Notes on Cash Management and Accounts Receivable

Cash Management
  • Payment Timeframes: Cash purchases should be handled within three months from the date of purchase.
  • Internal Controls: Strong internal controls over cash are essential for financial integrity and are legally required for public companies. Auditors evaluate and provide opinions on these controls.
Key Principles of Internal Control
  • Separation of Duties: To prevent fraud, responsibilities should be segregated; no individual should handle cash and record cash transactions simultaneously. Good example:
    • Employee A opens the mail and lists checks received.
    • Employee B deposits these checks.
    • Employee C records cash receipts.
  • Authorization of Expenditures: Disbursing cash (e.g., via checks) should only be done with proper authorization, usually from a management-level individual.
Cash Management Practices
  • Cash that has restrictions on its use (e.g., set aside for future expansion or loan commitments) is classified as "restricted cash" and must be reported as such on the balance sheet.
  • Compensating Balances: A form of restricted cash required to be maintained by lenders as a condition of a loan.
Accounts Receivable Overview
  • Definition: Accounts receivable represents amounts owed by customers for sales on credit. It is a crucial tool for businesses to facilitate sales, especially in B2B relationships.
  • Terms of Sale: Standard payment terms may range from 30 to 120 days. Negotiations often lead to tailored terms depending on the customer.
  • Volume Discounts: Customers buying in bulk may receive trade discounts; cash (or sales) discounts encourage early payment, such as a 2% discount if paid within ten days (2/10 net 30).
Accounting for Discounts
  • Gross Method: Record sales at full value, and later deduct discounts when payments are made.
  • Net Method: Record sales at the expected amount after discounts from the outset. The net method is generally preferred for more accurate financial reporting.
Sales Returns and Allowance
  • Sales Returns: Businesses must estimate potential returns from sales to avoid overstating revenue. An allowance for sales returns is created at the time of sale based on historical return percentages.
  • Inventory Implications: Returned merchandise must also be accounted for, with adjustments made to both revenue and inventory accounts in the balance sheet.