Cash Collection Processes

(Study Objective 4)
Company‐to‐company sales are typically made on account, and a time span is given
for the customer to pay. An example of the credit terms of sale would be net 30. This
means the customer has 30 days after the invoice date to pay. Therefore, the timing
of a cash collection is such that there will be some number of days between invoice
date and collection of the cash. The actual number of days depends on the credit
terms of the sale and the diligence of the customer in paying on time. When the
customer sends a check, the company must have processes in place to properly han-
dle the receipt. The appropriate employees should match the check with the related
sales invoice, deposit the funds in a timely manner, and update customer and cash
records. Exhibit 8‐13 is a process map of a cash collection process. Exhibit 8‐14
shows a document flowchart of cash collection processes, and Exhibit 8‐15 shows
the cash collection processes in a data flow diagram (DFD).
Collections from customers typically include a remittance advice, which is the
documentation accompanying payment that identifies the customer account num-
ber and invoice to which the payment applies. An example of a remittance advice
can be seen on a paper‐based credit card statement. Part of the statement is meant
to be detached and mailed with the payment. This remittance that is returned ena-
bles the company to apply payment to the correct account. In the case of company‐
to‐company sales, a remittance advice identifies the invoice and customer account
number to which the payment should be applied. Exhibit 8‐16 shows the applica-
tion of a payment to the appropriate invoice. In Exhibit 8‐16, a check mark is placed
in the SVC3003 invoice box to apply the payment to that invoice.
For each check received, the customer’s payment must be matched with the
appropriate invoice or invoices. A list of all cash collections is prepared, and the
checks received are recorded in the cash receipts journal. A cash receipts journal is
a special journal that records all cash collections. The listing of collections is to be
forwarded, along with the payments received, to a cashier who prepares the bank
deposit. The payments are deposited in the company account, and customer records
and cash records must be updated.
At the end of the month, an updated statement of account will be prepared and
sent to the customer. This statement reflects the invoices that have been paid and
the decrease in the customer’s balance owed as a result of these collections. Also,
the bank will provide the company with a monthly statement so that the company’s
cash records can be reconciled to the bank records.

Risks and Controls in the Cash Collection

Processes (Study Objective 4, Continued)
We now turn our attention to specific internal controls and related risks associated
with cash collections from sales revenues. Some internal controls present within a
cash receipts process are as follows.

Authorization of Transactions
Appropriate individuals should be assigned responsibility for opening and closing
all bank accounts and approving bank deposits or electronic transfers of funds. This
ensures that records are updated only for authorized transactions.

Segregation of Duties
As you know, authorization duties (described previously) need to be kept separate
from recording and custody duties. Recording responsibilities include maintaining
a cash receipts journal, updating accounts receivable records for individual
 Mail Room Cash Receipts Billing Accounts Receivable Treasurer General Ledger

Receive bank
Receive Prepare cash Notify
statement and
payment receipts journal customers
reconcile

Yes

Prepare deposit, Match cash No Update

deposit cash and receipt with original Discrepancies? Discrepancies?
general ledger
checks received sales invoice

No

Update accounts Yes

receivable

Prepare monthly
statements and
send to customers

EXHIBIT 8‐13 Cash Receipts Process Map

 Accounts General
Mail Room Cash Receipts Billing Treasurer
Receivable Ledger

Customer From Copy of Bank

A
sales remittance
process advice
Remittance Remittance Remittance
advice A list Bank
advice
statement
Check Check Invoice Update
customer
records
Reconcile*
Prepare Prepare Match
Cash
daily deposit and documents
receipts
collections update cash journal Accounts Bank
report records receivable statement
Copy of subsidiary
Remittance Remittance list remittance ledger Bank
list advice reconciliation
2
Deposit slip 1 Remittance
advice Copy of Reconcile
Check remittance reports
Invoice advice
2 File
General
1
Monthly ledger
Bank
account
statement

File
File Customer

File

* Involves comparisons of remittance listings, deposit slips, and cash receipts journal with information reported on bank sta tement.

EXHIBIT 8‐14 Document Flowchart of a Cash Receipts Process

 Risks and Controls in the Cash Collection Processes (Study Objective 4, Continued) 275

1.0
Customer
Open Mail

2.0 Check Listing Cash

Update Receipts
Cash Receipts Journal

Deposit Slip
3.0 and Checks
Prepare Deposit Bank

Customer
Statement Bank
t
Statemen

4.0 5.0
Update Accounts Reconcile
Receivable Bank Statement
Check Listing

Customer
Accounts

Monthly Totals

6.0
Prepare Customer
Statements

7.0
General
Update
Ledger
General Ledger
EXHIBIT 8‐15 Cash Receipts Processes Data Flow Diagram

customers, and posting accounts receivable subsidiary ledger totals to the general
ledger. Custody responsibilities include opening mail, preparing a list of collections,
handling receipts of currency and checks, and preparing bank deposits. At a mini-
mum, those who handle cash should not have the authority to access the company’s
accounting records or reconcile the bank account. In addition, those with responsi-
bility for information systems programming or control should not also have access
to the cash or accounting records. Furthermore, anyone responsible for maintain-
ing detailed records for daily cash receipts or accounts receivable subsidiary accounts
should not also have access to the general ledger.
 Risks and Controls in the Cash Collection Processes (Study Objective 4, Continued) 276

EXHIBIT 8‐16 Applying a

Payment to an Invoice in
Microsoft Dynamics GP

Adequate Records and Documents

Cash receipts listings should be prepared on a daily basis, so the daily activity of
collections should be reconciled to supporting documentation from the bank
deposit. Bank deposit receipts should be retained and filed chronologically, and
regular, timely bank reconciliations should be prepared and retained. Detailed cus-
tomer accounts should also be maintained and reconciled with customer statements
regularly.

Security of Assets and Documents

Access to cash collections needs to be limited to those who are expressly author-
ized to handle cash. Controls over cash collections are likely the most important
control procedure, because cash is the asset most susceptible to theft or misappro-
priation. Because of the universal appeal of cash and the difficulty of proving
ownership, a company must take extra precautions to protect this asset. Cash col-
lections should be deposited in the bank in a timely manner to prevent the risk of
theft. Also, related computerized data files and programs must be protected from
unauthorized use.
 Risks and Controls in the Cash Collection Processes (Study Objective 4, Continued) 277

Independent Checks and Reconciliation

A physical count of cash needs to be conducted from time to time in order to com-
pare actual cash on hand with the amounts in the accounting records. To maximize
effectiveness, cash counts should occur on a surprise basis and be conducted by
someone not otherwise responsible for any cash receipts functions. Daily bank
deposits should also be compared with the detail on the related remittance advice
and in the cash receipts journal.
In addition, it is important that companies regularly reconcile their cash accounts
with the respective bank statements. Like cash counting procedures, a bank recon-
ciliation should be performed by someone who has no other responsibility for
handling cash or accounting for cash transactions. The bank statements should be
received directly by the person who prepares the reconciliation, to make sure it is
not altered by other company personnel. Among the bank reconciliation tasks are
procedures to ensure that deposits are examined for proper dates and that all rec-
onciling items are reviewed and explained.

Cost–Benefit Considerations
In addition to the need for tight controls over cash due to its susceptibility to theft,
the following circumstances may indicate risks related to cash collections:
1. High volume of cash collections
2. Decentralized cash collections
3. Lack of consistency in the volume or source of collections
4. Presence of cash collections denominated in foreign currencies
Companies often find that maximum internal controls are beneficial with respect to
cash collections, due to the great temptation that exists for those in a position to
steal cash and the high (and unrecoverable) cost of errors. Even a small company
will tend to find ways to segregate duties and implement a variety of internal con-
trols in order to protect its valuable cash. Exhibit 8‐17 presents typical procedures
used to control cash receipts and the risks that they help to reduce.
In wrapping up the discussion of revenue‐related accounting processes, it is
important to mention an additional issue that may impact the accounting records
related to cash collections for sales transactions. Namely, most companies have occa-
sional problems with customers who fail to pay, leading to the write‐off of accounts
receivable and the recording of an allowance for uncollectible accounts. Companies
should ensure that proper controls are in place to reduce risks related to transac-
tions involving uncollectible accounts. Specifically, responsibilities should be segre-
gated such that no one has the opportunity to write off customer accounts as a
cover‐up for stolen cash or inventory. In addition, since determining the amount of
an allowance for uncollectible accounts is very subjective, it is important that thor-
ough guidelines be established for this process. In order to properly monitor cus-
tomer payments and determine the amount of an allowance for uncollectible
accounts, an accounts receivable aging report should be generated to analyze all
customer balances and the respective lengths of time that have elapsed since pay-
ments were due.
 Risks and Controls in the Cash Collection Processes (Study Objective 4, Continued) 278

EXHIBIT 8‐17

Cash Receipts Controls and Risks

Control Minimizes the Related Risk of:
Authorization:
Designated person opens/closes bank accounts Invalid bank account or omitted transactions
Approval of cash receipt prior to bank deposit Invalid bank account or incorrect amounts
Segregation of Duties:
Separation of custody of cash from the responsibility for Invalid cash receipts, incorrect amounts, omitted
reconciling the bank accounts transactions
Separation of custody of cash from accounts receivable Invalid cash receipts or omitted transactions
record keeping
Separation of duties related to cash receipts journal Invalid transactions, incorrect amounts or accounts,
preparation, credit approval, inventory handling, information or omitted transactions
systems, and general accounting
Records and Documents:
Preparation of deposit slips on prenumbered forms Omitted transactions
Preparation of cash receipts journal and accounts receivable Invalid transactions, omitted transactions,
records only when cash has actually been received or timing issues
Preparation of customer account statements Wrong customers or incorrect amounts
Matching of key information on related documents Invalid transactions, wrong customer, incorrect amounts
(customers, dates, prices, and account codes) prior to or accounts, timing issues, or duplicate transactions
reducing customer accounts
Security:
Physical controls in areas where cash is received Lost or stolen cash receipts, invalid receipts, or omitted
transactions
IT controls over computer records and physical controls in Invalid receipts, omitted transactions, incorrect amounts
records storage areas or accounts, timing issues, accumulation issues,
or duplicate transactions
Cash receipts deposited in bank on a daily basis Lost or stolen cash receipts
Independent Checks and Reconciliations:
Cash counts and comparison of daily deposit with cash Invalid receipts, lost or stolen cash, omitted transactions,
receipts journal incorrect amounts or accounts, or timing issues
Preparation of bank reconciliation Invalid receipts, omitted transactions, incorrect amounts
or accounts, timing issues, or lost or stolen cash
Matching of remittance advice with cash receipts journal Invalid receipts, omitted transactions, incorrect
amounts, timing issues, or lost or stolen cash
Mathematical verification of cash receipts journal and Problems with the accumulation of transactions and
comparison with accounts receivable subsidiary ledger and transfer to the general ledger and financial statements
general ledger posting
 IT‐Enabled
Risks Systems
and Controls in of
theRevenue and CashProcesses
Cash Collection Collection(Study
Processes (Study4,Objective
Objective 5)
Continued) 279

IT‐Enabled Systems of Revenue and Cash

Collection Processes (Study Objective 5)
The previous section described the processes related to revenue transactions. In
addition to the activities that take place within those processes, there must also be
accounting systems to record, summarize, and report the results of the related trans-
actions. In the majority of organizations, the accounting information system consists
of hardware and software within IT systems. However, there is such great variety in
accounting software systems in terms of their size, complexity, and extent of auto-
mation that it is impossible to describe all of the various kinds of systems. In general,
as complexity and automation increase, there are fewer manual processes and more
computerized processes. This is also usually true regarding size: Larger IT systems
generally have fewer manual processes and more computerized processes. More
computerized processes means there would be a greater need for the type of IT
controls described in Chapter 4, and it generally means that there are fewer paper
documents within the process. As a simple illustration, consider two kinds of restau-
rants you might visit. A small, family‐owned restaurant might not use computers at
all, and the server may simply write your order on a pad. On the other hand, a large
restaurant chain might have a system completely based on computers, where servers
enter orders on the touch screen of a handheld device that transmits the order to
the kitchen. The family‐owned restaurant would have no need for computer con-
trols, while the restaurant chain would need many computer‐based controls.
The following section provides a description of a typical revenue processing
system and some specialized IT systems:
Exhibit 8‐18 is a system flowchart of a generic version of revenue system with
some paper documents. The system flowchart documents a system for company‐to‐
company sales. When the customer’s order is received, an employee enters it into
the IT system by keying the order into an input screen. With online data files, the
input data can be edited, the customer’s credit status can be reviewed, and inven-
tory levels can be checked. If the order does not exceed the customer’s credit limit
and the inventory items are available, the order can be processed.
Order processing updates the sales records and the customer’s account records.
The appropriate documents needed to fill and ship the order may be prepared.
These documents usually include a pick list, a packing slip, an invoice, and a bill of
lading. The pick list is used by warehouse personnel to select items from the ware-
house shelves. The packing slip is used by shipping personnel to ensure the correct
items are packed. The bill of lading is the agreement between the common carrier
(such as a trucking or rail transporter) and the company. The invoice is sent to
the customer.
Usually at the end of the month, customers are billed and regular monthly
reports are generated. Customers are billed according to the customer statement.
Regular monthly reports would include sales reports, inventory status reports, and
accounts receivable reports.
The general and application controls described in Chapter 4 should be used to
ensure the security, availability, processing integrity, and confidentiality of this IT
system. General controls include authentication of users, computer logs, physical
access controls, and business continuity planning. General controls to prevent
network break‐ins would be necessary if the system uses any network connections
to other systems. The application controls help ensure the accuracy and complete-
ness of processing. Input controls used in this system would likely include data
 E‐Business Systems and the Related Risks and Controls (Study Objective 6) 280

Customer
Order

Edit Data, Customer and

Check Credit and Inventory
Check Inventory Records

Process Sale and Sales and

Invoice, Packing Prepare Customer
List and Documents Records
Bill of Lading

Accounts
Bill Customer and Receivable
Prepare Reports and Inventory
Records

Accounts
Sales Inventory Customer
Receivable
Reports Reports Statements
EXHIBIT 8‐18 Revenue Reports
Processes System Flowchart

preparation and error handling procedures, programmed input validation checks,

and control totals. Well‐defined procedures for data preparation and error handling
can reduce the chance for mistakes in data entry into the system. The programmed
input checks, such as field checks, validity checks, limit checks, and reasonableness
checks, will help prevent or detect keying errors. If customer orders are entered in
batches, control totals can help ensure the accuracy and completeness of input
and processing. Output controls help to protect data through proper distribution,
storage, and disposal of reports.
The system depicted in Exhibit 8‐18 uses some manual processes, such as keying
of data, and some paper forms. More complex IT systems can reduce or eliminate
these manual processes and paper forms. For example, orders placed over the
Internet would eliminate manual keying by someone within the company. The cus-
tomer keys in the order while placing an order on the website. The sections that
follow describe some types of systems with fewer manual processes and paper forms.
In many companies today, sophisticated, highly integrated IT systems capture,
record, and process revenue and cash collection events. These IT systems are more
specialized than the generic system described earlier. Such systems include
e‐commerce systems, electronic data interchange (EDI) systems, and point of sale
(POS) systems. E‐commerce systems incorporate electronic processing of sales‐
related activities, and generally, e‐commerce sales processes are transacted over the
Internet. Electronic data interchange (EDI) systems communicate sales documents
electronically with a standard business format. Point of sale (POS) systems process
sales at a cash register in retail stores.
 E‐Business Systems and the Related Risks and Controls (Study Objective 6) 281

When implementing these types of IT systems, many companies

find that they must change the methods used to perform sales
and collections. As companies redesign these processes to align
with their software systems, they conduct what is known as
business process reengineering. Business process reengineering
(BPR) is the purposeful and organized changing of business
processes to make the processes more efficient. BPR not only
aligns business processes with the IT systems used to record
processes, it also improves efficiency and effectiveness of these
processes. Thus, the use of sophisticated IT systems usually leads
to two kinds of efficiency improvements. First, the underlying
processes are reengineered to be conducted more efficiently.
Second, the IT systems improve the efficiency of the related infor-
mation. As an example, Nortel Networks Corporation (formerly
known as Northern Telecom) found that EDI reduced its cost of
purchasing from approximately $80 per transaction when
paper‐based to $35 per transaction with EDI.1
Explanations of three types of IT systems are included in the
sections that follow, including e‐commerce, EDI, and POS systems.
Each of these systems greatly reduces or eliminates the
paper‐based documentation used in older manual or automated
systems. That is, these systems may eliminate the need for
paper‐based sales orders or paper‐based checks. In these IT systems,
information is transmitted electronically and payments are
collected electronically, not in paper documents. The elimination of
paper completely changes the audit trail and the internal
controls. Therefore, the sections that follow will describe the risks
and controls for these IT systems.