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In: Accounting

Credit memos are created when a product is returned. Credit memos reduce A/R (accounts receivable) by...

Credit memos are created when a product is returned. Credit memos reduce A/R (accounts receivable) by crediting the account, and it writes off the invoice. This also records a debit to the Sales Returns and Allowances account. You have noticed that the A/R clerk has created an abnormally high number of credit memos. You also notice the inventory does not reflect the additional inventory resulting from the sales returns and allowances. What would you do, and how would you document your decision? How are the net sales for an accounting period determined? What purposes does the schedule of accounts receivable serve? What are the best ways to manage accounts receivables in your company?

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Expert Solution

What would you do, and how would you document your decision?

We can take the entire list of the credit memos and take a cumulative figure. Now the Company/Store would be operating at some Mark Up percentage. We can apply the same Mark up percentage on the credit memos amounts and derive the stock value (at cost) which should have been returned to us.

We can then compare the above amount with the additional inventory actually entered out of sales returns and allowances. If there is a negligible variance then it can be ignored, but if the variance is beyond a tolerance and seems unusual, then the above statement of analysis and comparison can be used as the documented evidence and required action been taken.

How are the net sales for an accounting period determined?

Net sales is arrived from the Gross sales after adjustments for Sale discounts, sale returns and allowances. It is computed in the Following manner:

Gross Sales                                                   XXXX

Less: Sales Returns & allowances           XXX

Less: Sales Discounts                                      XXX

Net Sales                                                      XXXX

What purposes does the schedule of accounts receivable serve?

A schedule of Accounts receivable is nothing but a list of all the customers along with the amount to be received from them. It is useful in the following manner:

  1. The schedule helps as a control since all the amounts of receivables from customers should tie up with the balance of the control accounts.
  2. The balances can be scanned to identify the huge amounts pending from customers who have not settled their accounts periodically. These customers can be followed up.
  3. Again there might be miscellaneous receivables balances (non customer receivables) which have been posted by mistake, interdepartmental or intra/intercompany accounts which have not been cleared/settled. The same can be identified directly from the schedule and treated accordingly.

What are the best ways to manage accounts receivables in your company?

Accounts receivable policies should be observed very closely, so that you neither end up being very liberal with customers leading to huge customer outstanding balances and neither too strict leading to loss of business.

The most important factor in boosting sales is the credit limit and the payment terms. Again this depends very much on the industry standards in which you operate and again on the business houses with which we deal with. Hence these two policies should be set up for each customer individually on the basis of sales volume, credit history, etc. There cannot be a common policy for all.

Next is to improve realisation from customers – to do this we need to offer all forms of payment options so that this does not become a bottle neck for a customer to make a payment. Different customers might have different preferred modes of payment and hence the more the number of mode of payment offered, the better is the realisation.

Again, there has to be a proper communication channel established with all customers to inform about the sales, the offers, the payment due amounts, the due dates, the overdue terms etc. All these communications make the customers aware about their dues and your credit terms which will help clear accounts receivables on time.

Again accounts receivables have to be monitored very closely to see if the amount of dues are increasing substantially or if there are amounts overdue from customers, etc. This may need a revision to the payment terms, credit limit and other credit policy for such customers.

Further the volume of returns and allowances should also be monitored closely to notice any inconsistencies. We should look for any sudden spike in volume of returns and allowances and analyse the same. Setting up metrics on the basis of historical data comes very useful in this regard.


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