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Chapter 7 Reporting & Interpreting Sales Revenue, Receivables, and Cash

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Wilfrid Laurier University
James Moore

BU227Ch 7 ReportingInterpreting Sales Revenue Receivables Cash 2013ACCOUNTING FOR SALES REVENUERecall the revenue principle see p10 For sellers the criteria are often metsales revenue is recorded when titlerisks of ownership pass to the buyer The point when title changes hands is determined by shipping terms in the sales contract Revenues from goods sold FOB free on board shipping point are recognized at shipment Revenues from goods sold FOB destination point are recognized at delivery Service companies record sales revenue when they have provided the service Companies disclose specific revenue recognition rules in the note to their financial statements The appropriate amount of revenue to record is the cash equivalent sales price Methods to motivate customers to buy productsmake payments 1 allowing all customers to use credit cards to pay for purchases 2 providing business customers direct credit and discounts for early payment 3 allowing returns from all customers under specific circumstancesSales to consumers are for cash or credit card The seller accepts credit cards for many reasons1 Increasing customer traffic at its stores 2 Avoiding the costs of providing credit directly to customers for recordkeeping and bad debts 3 Lowering losses due to bad cheques 4 Avoiding losses from fraudulent credit card sales credit card company absorbs losses 5 Faster receipt of its money credit card receipts can be directly deposited in its bank account the seller receives cash payments faster than it would if it provided credita credit card discount is the fee charged by the credit card company for servicesSales Discounts to Businessessalescash discount cash discount offered to encourage prompt payment of an account receivable credit sales on open account dont have a formal written promissory note indicating amount owed If full amount of invoice is due in 30 days n30 nsales amount net of any sales returnsSales discounts encourage customers to pay faster and has 2 benefits to the firm 1 Prompt receipt of cash from customers reduces necessity to borrow money to meet needs 2 Since customers tend to pay invoices providing discounts first a sales discount also decreases the likelihood that the customer will run out of funds before the companys invoice is paidCompanies commonly record sales discounts taken by subtracting the discount from sales if payment is made within the discount period the usual caseBoth the purpose of and the accounting for sales discounts and credit card discounts are similar Both discounts provide good service to customerspromote faster receipt of cash thus reducing recordkeeping costs and minimizing bad debts Accounting for sales discountsappendix BInterest rate savedamount savedamount paidhow much customers save by using discountAnnual interest rateinterest rate saved x 365how much customers save yearly using discountSales Returns and Allowances a contra revenue accountSales returns and allowances reduction of gross sales revenues for return of or allowances for unsatisfactory goodsSuch returns are often accumulated in a separate account called Sales Returns and Allowances and must be deducted from gross sales revenue in determining net sales Because the expected product returns relate to sales made during the current year the company may estimate the potential sales returns for the year and establish a provision for sales returns based on historical experience current trends and other known factors BU227Ch 7 ReportingInterpreting Sales Revenue Receivables Cash 2013Reporting Net SalesCredit card discounts sales discounts and sales returns and allowances are accounted for separately to allow managers to monitor the costs of credit card use sales discounts and returns The amount of net sales reported on the income statement is computedCompanies rarely disclose the determinants of net sales in the annual report so it often is difficult to determine the effects of these items even for welleducated external users Gross profitgross marginnet salescost of sales Analysts often examine gross profit as aof net sales called gross profitmargin percentageGross Profit PercentageHow effective is management in selling goodsservices forthe costs to purchaseproduce themGross profit gross profitnet salesMeasures how much gross profit is generated from every sales dollar It reflects the ability to charge premium prices and produce goods and services at low costhigher gross profithigher profitCompanies pursuing a productdifferentiation strategy use research and development and product promotion to convince customers of the superiority of its productshigher gross profit Companies following a lowcost strategy rely on reducing costs to increase gross profit percentage assess the effectiveness of the companys product development marketing and production strategyTo assess the companys ability to sustain its gross margins you must understand the sources of any change in its gross profitAn increase in margin resulting from increases in seasonal sales of highmargin products is less likely to be sustainable than one resulting from introducing new products Higher prices must be sustained with higher researchdevelopment and advertising expenses which may reduce the operating and net profit substantially Thus if operating expenses do not decrease too a small decrease in gross profitcan lead to a large decrease in net profitMEASURING AND REPORTING RECEIVABLES Classifying Receivables in three common ways 1 Trade or nontrade receivables Trade receivables are open accounts owed to the business by trade customers It is created in the normal course of business when there is a sale of merchandise or services on credit A nontrade receivable arises from transactions other than the normal sale of merchandise or services Ex if the firm loaned money to employees to assist in the purchase of their first homes 2 Account receivable or a note receivable An account receivable is created when there is a sale of products and services on open account to customers or when a company expects to receive payments from other parties insurance A note receivable is a written promise made by another party to pay the company 2 things A a specified amount of money principal at a definite future date maturity date B a specified amount of interest charged for use of the principal at one or more future dateso Also classified as a financial asset reflecting the right to receive cash from debtors 3 Current or noncurrent in a classified statement of FP shortterm or longtermForeign Currency ReceivablesAs is the case with domestic sales to other businesses most export sales to businesses are on credit
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