Sunday, May 6, 2012
Final Grades Posted
I've submitted grades in WebAdvisor - you should be able to view them when the next update happens (which I think is midnight but I'm not sure).
Saturday, May 5, 2012
Final Exam Scores and Moodle
I've posted your final exam scores to the Moodle gradebook. The average was 81%, and the SD was about 8%.
Also, the Moodle gradebook is completely updated - I will be assigning grades tomorrow (Sunday) evening. If you have a question about something in the gradebook, then let me know ASAP. Note that the total points field seems to be wrong for some people, so to get your grade you should just add across and divide by 465.
Good luck on all of your other finals!
Also, the Moodle gradebook is completely updated - I will be assigning grades tomorrow (Sunday) evening. If you have a question about something in the gradebook, then let me know ASAP. Note that the total points field seems to be wrong for some people, so to get your grade you should just add across and divide by 465.
Good luck on all of your other finals!
Wednesday, May 2, 2012
I'm always looking to stay in touch with my former students, and look forward to seeing you all progress in your careers. If you want to stay in contact - find me on LinkedIn...
Monday, April 16, 2012
Access Controls
I've posted a new file titled SP12 Van Houten Access Controls that you need to be able to complete Phase 2 of the flowcharting project. Enjoy!
Tuesday, April 3, 2012
Fun reading for Easter Break
We are going to start talking about Fraud quite a bit - here is an article from the most recent issue of Internal Auditor magazine that you might find interesting.
April 2012 Feature
April 2012 Feature
Class Wed 4/4
As discussed in class yesterday, class tomorrow (Wednesday 4/4) will be replaced by a video lecture to be posted to Moodle. Also, you will need to email me your response to question 2 from the segregation of duties exercise by the time class starts on 4/11.
Have a nice Easter break!
Have a nice Easter break!
Friday, March 23, 2012
Flowcharting Team Assignment
Please tell me who you will be pairing up with for the flowchahrting project by Wednesday, March 28. After that, I will assign a partner for you.
Midterm #2 Grades Posted
The scores for Midterm #2 are now in the Moodle Gradebook. The average for the course was 75.6, and the standard deviation was 11.1. This puts the A- cutoff at about 87, and the C- cutoff at about 64.
I also put in your Wiley Plus scores, so everything is current as of now.
I also put in your Wiley Plus scores, so everything is current as of now.
Tuesday, March 20, 2012
Summary Catch Up (Midterm 2) Part 3
The next major step is receiving, which involves physical receipt of incoming shipments and deciding whether to accept them, inspection, and issuance to their final destination.
When items come in, it is going to be important for a receiving clerk to validate that we did in fact order these items. They are probably going to want to examine the packing slip that accompanies the order, and compare the purchase order reference to something called an open purchase order report. One thing to note is that the open purchase order report will likely omit the quantity ordered, because we want to receiving clerk to perform a fair count of the incoming receipt. If there is a problem, then they are going to need to contact the buyer to resolve the problems. If the order is accepted, then the receiving clerk will complete a receiving report, which documents the details of the receipt. This is going initialed or signed by the receiving clerk, and forwarded on to the accounts payable department as evidence of what we got.
A more detailed inspection may take place on a sample basis for stuff that goes into our products. For example, a computer manufacturer may test a sample of microchips received to validate that they are working. Problems often happen in groups of production, so if one fails, it will likely fail for others in the group.
The last primary step within the expenditure cycle is cash payments, or accounts payable. In this step we are looking to approve vendor invoices, and actually issue payment. When we say “approve” invoices, we are not saying anything about the purchase itself, we are just simply validating that it is OK to pay the particular invoice. This will typically be done by someone in accounts payable, who will look to complete the “three-way match” between the invoice (with price x quantity), purchase order (to validate price), and receiver (to validate quantity).
There are two ways to process vendor invoices – a non-voucher system where we pay as invoices are received (similar to the open invoice method from the revenue cycle), and a voucher system (similar to the balance forward method from the revenue cycle), where we issue payment for a group of invoices from the same supplier in one payment. The “voucher” is the document that authorizes the payment, and articulates the different account numbers that will be hit.
The actual payment of the invoice is done by the cashier, who reports to the treasurer after approval by an accounts payable clerk. The A/P clerk will usually forward a voucher package (containing the documents highlighting the 3-way match) as evidence.
Remember that a vendor invoice contains no new information, and the invoicing process can be skipped entirely under certain conditions. This is known as evaluated receipts settlement (ERS) or the “2-way match”. ERS is something that requires a fairly sophisticated accounting system, and is something that has to be agreed upon between supplier and customer as the way they will handle payments. When ERS is utilized, the invoicing process is skipped, and the customer remits payment at the PO price x the received quantity after an agreed # of days (usually 30 days).
When items come in, it is going to be important for a receiving clerk to validate that we did in fact order these items. They are probably going to want to examine the packing slip that accompanies the order, and compare the purchase order reference to something called an open purchase order report. One thing to note is that the open purchase order report will likely omit the quantity ordered, because we want to receiving clerk to perform a fair count of the incoming receipt. If there is a problem, then they are going to need to contact the buyer to resolve the problems. If the order is accepted, then the receiving clerk will complete a receiving report, which documents the details of the receipt. This is going initialed or signed by the receiving clerk, and forwarded on to the accounts payable department as evidence of what we got.
A more detailed inspection may take place on a sample basis for stuff that goes into our products. For example, a computer manufacturer may test a sample of microchips received to validate that they are working. Problems often happen in groups of production, so if one fails, it will likely fail for others in the group.
The last primary step within the expenditure cycle is cash payments, or accounts payable. In this step we are looking to approve vendor invoices, and actually issue payment. When we say “approve” invoices, we are not saying anything about the purchase itself, we are just simply validating that it is OK to pay the particular invoice. This will typically be done by someone in accounts payable, who will look to complete the “three-way match” between the invoice (with price x quantity), purchase order (to validate price), and receiver (to validate quantity).
There are two ways to process vendor invoices – a non-voucher system where we pay as invoices are received (similar to the open invoice method from the revenue cycle), and a voucher system (similar to the balance forward method from the revenue cycle), where we issue payment for a group of invoices from the same supplier in one payment. The “voucher” is the document that authorizes the payment, and articulates the different account numbers that will be hit.
The actual payment of the invoice is done by the cashier, who reports to the treasurer after approval by an accounts payable clerk. The A/P clerk will usually forward a voucher package (containing the documents highlighting the 3-way match) as evidence.
Remember that a vendor invoice contains no new information, and the invoicing process can be skipped entirely under certain conditions. This is known as evaluated receipts settlement (ERS) or the “2-way match”. ERS is something that requires a fairly sophisticated accounting system, and is something that has to be agreed upon between supplier and customer as the way they will handle payments. When ERS is utilized, the invoicing process is skipped, and the customer remits payment at the PO price x the received quantity after an agreed # of days (usually 30 days).
Monday, March 19, 2012
Summary Catch Up (Midterm 2) Part 2
The expenditure cycle includes all of the things a company does to interact with it’s suppliers, basically buying things and paying for them.
The revenue cycle’s cast of characters is organized in two primary categories. Operations take care of placing orders and processing receipts, and Finance/Accounting pays the bills.
There are four primary steps within the expenditure cycle:
Planning
Ordering
Receiving
Cash payment (A/P)
Planning involves all of the things the company does to set up the structure of their purchasing function. These aren’t things that are dealt with on a daily basis, but the framework needs to be there. The steps including selecting an inventory control method, identifying key commodity groups, negotiating supplier contracts, and monitoring vendor performance.
The choices for an inventory control method are economic order quantity (EOQ), just-in-time (JIT), or materials requirements planning (MRP). EOQ is the traditional approach to managing inventory, which entails examining a host of factors such as lead times and carrying costs to identify a re-order point when inventory gets too low. Just-in-time inventory is based on the idea that it is costly to maintain inventory – working capital is tied up in things we aren’t directly using, and we have to have a warehouse to put things in. Why not just buy things as we need them, and have them delivered to a specific location just in time? It can work really well, but requires you to do business with very reliable suppliers. MRP is used when production is done according to a schedule, and is most common for projects that take a long time to finish like a building or an airplane. An MRP system coordinates purchases so that things arrive right when a particular task comes up on the schedule.
We also want to identify the different commodity groups that we buy from. This allows buyers to specialize on a particular type of product so they develop some expertise. For example, an aircraft manufacturer might have some buyers focusing on raw materials such as steel and composite material, while others focus on technical avionics systems. These are very different types of purchases, so it makes sense to specialize.
We also want to negotiate supplier contracts at the company wide level to take advantage of purchasing power. It is very important to make sure these contracts get communicated company wide, so that they are used.
The last step in planning is establishing a framework for monitoring vendor performance. This involves thinking about what is important to the company, and coming up with a way to incorporate those factors into a score, which is usually a weighted average. Things that may play into this might be quality (important for a high-end manufacturer), price (important for low-cost provider), or timeliness (important for anyone using JIT).
The second primary step in the expenditure cycle is ordering, which involves completing purchase requisitions, completing purchase orders, and coordinating the procurement card program.
When ordering, it is important to remember that not everyone in an organization is allowed to go out and make big purchases in the name of the company. This privilege is delegated to individuals called buyers. However, needs for purchases arise from all over the company, and they way that individuals notify buyers about their needs is through completion of a purchase requisition. Purchase requisitions tell buyers what people need, where they should be delivered, etc. They also include a G/L account number to be charged, and should prove that the purchase is authorized by the requesting individual’s department. Buyers aren’t in the business of saying we should or shouldn’t buy something – they just go make the purchase. The department is the party that is going to know whether something should be bought or not, which is why they do the approval.
Once the requisition process is complete, then buyers can start the order placement process. This is going to involve getting bids, selecting a supplier, updating the inventory master file, and completing a purchase order.
Getting bids can be formal or informal. For a large purchase, the buyer may initiate a formal request for proposal (RFP) process, where they invite prospective suppliers to submit written bids showing what they can do. For less significant purchases, the buyer may choose to rely on Internet quotes or a few phone calls.
After selection, the buyer will need to update the inventory master file so that a) we have a way to account for the product, and b) we can document the vendor selection process so that we don’t have to do it again in the near future. Use of a vendor master file can be helpful (similar to what we saw how the customer master file is used in the revenue cycle) to store demographic information about suppliers.
The document to execute a purchase is known as the purchase order – it is a contract to purchase, and a promise to pay. Sometimes companies will issue “blanket” purchase orders to buy a large amount of material over a long time horizon, and then “release” against the blanket order any time they need something. This is nice for both the buyer and the supplier – it helps reduce buyer’s uncertainty about raw material sources, and it helps the supplier plan out their capacity.
Procurement cards are company credit cards that are used to make small purchases. Given that the major cost driver of the ordering function is the number of purchase orders processed, this can greatly reduce the number. Another strategy involves the use of reverse auctions, which is kind of like ebay in reverse where potential buyers go to an auction website and say what they would like to buy, and then potential suppliers bid on the work, with the low cost supplier winning the business. It is best in environments where the product is a commodity (like gas, lumber, etc.) where it really doesn’t matter who you buy from because the product is the same.
The revenue cycle’s cast of characters is organized in two primary categories. Operations take care of placing orders and processing receipts, and Finance/Accounting pays the bills.
There are four primary steps within the expenditure cycle:
Planning
Ordering
Receiving
Cash payment (A/P)
Planning involves all of the things the company does to set up the structure of their purchasing function. These aren’t things that are dealt with on a daily basis, but the framework needs to be there. The steps including selecting an inventory control method, identifying key commodity groups, negotiating supplier contracts, and monitoring vendor performance.
The choices for an inventory control method are economic order quantity (EOQ), just-in-time (JIT), or materials requirements planning (MRP). EOQ is the traditional approach to managing inventory, which entails examining a host of factors such as lead times and carrying costs to identify a re-order point when inventory gets too low. Just-in-time inventory is based on the idea that it is costly to maintain inventory – working capital is tied up in things we aren’t directly using, and we have to have a warehouse to put things in. Why not just buy things as we need them, and have them delivered to a specific location just in time? It can work really well, but requires you to do business with very reliable suppliers. MRP is used when production is done according to a schedule, and is most common for projects that take a long time to finish like a building or an airplane. An MRP system coordinates purchases so that things arrive right when a particular task comes up on the schedule.
We also want to identify the different commodity groups that we buy from. This allows buyers to specialize on a particular type of product so they develop some expertise. For example, an aircraft manufacturer might have some buyers focusing on raw materials such as steel and composite material, while others focus on technical avionics systems. These are very different types of purchases, so it makes sense to specialize.
We also want to negotiate supplier contracts at the company wide level to take advantage of purchasing power. It is very important to make sure these contracts get communicated company wide, so that they are used.
The last step in planning is establishing a framework for monitoring vendor performance. This involves thinking about what is important to the company, and coming up with a way to incorporate those factors into a score, which is usually a weighted average. Things that may play into this might be quality (important for a high-end manufacturer), price (important for low-cost provider), or timeliness (important for anyone using JIT).
The second primary step in the expenditure cycle is ordering, which involves completing purchase requisitions, completing purchase orders, and coordinating the procurement card program.
When ordering, it is important to remember that not everyone in an organization is allowed to go out and make big purchases in the name of the company. This privilege is delegated to individuals called buyers. However, needs for purchases arise from all over the company, and they way that individuals notify buyers about their needs is through completion of a purchase requisition. Purchase requisitions tell buyers what people need, where they should be delivered, etc. They also include a G/L account number to be charged, and should prove that the purchase is authorized by the requesting individual’s department. Buyers aren’t in the business of saying we should or shouldn’t buy something – they just go make the purchase. The department is the party that is going to know whether something should be bought or not, which is why they do the approval.
Once the requisition process is complete, then buyers can start the order placement process. This is going to involve getting bids, selecting a supplier, updating the inventory master file, and completing a purchase order.
Getting bids can be formal or informal. For a large purchase, the buyer may initiate a formal request for proposal (RFP) process, where they invite prospective suppliers to submit written bids showing what they can do. For less significant purchases, the buyer may choose to rely on Internet quotes or a few phone calls.
After selection, the buyer will need to update the inventory master file so that a) we have a way to account for the product, and b) we can document the vendor selection process so that we don’t have to do it again in the near future. Use of a vendor master file can be helpful (similar to what we saw how the customer master file is used in the revenue cycle) to store demographic information about suppliers.
The document to execute a purchase is known as the purchase order – it is a contract to purchase, and a promise to pay. Sometimes companies will issue “blanket” purchase orders to buy a large amount of material over a long time horizon, and then “release” against the blanket order any time they need something. This is nice for both the buyer and the supplier – it helps reduce buyer’s uncertainty about raw material sources, and it helps the supplier plan out their capacity.
Procurement cards are company credit cards that are used to make small purchases. Given that the major cost driver of the ordering function is the number of purchase orders processed, this can greatly reduce the number. Another strategy involves the use of reverse auctions, which is kind of like ebay in reverse where potential buyers go to an auction website and say what they would like to buy, and then potential suppliers bid on the work, with the low cost supplier winning the business. It is best in environments where the product is a commodity (like gas, lumber, etc.) where it really doesn’t matter who you buy from because the product is the same.
Friday, March 16, 2012
WCGW Exercise Videos
I've posted videos that walk you through the solution to the WCGW grid questions in your walkthrough packet to Moodle. They are available underneath the Midterm #2 resources.
Summary Catch Up (Midterm 2) Part 1
Continuing on with our discussion of the revenue cycle, next is shipping, which is best done by someone outside of the warehouse. If the shipping clerk thinks everything is OK, they remove the items from on-hand inventory, and print out the two main shipping documents, a packing slip and a bill of lading. The packing skip authorizes the shipment for final release of the finished goods, and it communicates to the customer what is in the box. The bill of lading identifies responsibilities for the item while it is in transit with a 3rd party delivery company, which is really important for revenue recognition purposes.
Shipping needs to send a copy of the bill of lading (or packing slip if there isn't one) to the billing department so that the invoicing process can start. Invoicing is done by taking the price and term details from the sales order, and quantities from the bill of lading. We also walked through an alternative approach to invoicing that is known as evaluated receipts settlement (ERS), where companies agree on an arrangement with their customers that they won't send out invoices at all, but the customer agrees to pay the sales order order price for the number of items they receive after a specified number of days.
We also have to update our accounts receivable records when we bill - this is done by an A/R clerk.
There are two approaches to billing. The open invoice method involves sending bills one at a time, and the balance forward method groups a series of transactions together in once monthly statement (I called this the Mastercard approach). When a company uses the balance forward method, they often will use cycle billing to have a more uniform flow of cash.
When people return products, they need to be processed by the receiving clerk, and then the credit manger makes a decision on whether to issue a credit memo that authorizes a reduction in the customer's A/R subsidiary ledger balance. If a customer doesn't end up paying at all, the credit manager makes the decision on whether or not to write-off the balance, but we don't tell the customer if that is the way we want to go because they may have a change of heart someday.
The last step in the revenue cycle is cash collections. We have to take in customer payments and make deposits, update the A/R subsidiary ledger accounts to reflect the payments (known as cash application), and make decisions regarding whether or not it is time to write-off a balance.
There are several approaches to collecting cash, but I focused on two of them. The first is where the company processes customer payments on their own. In this case, the invoice will request that companies send a remittance advice along with their payment (the top part of the invoice usually). When the mail is opened, the mailroom clerk compiles the remittance advices and sends them to the A/R clerk to make updates to the subsidiary ledger, and sends the checks to the cashier. Each party is then going to add up their transactions, and make sure they are the same. If the total of remittance advices is different than the deposits made to the bank, we may have a problem.
The other primary approach involves the use of a lockbox. This is where the company outsources the processing of customer payments to their bank. Banks set up a post office box that customers send payments to, and then they deposit checks as they come in, and notify the firm about payments received.
The process of "finding a home" for customer payments is known as cash application. This involves giving the right customer credit for the payments they make. If a company uses a lockbox, it is pretty common to have an automated interface between banks and firms that allows for automated cash application. Systems will usually be configured to general an unapplied cash report listing out the payments received for which the bank was not able to find a home for. Someone in A/R is going to need to investigate these.
Shipping needs to send a copy of the bill of lading (or packing slip if there isn't one) to the billing department so that the invoicing process can start. Invoicing is done by taking the price and term details from the sales order, and quantities from the bill of lading. We also walked through an alternative approach to invoicing that is known as evaluated receipts settlement (ERS), where companies agree on an arrangement with their customers that they won't send out invoices at all, but the customer agrees to pay the sales order order price for the number of items they receive after a specified number of days.
We also have to update our accounts receivable records when we bill - this is done by an A/R clerk.
There are two approaches to billing. The open invoice method involves sending bills one at a time, and the balance forward method groups a series of transactions together in once monthly statement (I called this the Mastercard approach). When a company uses the balance forward method, they often will use cycle billing to have a more uniform flow of cash.
When people return products, they need to be processed by the receiving clerk, and then the credit manger makes a decision on whether to issue a credit memo that authorizes a reduction in the customer's A/R subsidiary ledger balance. If a customer doesn't end up paying at all, the credit manager makes the decision on whether or not to write-off the balance, but we don't tell the customer if that is the way we want to go because they may have a change of heart someday.
The last step in the revenue cycle is cash collections. We have to take in customer payments and make deposits, update the A/R subsidiary ledger accounts to reflect the payments (known as cash application), and make decisions regarding whether or not it is time to write-off a balance.
There are several approaches to collecting cash, but I focused on two of them. The first is where the company processes customer payments on their own. In this case, the invoice will request that companies send a remittance advice along with their payment (the top part of the invoice usually). When the mail is opened, the mailroom clerk compiles the remittance advices and sends them to the A/R clerk to make updates to the subsidiary ledger, and sends the checks to the cashier. Each party is then going to add up their transactions, and make sure they are the same. If the total of remittance advices is different than the deposits made to the bank, we may have a problem.
The other primary approach involves the use of a lockbox. This is where the company outsources the processing of customer payments to their bank. Banks set up a post office box that customers send payments to, and then they deposit checks as they come in, and notify the firm about payments received.
The process of "finding a home" for customer payments is known as cash application. This involves giving the right customer credit for the payments they make. If a company uses a lockbox, it is pretty common to have an automated interface between banks and firms that allows for automated cash application. Systems will usually be configured to general an unapplied cash report listing out the payments received for which the bank was not able to find a home for. Someone in A/R is going to need to investigate these.
Friday, March 2, 2012
Video Lecture 3/2
The video lecture for 3/2 is now available on Moodle - it is right under the Midterm #2 review.
Have a great break!
Have a great break!
Thursday, March 1, 2012
Class 3/2
As discussed all week, class for 3/2 will be held via a video to be posted to Moodle. It should be available by the end of the day on Friday.
Sunday, February 26, 2012
ACL Video
I've posted the video of me walking through the ACL self study to Moodle. Keep in mind that the part at the beginning about AnywhereApps is outdated - you can only run the software on your own computer.
Summary (Week 5)
Now we are getting on to the real part of the course.
Up next: Finish revenue cycle, start expenditure cycle
Due next week: Quiz 1 on Monday (2/27)
Revenue Cycle
The revenue cycle includes all of the things a company does to interact with it’s customers, basically selling stuff and getting paid for it. It doesn’t matter which cycle we are talking about, it is important to remember that a well-functioning AIS will make sure that the following objectives are met; 1) transactions are properly authorized, 2) recorded transactions actually happened; 3) everything is recorded; 4) recording is accurate; 5) assets are safeguarded; and 6) managers can make good decisions. Note that some of these are financial reporting in nature, while others are operationally focused.
The revenue cycle’s cast of characters is organized in three primary categories. Sales interacts with the customer, Operations gets the product out to the customer, and Finance/Accounting makes sure that we get paid.
There are four primary steps within the revenue cycle:
Sales order entry
Shipping
Billing
Cash Collections
Sales order entry involves four sub-steps. First, we have to take the customer’s order. This involves documenting the details of the sale (item #, quantity, price, etc.) on a sales order. One thing that companies use to make this process is easier is a customer master file, which is basically a database containing things like contact information about customers, so that the company doesn’t have to ask for those details again when there is a repeat customer. We discussed two electronic/automated order management methods, one involving a direct link between the systems of customer and supplier (electronic data interchange), and one where no orders are needed because the vendor takes care of the ordering process (vendor managed inventory).
Once the details of the order have been obtained, a few things have to happen to make sure that the order is OK. The second major step involves checking the customer’s credit. This can be done either using general authorization, where companies rely on a credit limit, or specific authorization where someone (usually a credit manager) looks at things on a case-by-case basis. Specific authorization is appropriate when 1) The firm is dealing with a customer for the first time; 2) The customer is going over their credit limit; or 3) The dollars are big enough that it is worth it to have someone look at things. Sometimes the customer’s credit status can be linked into their customer master file record so that the credit check process is automated.
The third step within Sales Order Entry involves checking inventory availability. The question here is whether or not we have the stuff necessary to fulfill the order. We don't necessarily have to have the items in inventory at the time of the sale, but we at least need to be able to have them ready by the time the customer wants them.
Note that if we don't have the items available, then we need to go through the back order process, which notifies either manufacturing that they need to make more stuff, or purchasing that they need to buy more stuff. At this point, best practices dictate that the customer should have the option to 1) cancel the order; 2) request a hold until we can send all of the items, or 3) request a partial shipment if some of the product is available.
If everything is all set, then we can finalize the order. This involves updating the quantity available field in inventory (putting our claim on the items), sending an acknowledgment to the customer, and notifying the warehouse and billing departments about the order.
The last "step" in the revenue cycle responding to customer inquiries - just note that there should be a group dedicated to handling problems.
The next major step is shipping, which involves picking and packing the order, and formally shipping the order out.
In picking and packing the order, we basically want to compile the stuff that the customer ordered. A warehouse clerk is usually going to do this based on a picking ticket, which is an internal document telling them what items to pick up and how many. Note that we don't just send over the sales order, because that contains a lot of information that the warehouse clerk doesn't need to know. I walked through an example on how barcode scanners make this process easier, where warehouse clerks use a handheld scanner to scan a barcode on the picking ticket, then they scan a barcode on the shelf underneath the item they pick. Then the system double checks that the two match up, and the clerk enters in how many items they took, which automatically updates the inventory subsidiary ledger. Pretty cool process.
We spent Friday talking about ACL and how it relates to the extra credit project. Don't worry if it is overwhelming - I expect it to be. This is a really good learning experience for you - in a few months you will be working in the real world, and you will have to figure out a lot of stuff on your own :)
Up next: Finish revenue cycle, start expenditure cycle
Due next week: Quiz 1 on Monday (2/27)
Revenue Cycle
The revenue cycle includes all of the things a company does to interact with it’s customers, basically selling stuff and getting paid for it. It doesn’t matter which cycle we are talking about, it is important to remember that a well-functioning AIS will make sure that the following objectives are met; 1) transactions are properly authorized, 2) recorded transactions actually happened; 3) everything is recorded; 4) recording is accurate; 5) assets are safeguarded; and 6) managers can make good decisions. Note that some of these are financial reporting in nature, while others are operationally focused.
The revenue cycle’s cast of characters is organized in three primary categories. Sales interacts with the customer, Operations gets the product out to the customer, and Finance/Accounting makes sure that we get paid.
There are four primary steps within the revenue cycle:
Sales order entry
Shipping
Billing
Cash Collections
Sales order entry involves four sub-steps. First, we have to take the customer’s order. This involves documenting the details of the sale (item #, quantity, price, etc.) on a sales order. One thing that companies use to make this process is easier is a customer master file, which is basically a database containing things like contact information about customers, so that the company doesn’t have to ask for those details again when there is a repeat customer. We discussed two electronic/automated order management methods, one involving a direct link between the systems of customer and supplier (electronic data interchange), and one where no orders are needed because the vendor takes care of the ordering process (vendor managed inventory).
Once the details of the order have been obtained, a few things have to happen to make sure that the order is OK. The second major step involves checking the customer’s credit. This can be done either using general authorization, where companies rely on a credit limit, or specific authorization where someone (usually a credit manager) looks at things on a case-by-case basis. Specific authorization is appropriate when 1) The firm is dealing with a customer for the first time; 2) The customer is going over their credit limit; or 3) The dollars are big enough that it is worth it to have someone look at things. Sometimes the customer’s credit status can be linked into their customer master file record so that the credit check process is automated.
The third step within Sales Order Entry involves checking inventory availability. The question here is whether or not we have the stuff necessary to fulfill the order. We don't necessarily have to have the items in inventory at the time of the sale, but we at least need to be able to have them ready by the time the customer wants them.
Note that if we don't have the items available, then we need to go through the back order process, which notifies either manufacturing that they need to make more stuff, or purchasing that they need to buy more stuff. At this point, best practices dictate that the customer should have the option to 1) cancel the order; 2) request a hold until we can send all of the items, or 3) request a partial shipment if some of the product is available.
If everything is all set, then we can finalize the order. This involves updating the quantity available field in inventory (putting our claim on the items), sending an acknowledgment to the customer, and notifying the warehouse and billing departments about the order.
The last "step" in the revenue cycle responding to customer inquiries - just note that there should be a group dedicated to handling problems.
The next major step is shipping, which involves picking and packing the order, and formally shipping the order out.
In picking and packing the order, we basically want to compile the stuff that the customer ordered. A warehouse clerk is usually going to do this based on a picking ticket, which is an internal document telling them what items to pick up and how many. Note that we don't just send over the sales order, because that contains a lot of information that the warehouse clerk doesn't need to know. I walked through an example on how barcode scanners make this process easier, where warehouse clerks use a handheld scanner to scan a barcode on the picking ticket, then they scan a barcode on the shelf underneath the item they pick. Then the system double checks that the two match up, and the clerk enters in how many items they took, which automatically updates the inventory subsidiary ledger. Pretty cool process.
We spent Friday talking about ACL and how it relates to the extra credit project. Don't worry if it is overwhelming - I expect it to be. This is a really good learning experience for you - in a few months you will be working in the real world, and you will have to figure out a lot of stuff on your own :)
Wednesday, February 22, 2012
Quiz 1
Quiz 1 is available in Moodle, and needs to be completed by Monday, February 27th by the time your class section starts. This gives you an extra weekend to work on things.
ACL Session Friday (2/24)
I have posted a few files to the Moodle site way at the bottom that you will need to have during the Friday session. I also re-posted the self study on using ACL - one thing to keep in mind is that you can't access the application through AnywhereApps as described in the document. Its a long story why not (which is why the project is extra credit only).
I strongly recommend you come to Friday's session for several reasons:
(1) you will learn about a tool that is extensively used in practice
(2) it is a great opportunity to show me that you are interested in learning
(3) data analysis is fun
I strongly recommend you come to Friday's session for several reasons:
(1) you will learn about a tool that is extensively used in practice
(2) it is a great opportunity to show me that you are interested in learning
(3) data analysis is fun
Summary (Catch-up)
So I haven't been on top of my weekly summaries as I should be. Here is we covered through last week...
Theory of the Firm
We started with discussion of some big questions - what is a firm, why is there accounting, and does it matter if accounting is any good. I characterized the firm as a collection of contracts, and highlighted the importance of the contract between managers and owners. This is the classic agency relationship, where principals (shareholders) hire a set of agents (managers) to run the firm for them. This gives rise to agency costs given that it is unlikely that the managers will work as hard working for someone else as they would while working for themselves. Agency costs were defined as the loss in productive output because of the agency relationship.
Principals do have some options to try and limit agency costs - they can engage in monitoring by directly observing output, offer incentives linking pay to performance (through bonuses and stock options), or by bonding employees through an external review like an audit. Even if a principal chooses to do these things, there will be some agency costs left over, which we call residual losses (the only way to truly get the employee to work as hard as an owner would be to give them the firm, which doesn't make any sense). These actions do come at a cost though, and we formally defined net agency costs as the cost of actions (monitoring, incentives, bonding), plus any residual losses.
The public corporation involves separation of ownership (shareholders) and control (managers), and the board of directors is the body that tries to make sure the two sides play nice, thereby reducing agency costs.
We discussed the idea that the accounting scandals from 2002 (Enron, Worldcom) represented agency costs, because managers took actions that were not in the best interest of shareholders. Funny that the strategy intended to reduce agency costs (incentive compensation) created a whole set of other problems. We also went through an exercise that highlighted why this might be.
We walked through a bit on the Sarbanes-Oxley Act of 2002 (SOX). The primary things accomplished by the act were 1) Creation of the Public Company Accounting Oversight Board (PCAOB) designed to oversee auditing standards; 2) More defined auditor independence rules that limit the services that firms can offer to financial statement audit clients; 3) Requirement that CEOs and CFOs “certify” financial statements (increasing accountability); and 4) increased disclosure rules regarding internal control under Section 404.
With regard to internal control, it represents things firms do to make sure that a particular process works as intended. In terms of financial reporting, this means that we are trying to make sure that financial statements are in line with GAAP.
We think about internal control in terms of to COSO framework, which defines internal control as “…a process, effected by an entity’s board of directors, management, and other key personnel, designed to provide reasonable assurance regarding the achievement of objectives in financial reporting (i.e. GAAP)…” Note that internal control has nothing to do with profitability, at least directly. Firms that are losing money can have solid internal controls – it is really about telling the correct story in the financial statements, even if the story is lousy.
SOX includes changes in reporting requirements for both management and external auditors. Managers have to 1) State on a yearly basis that they are responsible for internal control over financial reporting; 2) Document their internal controls over financial reporting, then test to see if things are actually happening the way they say they do/should; and 3) Provide an assessment of their internal control process. Then, external auditors need to basically do things to get comfortable with what management did (review work, perform additional tests) so they can issue a formal report on their take regarding the firm’s internal control structure over financial reporting.
SOX has some pros and cons. On the pros side, you could argue that the additional transparency returned money to the capital markets, which helped to lower borrowing costs for everyone. Also, if the legislation made firms think critically about how they wanted to do things, then there is the possibility for better decision-making. On the cost side, 404 documentation was expensive (especially for small firms), it may have limited risk taking because of fears about having to write down everything you do, and it likely caused there to be fewer public companies, either because foreign firms not wanting to deal with SOX have incentives to see listing exchanges outside the US (London, Singapore, etc.) or because firms have chosen to “go private”.
Intro to Processes
We began with some definitions. A system is a set of two or more interrelated components that interact to achieve a goal, and it usually involves a series of subsystems that perform specific functions. Good systems make effective use of integration, by trying to eliminate doing things twice.
Good information has value, but it needs to be thought of by comparing costs and benefits. Benefits include better decisions and reduced uncertainty, while the costs are preparing and disseminating the info. There are 7 characteristics of good information: 1) relevance (on point); 2) reliability (dependable); 3) complete (getting everything); 4) timely; 5) understandability; 6) verifiability (can be re-calculated by someone else), and 7) availability
An AIS in a nutshell is supposed to be able to 1) Collect and store data; 2) process those data into information useful for decision making (both externally and internally), and 3) provide controls to ensure that data are accurate and that assets are safeguarded. It consists of more than just computer stuff, it includes people and policies and procedures as well.
We introduced the business cycles by formally defining what a transaction. Transactions are economic events that can be measured. This involves some sort of exchange of resources (selling something) or something that involves the passage of time (like depreciating equipment)
There are 5 major transaction cycles.
Revenue cycle: Selling stuff and getting paid
Expenditure cycle: Buying stuff and paying for it
Production cycle: Making stuff
Human resources/payroll cycle: Interacting with employees (hire, train, pay, evaluate promote, and fire)
Financing cycle: Borrowing money and paying it back
Everything gets tied together in the general ledger and reporting system (GLARS). We need to be comfortable with how data are input stored, processed, and output to be able to move forward.
Whenever we deal with data input, we need to capture details on Resources, Events, and Agents. Data are entered into our system, and are stored in three layers of detail. The first layer involves journals, which is where you will store the detail of individual transactions. Transactions that are “routine” (meaning they are part of the day-to-day operations of the firm) will have their own specific journal (i.e. one for sales, purchases, cash collections, etc.). Transactions that are “non-routine” (i.e things that don’t happen every day) will get grouped into what is known as the general journal. The next layer of detail up involves a subsidiary ledger, which summarizes transaction detail according to a meaningful category. For example, there will be a subsidiary ledger for each customer that owes us money, for each supplier to which we owe money, or each item inventory. The top level of detail involves the ledger, which stores cumulative information about resources and agents. It is basically a running tab of each account that shows up on the financial statements.
We also briefly distinguished batch processing, where transactions are saved up and processed all at once, from on-line processing where transactions are processed in real time.
More and more companies are relying on Enterprise Resources Planning (ERP) systems that are designed to integrate operations in with the accounting system. We’ll discuss more on ERP systems as we move forward in the class.
Theory of the Firm
We started with discussion of some big questions - what is a firm, why is there accounting, and does it matter if accounting is any good. I characterized the firm as a collection of contracts, and highlighted the importance of the contract between managers and owners. This is the classic agency relationship, where principals (shareholders) hire a set of agents (managers) to run the firm for them. This gives rise to agency costs given that it is unlikely that the managers will work as hard working for someone else as they would while working for themselves. Agency costs were defined as the loss in productive output because of the agency relationship.
Principals do have some options to try and limit agency costs - they can engage in monitoring by directly observing output, offer incentives linking pay to performance (through bonuses and stock options), or by bonding employees through an external review like an audit. Even if a principal chooses to do these things, there will be some agency costs left over, which we call residual losses (the only way to truly get the employee to work as hard as an owner would be to give them the firm, which doesn't make any sense). These actions do come at a cost though, and we formally defined net agency costs as the cost of actions (monitoring, incentives, bonding), plus any residual losses.
The public corporation involves separation of ownership (shareholders) and control (managers), and the board of directors is the body that tries to make sure the two sides play nice, thereby reducing agency costs.
We discussed the idea that the accounting scandals from 2002 (Enron, Worldcom) represented agency costs, because managers took actions that were not in the best interest of shareholders. Funny that the strategy intended to reduce agency costs (incentive compensation) created a whole set of other problems. We also went through an exercise that highlighted why this might be.
We walked through a bit on the Sarbanes-Oxley Act of 2002 (SOX). The primary things accomplished by the act were 1) Creation of the Public Company Accounting Oversight Board (PCAOB) designed to oversee auditing standards; 2) More defined auditor independence rules that limit the services that firms can offer to financial statement audit clients; 3) Requirement that CEOs and CFOs “certify” financial statements (increasing accountability); and 4) increased disclosure rules regarding internal control under Section 404.
With regard to internal control, it represents things firms do to make sure that a particular process works as intended. In terms of financial reporting, this means that we are trying to make sure that financial statements are in line with GAAP.
We think about internal control in terms of to COSO framework, which defines internal control as “…a process, effected by an entity’s board of directors, management, and other key personnel, designed to provide reasonable assurance regarding the achievement of objectives in financial reporting (i.e. GAAP)…” Note that internal control has nothing to do with profitability, at least directly. Firms that are losing money can have solid internal controls – it is really about telling the correct story in the financial statements, even if the story is lousy.
SOX includes changes in reporting requirements for both management and external auditors. Managers have to 1) State on a yearly basis that they are responsible for internal control over financial reporting; 2) Document their internal controls over financial reporting, then test to see if things are actually happening the way they say they do/should; and 3) Provide an assessment of their internal control process. Then, external auditors need to basically do things to get comfortable with what management did (review work, perform additional tests) so they can issue a formal report on their take regarding the firm’s internal control structure over financial reporting.
SOX has some pros and cons. On the pros side, you could argue that the additional transparency returned money to the capital markets, which helped to lower borrowing costs for everyone. Also, if the legislation made firms think critically about how they wanted to do things, then there is the possibility for better decision-making. On the cost side, 404 documentation was expensive (especially for small firms), it may have limited risk taking because of fears about having to write down everything you do, and it likely caused there to be fewer public companies, either because foreign firms not wanting to deal with SOX have incentives to see listing exchanges outside the US (London, Singapore, etc.) or because firms have chosen to “go private”.
Intro to Processes
We began with some definitions. A system is a set of two or more interrelated components that interact to achieve a goal, and it usually involves a series of subsystems that perform specific functions. Good systems make effective use of integration, by trying to eliminate doing things twice.
Good information has value, but it needs to be thought of by comparing costs and benefits. Benefits include better decisions and reduced uncertainty, while the costs are preparing and disseminating the info. There are 7 characteristics of good information: 1) relevance (on point); 2) reliability (dependable); 3) complete (getting everything); 4) timely; 5) understandability; 6) verifiability (can be re-calculated by someone else), and 7) availability
An AIS in a nutshell is supposed to be able to 1) Collect and store data; 2) process those data into information useful for decision making (both externally and internally), and 3) provide controls to ensure that data are accurate and that assets are safeguarded. It consists of more than just computer stuff, it includes people and policies and procedures as well.
We introduced the business cycles by formally defining what a transaction. Transactions are economic events that can be measured. This involves some sort of exchange of resources (selling something) or something that involves the passage of time (like depreciating equipment)
There are 5 major transaction cycles.
Revenue cycle: Selling stuff and getting paid
Expenditure cycle: Buying stuff and paying for it
Production cycle: Making stuff
Human resources/payroll cycle: Interacting with employees (hire, train, pay, evaluate promote, and fire)
Financing cycle: Borrowing money and paying it back
Everything gets tied together in the general ledger and reporting system (GLARS). We need to be comfortable with how data are input stored, processed, and output to be able to move forward.
Whenever we deal with data input, we need to capture details on Resources, Events, and Agents. Data are entered into our system, and are stored in three layers of detail. The first layer involves journals, which is where you will store the detail of individual transactions. Transactions that are “routine” (meaning they are part of the day-to-day operations of the firm) will have their own specific journal (i.e. one for sales, purchases, cash collections, etc.). Transactions that are “non-routine” (i.e things that don’t happen every day) will get grouped into what is known as the general journal. The next layer of detail up involves a subsidiary ledger, which summarizes transaction detail according to a meaningful category. For example, there will be a subsidiary ledger for each customer that owes us money, for each supplier to which we owe money, or each item inventory. The top level of detail involves the ledger, which stores cumulative information about resources and agents. It is basically a running tab of each account that shows up on the financial statements.
We also briefly distinguished batch processing, where transactions are saved up and processed all at once, from on-line processing where transactions are processed in real time.
More and more companies are relying on Enterprise Resources Planning (ERP) systems that are designed to integrate operations in with the accounting system. We’ll discuss more on ERP systems as we move forward in the class.
Sunday, February 19, 2012
Office Hrs Monday 2/20
I've got a 2:30 meeting on Monday, so my office hours will be from 1:00 - 2:30 for those of you wanting to review your exam.
Tuesday, February 14, 2012
Wiley Plus Solutions
I have posted the solutions to Wiley Plus for Chapters 20 and 23 to Moodle under Midterm #1. Enjoy!
Wednesday, February 8, 2012
Summary of Week 3
We started the week by talking about the direct method. The direct method is more focused on explicitly highlighting cash inflows and cash outflows. Companies report cash collected from customers as the inflow, and cash paid to suppliers, the government (for taxes), and to other parties in operating expenses as the outflow. We went through some formulas that help to get at these.
We also talked about how to prepare the investing and financing sections of the statement of cash flows. Both sections make use of the direct method, meaning that we focus on cash inflows and outflows. For the investing section, inflows come in the form of proceeds from selling long-lived assets or investments, while outflows occur when we buy long-lived assets or investments. For the financing section, inflows come in the form of money borrowed from creditors or proceeds from selling equity, while outflows occur when we pay back debt, re-purchase stock, or pay dividends.
We had a brief discussion of the pros and cons of the direct versus indirect method. Basically, the indirect method is easier, but some argue that the direct method is more informative about cash inflows and outflows. The indirect method does highlight the differences between accrual income and cash flow, which can be nice when evaluating the quality of earnings.
We also walked through some other technical details related to cash flow. The first group involved thinking about other non-cash expenses (like depreciation) that need to be added back to net income when using the indirect method. For example, when firms show an increase in their deferred tax liability, this will decrease net income (through income tax expense), but there is no cash piece. The second group had us think about issues such as stock options and pensions. Recall that issuing stock options yields compensation expense but no cash outlay, so this needs to be added back to net income (net of tax of course because of the deferred taxes piece). Additionally, any change in the funded status of a pension fund needs to be adjusted for because we want to end up with cash contributed to the plan not pension expense (that is in net income).
Chapter 24: Full Disclosure
We began the full disclosure chapter with a discussion of the full disclosure principle. Basically it says that financial reporting should present any financial facts that are significant enough for an informed decision maker to care. Disclosure comes from a lot of sources ranging from financial statements, the notes to the financial statements, other management communication (such as MD&A and forecast), and info provided by people outside the firm (analysts, journalists, etc.).
We discussed the idea of subsequent events (i.e. events that happen after the fiscal year end, but before final publication of the financial statements). If the subsequent event provided additional information about conditions that existed at the balance sheet (like resolution of a pending lawsuit), then firms need to go back and adjust the F/S at the balance sheet date. If the event is a new event (like a fire at the factory), you don't have to retroactively adjust your financials, but you do have to disclose the existence of the significant subsequent event.
We went through the idea of segment reporting, which requires firms to provide information about their different business lines using the same framework that management uses to run the firm. Firms must provide segment details about segments that pass at least one of the following tests:
Segment revenue is at least 10% of total revenue for all segments
Segment Profit or loss is at least 10% of the greater of the total segment profit for all profitable segments or the total segment loss for all loss segments
Segment assets are at least 10% of total assets for all segments
75% of segment stuff is covered
When segment reporting is required, firms must disclose a general background about the segment, give profit and loss results, total assets, and reconciliations between the reported segment figures and what is on the balance sheet/income statement for the overall firm.
We also talked about how to prepare the investing and financing sections of the statement of cash flows. Both sections make use of the direct method, meaning that we focus on cash inflows and outflows. For the investing section, inflows come in the form of proceeds from selling long-lived assets or investments, while outflows occur when we buy long-lived assets or investments. For the financing section, inflows come in the form of money borrowed from creditors or proceeds from selling equity, while outflows occur when we pay back debt, re-purchase stock, or pay dividends.
We had a brief discussion of the pros and cons of the direct versus indirect method. Basically, the indirect method is easier, but some argue that the direct method is more informative about cash inflows and outflows. The indirect method does highlight the differences between accrual income and cash flow, which can be nice when evaluating the quality of earnings.
We also walked through some other technical details related to cash flow. The first group involved thinking about other non-cash expenses (like depreciation) that need to be added back to net income when using the indirect method. For example, when firms show an increase in their deferred tax liability, this will decrease net income (through income tax expense), but there is no cash piece. The second group had us think about issues such as stock options and pensions. Recall that issuing stock options yields compensation expense but no cash outlay, so this needs to be added back to net income (net of tax of course because of the deferred taxes piece). Additionally, any change in the funded status of a pension fund needs to be adjusted for because we want to end up with cash contributed to the plan not pension expense (that is in net income).
Chapter 24: Full Disclosure
We began the full disclosure chapter with a discussion of the full disclosure principle. Basically it says that financial reporting should present any financial facts that are significant enough for an informed decision maker to care. Disclosure comes from a lot of sources ranging from financial statements, the notes to the financial statements, other management communication (such as MD&A and forecast), and info provided by people outside the firm (analysts, journalists, etc.).
We discussed the idea of subsequent events (i.e. events that happen after the fiscal year end, but before final publication of the financial statements). If the subsequent event provided additional information about conditions that existed at the balance sheet (like resolution of a pending lawsuit), then firms need to go back and adjust the F/S at the balance sheet date. If the event is a new event (like a fire at the factory), you don't have to retroactively adjust your financials, but you do have to disclose the existence of the significant subsequent event.
We went through the idea of segment reporting, which requires firms to provide information about their different business lines using the same framework that management uses to run the firm. Firms must provide segment details about segments that pass at least one of the following tests:
Segment revenue is at least 10% of total revenue for all segments
Segment Profit or loss is at least 10% of the greater of the total segment profit for all profitable segments or the total segment loss for all loss segments
Segment assets are at least 10% of total assets for all segments
75% of segment stuff is covered
When segment reporting is required, firms must disclose a general background about the segment, give profit and loss results, total assets, and reconciliations between the reported segment figures and what is on the balance sheet/income statement for the overall firm.
Monday, February 6, 2012
Wiley Plus AE23-16
So the goof in Wiley for 23-16 was worse than I thought. For some students it is basically impossible to get the right answer per Wiley, so I have just decided to give everyone credit for the full problem.
Friday, February 3, 2012
Professional Headshot
One of the things that the department likes to do is showcase past accounting majors at our accounting career opportunities fair every fall. We will be bringing in a professional photographer next week on Wednesday (2/8) to take headshots of our students. Please do your best to come to class that day, and dress professionally (at least from the waist up).
I managed to dig up this comic that was in my school newspaper when I was an undergrad that I think sums it up...
I managed to dig up this comic that was in my school newspaper when I was an undergrad that I think sums it up...
Thursday, February 2, 2012
AE23-16 Wiley Plus
There may be a slight error in your homework assignment for Chapter 23 on problem 23-16. Some of you may note that the change in land is not equal to the amount of land acquired by issuing common stock. This is an oversight by WileyPLUS - just pretend that the amount of land issued is equal to the change in land balance and call it a day. Since it is a non-cash transaction, there will be no consequence on the SCF.
Tuesday, January 31, 2012
Class on Friday, February 3rd
So I am going to try an alternative to formal lecture on Friday to see how it works. Instead of a traditional lecture, I will be posting a 25-minute video to Moodle that will cover some loose ends that remain from the Pensions chapter, and another cash flow example from Chapter 23. The video will be available by 10AM on Friday on the Moodle site.
In preparation for this lecture, I have posted a series of conceptual pension related questions, along with the template for the cash flow problem to Moodle. I would like for you to spend a little time before Friday thinking about the conceptual questions, particularly as they relate to the IBM pension footnote that is already posted. If you email me your thoughts about these questions by 10AM on Friday, I will consider it when assessing your class participation points for the course.
There is one catch - I really do want you to watch the video, because the material covered is fair game for the exam just like a regular lecture would be. I have the ability to track viewing statistics, and will only pursue this as an option if eighty (80) percent of the class watches the video by the time we meet again on Monday.
Hopefully this will work out!
In preparation for this lecture, I have posted a series of conceptual pension related questions, along with the template for the cash flow problem to Moodle. I would like for you to spend a little time before Friday thinking about the conceptual questions, particularly as they relate to the IBM pension footnote that is already posted. If you email me your thoughts about these questions by 10AM on Friday, I will consider it when assessing your class participation points for the course.
There is one catch - I really do want you to watch the video, because the material covered is fair game for the exam just like a regular lecture would be. I have the ability to track viewing statistics, and will only pursue this as an option if eighty (80) percent of the class watches the video by the time we meet again on Monday.
Hopefully this will work out!
Monday, January 30, 2012
Shorter office hours today (1/30)
I have to cut my office hours short today - I will only be available until 2:30...
Friday, January 27, 2012
Wiley Plus - Important
I wanted to let you know that I was only able to get our Wiley Plus subscription until February 16th. This means that you will have to complete all assignments by then - the system won't even be available after that, so you will be out of luck. Make sure you take note of this in your schedule....
Summary of Weeks 1 & 2
My plan is to post a Friday summary of what we talked about during the week.
Due next week: Wiley plus chapter 20 on Wednesday
Chapter 20: Pensions
We began our discussion on Pensions with a review of the type of pension plans. In defined contribution plans, employers are only obligated to provide a specified contribution towards the nest egg of employees, and therefore employees bear all of the risk. This type of plan is becoming increasingly common through the rise of 401(k) plans, and the accounting for them is really straightforward because the amount contributed for employees becomes a form of compensation expense.
Defined benefit plans are a whole other beast, and are the basis for most of the chapter. Our goal for the chapter will be to answer two big questions regarding these defined benefit plans. First, what is the pension obligation to be reported on the balance sheet, and what is the current period pension expense to be put on the income statement?
A pension plan is going to have some assets (money that the firm has transferred to it to cover pension expenses), and some liabilities (obligations to pay benefits to employees). Since the pension plan is a separate entity, we don’t actually list these on the balance sheet of the firm (except to the extent they are different, which is a comment on the funded status that is discussed below).
There are a few ways to think about the obligation facing the pension plan. One option is to only consider vested benefits, which are those that have already been “unlocked” by employees. This idea comes up when pension benefits are based on an employee’s entire career with the firm, but employees must work for the company for a specific amount of time before they formally become eligible. A second option is to consider both vested and unvested benefits, but with estimates made assuming current salary conditions. The FASB, however, recognizes that since pension benefits are usually based on employee salaries at the end of their career (which tend to be higher), it makes sense to think of the obligation on a projected basis. This gives rise to the projected benefit obligation (PBO) that requires the use of actuaries to help calculate the present value of pension benefits earned by employees to date.
On the income statement side, there are five components of pension expense. The first is service cost, which measures the increase in the PBO because employees worked in the current year. Note that employees can’t receive negative benefits, so it is always positive. The second is interest on the liability, which is basically the amount of interest on the outstanding PBO. This is also always going to be positive, and is calculated by taking the PBO and multiplying it by the settlement rate. The third the actual return on plan assets, which considers the fact that the more assets the pension plan has, the more resources are available to cover the pension obligation. Note that pension expense is reduced for positive asset returns, and increased for negative asset returns. The fourth involves amortization of prior service cost, which comes up when a firm amends or creates a pension plan and provides benefits retroactively for employees’ prior service. These costs are amortized over the remaining service life of the employees that are receiving these particular benefits (i.e. not everyone). Note that prior service costs are stored up in a stockholder’s equity account called “accumulated other comprehensive income”. The fifth is called gains and losses, and deserves its own paragraph because it is so much fun.
The gains and losses piece can come up the asset or liability front, and they are both stored up in the accumulated OCI account. In terms of the asset side, the FASB has argued that since returns on plan assets can be pretty volatile (see crisis, financial) in the short term but fairly smooth in the long run, then it makes more sense to calculate return on plan assets using an expected rate of return provided by actuaries. An asset gain or loss comes up when there is a difference between the actual and expected returns. On the liability side, this comes up when the actuaries make some change in their assumptions that alters the amount of the PBO. This can come up because of things like changes in the assumed rate of salary growth, or the overall discount rate used to put the PBO in terms of present value. Most of the time asset and liability gains/losses balance each other out, but if they don’t we use the corridor approach to amortize some of the excess to pension expense. If the amount in accumulated OCI at the beginning of the year exceeds 10% of the greater of the beginning PBO or plan assets, then the excess is amortized over the remaining service life of all employees.
Even though we don’t formally put the plan assets and liabilities on the underlying firm’s balance sheet, we do include the funded status. For example, if the plan’s assets are less than the PBO, then the firm is going to have to pony up some cash in the future to make up the difference. This doesn’t have any impact on the income statement (we used accrual accounting to deal with that through pension expense), but we do include a pension liability based on the obligation. Alternatively, if the plan assets exceed the PBO, then the firm will have a pension asset. Given that the accumulated OCI amount is a stockholder’s equity account, it is on the balance sheet as well.
Chapter 23: Cash Flows
We started talking about the cash flow statement on Wednesday, which is designed to provide investors with information regarding how the company spent its cash during the period. In a nutshell, it explains the difference between beginning and ending cash. Firms are required to list cash flow from operating, investing, and financing activities. Operating cash flow relates to the day-to-day activities of the firm; investing cash flow relates to the purchase and sale of long-lived assets or investments; and financing cash flow relates to the borrowing of money and paying it back.
Whether a company has positive or negative cash flow in these categories can tell a lot about where the firm is in it’s life cycle, as well as it’s overall health. Firms typically have positive cash flow from financing activities early in their life because they have secured some outside financing, and negative cash flow from investing activities because they are spending that cash on things like machinery and equipment. Pay special attention to how these different categories relate as well – we discussed four different combinations and what that might mean for the firm. For example, positive operating and financing cash flow mixed with negative investing cash flow suggests a profitable firm with remaining growth opportunities, while positive operating cash flow mixed with negative financing cash flow suggests a cash cow whose best investment opportunity is to pay back debt or buy back some equity shares. Also be wary of positive investing cash flow – this suggests that the firm is selling off assets, which can be a big problem if it is offsetting negative operating cash flow. Being able to come up with companies in each category is useful.
There are two methods to calculate operating cash flow. Under the indirect method, firms start with net income and make tweaks to it to transition to cash flow from operations. The first adjustment is to add back non-cash transactions such as depreciation and amortization expense. This comes up because depreciation serves to reduce net income, but there is no cash consequence from it. The second set of adjustments relate to changes in current account balances. Net income only relates to revenue earned in the current period and the matching expenses, but there are often differences from a cash flow perspective. For example, an increase in accounts receivable suggests that customers didn’t pay for everything sale included in revenue, so we need to adjust net income downward. The third adjustment is to take out gains or losses from the sale of long-lived assets. If an asset is sold for something other than book value, then there will be a gain or loss included in net income. Since the proceeds from the sale get included in cash from investing activities (where they belong), leaving the gain or loss in net income would cause the gain or loss to be included twice. Therefore we subtract out gains and add back losses when calculating operating cash flow.
Due next week: Wiley plus chapter 20 on Wednesday
Chapter 20: Pensions
We began our discussion on Pensions with a review of the type of pension plans. In defined contribution plans, employers are only obligated to provide a specified contribution towards the nest egg of employees, and therefore employees bear all of the risk. This type of plan is becoming increasingly common through the rise of 401(k) plans, and the accounting for them is really straightforward because the amount contributed for employees becomes a form of compensation expense.
Defined benefit plans are a whole other beast, and are the basis for most of the chapter. Our goal for the chapter will be to answer two big questions regarding these defined benefit plans. First, what is the pension obligation to be reported on the balance sheet, and what is the current period pension expense to be put on the income statement?
A pension plan is going to have some assets (money that the firm has transferred to it to cover pension expenses), and some liabilities (obligations to pay benefits to employees). Since the pension plan is a separate entity, we don’t actually list these on the balance sheet of the firm (except to the extent they are different, which is a comment on the funded status that is discussed below).
There are a few ways to think about the obligation facing the pension plan. One option is to only consider vested benefits, which are those that have already been “unlocked” by employees. This idea comes up when pension benefits are based on an employee’s entire career with the firm, but employees must work for the company for a specific amount of time before they formally become eligible. A second option is to consider both vested and unvested benefits, but with estimates made assuming current salary conditions. The FASB, however, recognizes that since pension benefits are usually based on employee salaries at the end of their career (which tend to be higher), it makes sense to think of the obligation on a projected basis. This gives rise to the projected benefit obligation (PBO) that requires the use of actuaries to help calculate the present value of pension benefits earned by employees to date.
On the income statement side, there are five components of pension expense. The first is service cost, which measures the increase in the PBO because employees worked in the current year. Note that employees can’t receive negative benefits, so it is always positive. The second is interest on the liability, which is basically the amount of interest on the outstanding PBO. This is also always going to be positive, and is calculated by taking the PBO and multiplying it by the settlement rate. The third the actual return on plan assets, which considers the fact that the more assets the pension plan has, the more resources are available to cover the pension obligation. Note that pension expense is reduced for positive asset returns, and increased for negative asset returns. The fourth involves amortization of prior service cost, which comes up when a firm amends or creates a pension plan and provides benefits retroactively for employees’ prior service. These costs are amortized over the remaining service life of the employees that are receiving these particular benefits (i.e. not everyone). Note that prior service costs are stored up in a stockholder’s equity account called “accumulated other comprehensive income”. The fifth is called gains and losses, and deserves its own paragraph because it is so much fun.
The gains and losses piece can come up the asset or liability front, and they are both stored up in the accumulated OCI account. In terms of the asset side, the FASB has argued that since returns on plan assets can be pretty volatile (see crisis, financial) in the short term but fairly smooth in the long run, then it makes more sense to calculate return on plan assets using an expected rate of return provided by actuaries. An asset gain or loss comes up when there is a difference between the actual and expected returns. On the liability side, this comes up when the actuaries make some change in their assumptions that alters the amount of the PBO. This can come up because of things like changes in the assumed rate of salary growth, or the overall discount rate used to put the PBO in terms of present value. Most of the time asset and liability gains/losses balance each other out, but if they don’t we use the corridor approach to amortize some of the excess to pension expense. If the amount in accumulated OCI at the beginning of the year exceeds 10% of the greater of the beginning PBO or plan assets, then the excess is amortized over the remaining service life of all employees.
Even though we don’t formally put the plan assets and liabilities on the underlying firm’s balance sheet, we do include the funded status. For example, if the plan’s assets are less than the PBO, then the firm is going to have to pony up some cash in the future to make up the difference. This doesn’t have any impact on the income statement (we used accrual accounting to deal with that through pension expense), but we do include a pension liability based on the obligation. Alternatively, if the plan assets exceed the PBO, then the firm will have a pension asset. Given that the accumulated OCI amount is a stockholder’s equity account, it is on the balance sheet as well.
Chapter 23: Cash Flows
We started talking about the cash flow statement on Wednesday, which is designed to provide investors with information regarding how the company spent its cash during the period. In a nutshell, it explains the difference between beginning and ending cash. Firms are required to list cash flow from operating, investing, and financing activities. Operating cash flow relates to the day-to-day activities of the firm; investing cash flow relates to the purchase and sale of long-lived assets or investments; and financing cash flow relates to the borrowing of money and paying it back.
Whether a company has positive or negative cash flow in these categories can tell a lot about where the firm is in it’s life cycle, as well as it’s overall health. Firms typically have positive cash flow from financing activities early in their life because they have secured some outside financing, and negative cash flow from investing activities because they are spending that cash on things like machinery and equipment. Pay special attention to how these different categories relate as well – we discussed four different combinations and what that might mean for the firm. For example, positive operating and financing cash flow mixed with negative investing cash flow suggests a profitable firm with remaining growth opportunities, while positive operating cash flow mixed with negative financing cash flow suggests a cash cow whose best investment opportunity is to pay back debt or buy back some equity shares. Also be wary of positive investing cash flow – this suggests that the firm is selling off assets, which can be a big problem if it is offsetting negative operating cash flow. Being able to come up with companies in each category is useful.
There are two methods to calculate operating cash flow. Under the indirect method, firms start with net income and make tweaks to it to transition to cash flow from operations. The first adjustment is to add back non-cash transactions such as depreciation and amortization expense. This comes up because depreciation serves to reduce net income, but there is no cash consequence from it. The second set of adjustments relate to changes in current account balances. Net income only relates to revenue earned in the current period and the matching expenses, but there are often differences from a cash flow perspective. For example, an increase in accounts receivable suggests that customers didn’t pay for everything sale included in revenue, so we need to adjust net income downward. The third adjustment is to take out gains or losses from the sale of long-lived assets. If an asset is sold for something other than book value, then there will be a gain or loss included in net income. Since the proceeds from the sale get included in cash from investing activities (where they belong), leaving the gain or loss in net income would cause the gain or loss to be included twice. Therefore we subtract out gains and add back losses when calculating operating cash flow.
Tuesday, January 24, 2012
IBM Pension Footnote
I've posted the pension footnote for IBM from their 2009 Annual Report. It might be a good idea to check it out before class...
Monday, January 23, 2012
Wiley Plus Link
Several students have had problems getting to the Wiley Plus site for the course - try this link...
http://edugen.wileyplus.com/edugen/class/cls255567/
http://edugen.wileyplus.com/edugen/class/cls255567/
Friday, January 20, 2012
KWW Chapter 20
I've posted a pdf of Chapter 20 for those of you that don't have your book. I'll do the same for the other chapters by the time we need them.
Thursday, January 19, 2012
I have a Twitter account (LoyolaAC202) for the course, and if enough people follow it then I will tweet info as the course progresses.
Wiley Plus
You all should have gotten an email from the Wiley Plus system saying you have been added to my course. If not, go www.wileyplus.com and log in to see if it is there.
The assignments for Chapters 20 and 23 are there - they need to be completed by 10PM on the due date in the course schedule. You get four (4) chances for each problem - after that it will be marked wrong. Anything done late will receive a 30% penalty.
The assignments for Chapters 20 and 23 are there - they need to be completed by 10PM on the due date in the course schedule. You get four (4) chances for each problem - after that it will be marked wrong. Anything done late will receive a 30% penalty.
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