This post covers a complete revenue recognition policies and procedures that you can actually apply into a business, a real business. This policies and procedures is designed to be applicable for any business from the small private business to the big-complicated corporate revenue circumstances at any stage: from the shipping procedure, billing procedure, matching billing and shipping log procedure, pricing review procedure, bill and hold procedure.
The following policies can be used to maintain a proper level of control over a company’s timely and consistent application of revenue recognition rules:
- Preliminary revenue summaries shall be issued no later than one day following the close of an accounting period. This policy is designed to prevent the accounting staff from artificially keeping the books open past the end of the reporting period, since it must commit to a specific revenue figure within a day of closing.
- Extended rights of return shall not be allowed. This policy limits the ability of the sales staff to engage in “channel stuffing,” since it cannot offer special rights of return to customers in exchange for early sales. The policy keeps a company from gyrating between large swings in sales caused by channel stuffing.
- Special sale discounts shall not be allowed without senior management approval. This policy prevents large bursts in sales caused by special price discounts that can stuff a company’s distribution channels, causing rapid sales declines in subsequent periods.
- The company shall not use bill-and-hold transactions. Though bill and hold transactions are allowable under clearly defined and closely restricted circumstances, they are subject to abuse, and so should generally be avoided. This policy ensures that bill-and-hold transactions would require board approval before being used.
- Estimated profits on service contracts shall be reviewed monthly. This policy ensures that estimated losses on service contracts are identified and recognized promptly, rather than being delayed until the contracts are closed.
- The company shall not engage in barter transactions whose sole purpose is the creation of revenue. This policy informs the accounting staff that it is unacceptable to create barter swap transactions whose sole purpose is to create additional revenue without the presence of any economic reason for the transaction.
- All expenses associated with barter transactions shall be recognized in the same proportions as related revenues. This policy is designed to keep expenses associated with barter swap transactions from being significantly delayed while revenues are recognized up front. The policy will keep profits from being incorrectly recorded in advance.
A key element of the revenue recognition process is consistent use of a procedure for processing shipments to customers, since this is the source of documents later used by the billing department to create invoices. The basic shipment processing procedure is as follows:
- Access the daily schedule of shipments in the computer system and print the report.
Verify that all finished goods listed on the daily schedule are on hand and available for shipment.
- If the required quantities are not available, contact the customer service staff to ascertain customer wishes regarding partial orders, or contact the production scheduling staff to ensure that the production department will complete the missing products as soon as possible.
- Mark all other items on the daily schedule as being ready for delivery.
- Using the daily schedule, remove all targeted items from the warehouse bins and relocate them to the shipping area.
- Contact freight carriers regarding scheduled pickup times.
- Prepare bills of lading and packing slips for all shipments.
- Load shipments on trucks for delivery.
- Complete the shipping log.
- Send copies of the bills of lading and packing slips to the accounting department by interoffice mail. Include a copy of the day’s shipping log, which should match all other documentation sent.
- Access the computer system and enter the customer, ship date, part number, and quantity shipped for each shipment sent out that day.
Once all shipping information has been compiled by the accounting department, its billing staff must convert this information into an invoice that is used to recognize revenue. The billing procedure is as follows:
- Receive the daily packet of shipping information from the warehouse manager. The paperwork should include a handwritten shipping log, as well as two copies of the bills of lading. Print the customer order from the computer system. Separate these documents into different piles.
- Verify that there is a bill of lading for every order listed on the shipping log, and also that all bills of lading are listed on the log. Then put the bills of lading in order, first by customer name and then by order number (if there is more than one order per customer), and match the order forms to them.
- Check the “carrier” column on the shipping log. There is no shipping charge if “customer pickup” is noted. Otherwise, if a carrier name is listed, calculate a freight rate based on the standard freight rate schedule. Note the amount of the freight charge on the order form.
- Go to the invoicing module in the accounting software and access the invoicing screen. Enter the customer name and verify that the Bill To name in the system is correct. If not, change it to match the name listed on the order. Then enter the part number, quantity, and price listed on the order form. Add the freight rate to the bottom of the invoice. Also verify that the sales tax code is correct. Save the invoice record and repeat until all invoices have been entered.
- Verify that the invoice form is correctly positioned in the printer. Run a test invoice if necessary to ensure that the form is properly aligned. Then print the daily invoice batch.
- Burst all printed invoices, with the pink copies going to the alphabetical filing bin, the white copies going to customers, and the goldenrod copies going to the numerical filing bin.
- Stuff the white invoice copies into envelopes and mail them to customers.
- Attach the pink invoice copies to the bills of lading, packing slip, and customer orders, and file them by customer name. File the goldenrod copies in numerical order.
Matching Billing to Shipping Log Procedure
Though the two preceding processes form the foundation of a revenue recognition system, it is also possible that various failings in the billing process will result in the under-recognition of revenue that is caused by shipments that are never billed. The following procedure is designed to detect these problems by comparing billing information to the shipping log:
- Go to the warehouse and make a copy of the shipping log for the previous week. Alternatively (if available), access this information online through the receiving system and print out the shipping log.
- Match the shipments listed on the shipping log to invoices issued during the same period. Note all exceptions in the shipping log for missing billings. Also, note on invoices any incorrect quantities that were billed, as well as “leftover” invoices for which there is no shipping record.
- Using the list of shipments for which there are no corresponding invoices, go to the shipping department and obtain bills of lading for the unbilled shipments. If these are not available, determine which freight carrier shipped the items and obtain shipping traces on them. Then create invoices, mail a copy to the customer, and attach proof of delivery to the company’s copy of the invoice. File the company’s copy in the accounting files.
- Using the list of invoices for which no corresponding shipment is recorded in the shipping log, go back to the company’s copy of these invoices and see if there is any bill of lading or other proof of delivery attached to the invoice. If not, call the shipping department to verify that no such documentation exists there. If not, issue a credit to eliminate these invoices.
- Using the list of invoices for which the quantity of product billed is different from the quantity shipped, go back to the company’s copy of the invoice and check the attached bill of lading to determine the actual quantity shipped. If the quantity is different, verify this with the shipping department and then either issue a credit (if the quantity billed was too high) or an additional invoice (if the quantity billed was too low).
Pricing Review Procedure
It is also possible (if not likely) that some invoices will contain pricing errors, which will result in improper revenue recognition. The following procedure is designed to detect these errors:
- Go to the accounting software and access the invoice register for the past month.
- Convert the invoice register to an Excel file. Open the Excel file and sort the invoice list by dollar order. Delete all invoices from the list that do not have a credit balance.
- Search the description field for each credit for wording regarding corrections of pricing errors. Retain these records and delete all others. Print the spreadsheet.
- Transfer the following information to a separate spreadsheet report: credit number, credit amount, customer name, correct price, actual price charged, the quantity of product to which the correction applies, the grand total pricing error, and the initials of the customer service person who processed the credit.
- Go to the customer service person who processed the credit and determine the cause of the pricing error. Include this information on the spreadsheet.
- Print the spreadsheet and distribute it to the sales manager, controller, and chief operating officer.
- Enter the total number of pricing errors and the total dollar error in the monthly corporate statistics report.
A common tool for reporting excessively high revenue levels is to bill customers for shipments that the company has not yet shipped, ostensibly because the customer has requested that the goods be kept in storage at the company’s location. However, some of these “bill-and-hold” transactions are valid, but present invoicing challenges because there is no product shipment to trigger a billing. The following procedure can be used to ensure that revenue is properly recognized:
- Access the warehouse database on a specific recurring date and call up the report listing all bill-and-hold items currently in stock. Take the report to the warehouse and verify that all items listed on the report match what is in stock, and also trace all items in stock back to the report. Investigate any variances.
- If the invoice number associated with each bill-and-hold item is not already listed in the report, retrieve this information from the file containing the last period’s bill-and-hold transactions. Compare this information to the validated warehouse report and note any items that have not yet been billed.
- For all bill-and-hold items not yet billed, print the Acknowledgment of Bill-and-Hold Transaction form and fax it to the authorized customer representative, with a request that it be signed and sent back.
- Once the signed form has been received, verify that all signature spots have been signed. Then attach a copy of the customer’s purchase order to the form, copy both, and send them to the billing staff for invoicing. Put the originals in a pending file.
- Once the accounting staff creates the invoice, it will return an invoice copy. Attach this copy to the signed form and customer purchase order, staple them together, and file them by customer name.
- When bill-and-hold items are eventually shipped to the customer, the warehouse staff removes them from the inventory database and sends the bill of lading to the accounting person handling the bill and hold transactions. This person removes the transaction’s previously filed invoice packet from the files, attaches to it the bill of lading, and forwards the complete package to the billings staff, which then files the packet in the completed invoices file.
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