, processing of orders, and delivery of goods in accordance with the orders. Reliability of the program and company’s performance affect the customers’ perception and loyalty.
Billing Customers and Accounting for Accounts Receivable
As it was mentioned above, every company should take into account the reliability of bills, accounts, and orders made by customers because the slightest mistake can result in losses in terms of the revenue. “the net realizable value of the accounts receivable reported on a company’s balance sheet is usually the amount of cash the company expects to collect in its normal operating cycle” (Nikolai, Bazley and Jones 332). Though billing is not the whole process of gaining revenue, it affects greatly the revenue cycle because mistakes made in the process of billing and accounting for accounts receivable impact the overall performance of the company in terms of revenue as returns and allowances should be made, losses should be covered, and other activities should be performed.
Audit Evidence in Management Reports and Data Files
Analysis of effectiveness of the audit can be performed through the following methods: order master file which is used as the basis of the control, credit check files which serve as standards for control, and price list master file which is applied in the process of analysis (Louwers et al. 269-271). Moreover, such documents and material as sales analysis report, cash receipts listing, and trial balance of accounts receivable are used for effective auditing by companies that deal in the area of trading and deliver goods to their customers.
Control Risk Assessment
Control risk assessment is an effective instrument in analysis of effectiveness of auditing. As reported by Louwers et al., it is necessary to test all balance sheets and cut-offs due to problems that may potentially occur in these areas. Moreover, analysis of customer orders, accounts receivable, and timing of orders should contribute positively to the effectiveness of performance. As suggested by O’Reilly et al., it is necessary to “assess control risk at low and perform certain substantive tests directed at detecting misstatements that could have resulted from the unmet control objectives” (300). In other words, it is difficult to overvalue the importance of control and assessment of the situation on different stages.
Tests of Controls
The tests of controls contain the ones reported in the study by Louwers et al. including control of agreements with regard to invoices and customer orders, time and terms of delivery, and other peculiarities (273). Besides, scans of documentation should be performed to ensure that all documents related to orders and deliveries are gathered for ‘numerical sequence’ (Louwers et al. 273). Examination of orders, comparison of prices in the price list and in orders and invoices can help in detecting the slightest mistakes and misprints that may potentially influence the revenue cycle and overall revenue of the company.
Substantive Procedures in the Revenue and Collection Cycle
As a rule, analytical procedures includes those aimed at evaluating the effectiveness of performance of the company with regard to the previous periods and the effectiveness of performance contrasted to other representatives of the same industry. In other words, sales revenue, bad debt expense, and accounts receivable should be of primary focus while analysing the company with the help of analytical procedures. Turnover, days’ sales, and other aspects are standards for assessment during analysis.
Confirmation of Accounts and Notes Receivable
Confirmation of accounts is another substantive procedure in the revenue and collection cycle. As soon as the company receives confirmation on the order, it can deliver the goods in accordance with the terms agreed upon by the parties without being at a risk of bearing losses. In other words, positive and blank confirmations are more desirable than negative non-confirmations due to their value for the company and company’s performance. Non-confirmation is the situation that should have a specific plan for acting in case a non-confirmation occurs.
Alternative procedures are aimed at developing back-up plans for cases when analytical and other standard procedures do not perform effectively. In other words, all situations that require alternative procedures to be implemented can be considered non-typical. However, some companies apply those procedures on the regular basis. For instance, examination of shipping documents and inspection of correspondence files can be considered as examples of alternative procedures (Louwers et al. 281). Moreover, it is necessary to take into account the specialization of the company while suggesting certain procedures that can be irrelevant to its activities.
Review for Collectibility
Collectibility in terms of revenue and procedures that affect the revenue and collection cycle is related to customer order files and other documents that should be assessed with regard to the reliability and effectiveness of operation of the entire system. In other words, it is necessary to customer files are inspected for collectibility as well as allowance and bad debt expense are taken into account while investigating the collectibility of files and documents. Actually, this procedure is necessary to include the files mentioned above into the list of assessed one and optimise the process of accounting and auditing.
Cut-off and Sales Returns
Sales returns affect the revenue of the company as well as any unplanned situation with regard to the unmet objectives that result in losses and influence the results of the auditing. Such cut-off procedure as checking whether the accounting period on the order form coincides with the one indicated in the accounting balance sheet affects the effectiveness of the auditing process and makes it more reliable in terms of the information collected and processed.
Rights and Obligations
Rights and obligations of the company and its customers should be established with regard to the expectations, needs, and interests of both parties concerned meaning the company that delivers goods and customers that order and receive goods from this company. If the company claims to deliver products in time, it should do everything to observe the terms of delivery so that customers receive their products in a timely manner. In this respect, any delay may affect the terms of delivery and may result in customer return.
It is necessary to remember that auditing is an integral part of every company’s operation and can be used as a tool to investigate the gaps that may be existent in the company and improve the overall effectiveness of performance. In other words, the chapter “Revenue and Collection Cycle” in the book Auditing & Assurance Services written by Louwers, Ramsay, Sinason, Strawser and Thibodeau is a source that enables th readers to learn more about the stages of the accounting process with regard ot the importance of revenue and collection cycle details such as confirmation considerations, collectibility of account receivable, and other processes that contribute to the overall effectiveness of the company. Every file checked in the process of accounting and auditing can reveal the gaps and mistakes such as inappropriate timing of order forma and terms of shipment. Every mistake identified can be taken into account in future to optimise the delivery and improve the effectiveness of billing and delivering. Analysis of gaps results in more effective and appropriate responding to contemporary tendencies.
Louwers, Timothy, Robert Ramsay, David H. Sinason, Jerry Strawser, and Jay C. Thibodeau. “Revenue and Collection Cycle.” Auditing & Assurance Services. McGraw-Hill Companies, Inc., 2010. 261-307. Print.
Nikolai, Loren A., John D. Bazley, and Jefferson P. Jones. Intermediate Accounting. 11th ed. Mason, OH: Cengage Learning, 2009. Print.
O’Reilly, Vincent M., Patrick J. McDonnell, Barry N. Winograd, James S. Gerson, and Henry R. Jaenicke. Montgomery’s Auditing. 12th ed. Danvers, MA: John Wiley and Sons, 1999. Print.
Puncel, Luis. Audit Procedures 2008. Chicago, IL: CCH, 2007. Print.
Puttick, G., Sandy van Esch, S.D. van Esch, and Suresh Kana. The Principles and Practice of Auditing. 9th ed. Cape Town: Juta and Company Ltd, 2008. Print.