VEDAM, Inc.

VEDAM, INC.
Background
Vedam, Ltd. is a wholly owned subsidiary of a large Indian public company. Vedam was purchased by the public company in 1992. The accounting systems that existed under the prior owner were minimal with little computer support. Its annual sales volume was about Rs.15 million, and its products consist of two types: a manufactured commodity and a specialty assembly. The receivables balance averaged about Rs.3 Crores. With the purchase of Vedam, several managers from the parent company were sent to the new organization and established a management structure that did not exist under the former owner.

Governance Examination

After the purchase of Vedam, the parent company initiated a governance examination. The purpose of the first of the scheduled governance examinations of Vedam was to obtain information on the production cycle, cash disbursements, and accounts receivable. This initial review indicated severe problems in the accounts receivable area. Examples of the problems associated with accounts receivable were: Many accounts had credit balances. About 40 percent of the accounts were more than 60 days past due. The baddebt reserve was understated. There appeared to be inadequate followup on accounts that were past due. Invoices were not keyed out on the detail ledger; thus, short payments did not necessarily generate an identifiable amount due from customers for followup. The detail ledger did not balance to the general ledger by about Rs.2 lacs.

Results of the Governance Examination

As a result of this governance examination, recommendations were made to correct the deficiencies noted. A follow-up examination was conducted about six months after the initial review. It showed some progress had been made, but mishandlings were still occurring. As a result of this situation, a different examination approach was used in trying to determine the extent and nature of the problem. The examination approach that was now used involved a transaction analysis. This analysis incorporated a review from the initiation of the transaction to the point at which the payment was actually received and posted to the customer's ledger. The areas that were reviewed as part of this transaction analysis were order entry, credit review, production (including receiving of goods), shipping, billing, and accounts receivable. Based upon the system review, the following defects were noted: Items could be received into the manufacturing plant and assembled but not invoiced (remember, Vedam offers specialty assembly based on individual customer orders). Cash was not centrally located. In essence, customers' payments could come in to several different individuals, resulting in a lag of posting to the accounts and deposit of the money in the banks.

VEDAM, Inc. The organization of customers' files was such that an extensive effort was necessary to follow up and correct invoicing or resolve customers' problems with accounts. In addition, there was no one central location for customers' information. To rectify a query regarding invoicing problems, one had to search through several departments' files to obtain necessary information. The issuance of duplicate invoices was noted in several instances. Sales were made to customers with overdue balances without reviews of collection. There was no numerical control of shipments or deliveries from the manufacturing plant to insure that all shipments were processed to the billing group. A clearly defined credit policy/procedure was not established to verify that only customers with good credit history are provided credit sales. Adjustments were posted to customers' accounts without sufficient support documentation. Specific responsibility and authority for handling credit sales was not defined.

Recommendations

On the basis of the examination findings, the governance examination group submitted the following recommendations: Receipts from customers should be numerically controlled and a copy of the processed sales order should go to the accounting department to ensure that billing will occur. Unique invoice numbers should be established for each manufacturing/marketing product line to insure that duplication of invoice numbers do not occur. One central filing system for customers' information should be established. A computerized system should be obtained allowing for application of payments to specific invoice numbers and the automatic generation of a followup memo for short payments. One person from cashiers office should ensure that cash is quickly deposited. A monthly reconciliation of the detail accounts receivables ledger to the general ledger should be performed, and discrepancies should be resolved. A quarterly review of the adequacy of the bad-debt reserve should be performed. Customers' followup logs should be established to insure an ongoing collection effort. Accounts that are over 60 days should be pursued on a onetoone basis. If recovery is not reasonably expected, those accounts should be written off. The system should be changed to provide additional age information as to the aging of accounts. The current system only provided 60 days and over 90 days analysis. A report for 30, 60, 90, 120, and more than 120 days should be generated. The credit balances on customers' accounts should be immediately resolved as to application to purchases and/or issuance of a check to those customers.

Results

Since the issuance of the examination report pertaining to the receivable area at Vedam, the following things have occurred: A new Chief Accountant was appointed, and one additional person was assigned to maintain and follow up on accounts receivable.

VEDAM, Inc. A new transaction system was developed that incorporated the recommendations regarding numerical control of a receipt, clearance of cash, customers' followup logs, and different customers' filings. A new computer accounting system was installed that changed the aging methods and also provided the ability for the matching up of individual invoices to actual payments. All accounts over 120 days were either collected or written off. A credit policy was adopted defining responsibility for the credit function and providing guidelines for establishing credit for customers. The biggest change was a frontend review to be performed versus after the fact.

Required
Where are the primary areas of risk exposure? If you were to develop a risk assessment, what are the risk factors you would consider and why do you believe that these are most important from a governance point of view? 1. What other areas of possible mishandling of accounts receivable are indicated from the items disclosed? 2. What are the general control deficiencies and what is the application or input, processing, and output related deficiencies noted in this case? 3. What other areas of possible mishandling in other accounting operations might be possible, based on the findings of this examination? 4. What seems to be the cause of the problems, both actual and potential? 5. What is the impact of the deficiency findings on the current financial statements?