Generating revenue is essentially the key business activity because without sufficient revenue an entity would not earn enough profit and thuse would not be able to fulfill its commercial objectives. Sale of products is generally the single main component of revenue for all commercial entities. Therefore apart from executing direct sales, they rely on several avenues to raise and maximize their aggregate revenue, including consignment agents, marketing agents and networks of wholesalers and distributors etc.
This article looks at meaning of and differences between two arrangements/transactions that form part of revenue generation for a business – consignment and sale.
Definitions and meanings
Consignment is a business arrangement whereby a business owner sends goods to another party, a consignment agent, to sell them on his behalf, in exchange for a fee or commission.
The two active parties involved in a consignment arrangement are:
- Consignor: The owner and the ultimate seller of goods who consigns goods to an agent known as consignee.
- Consignee: The party that receives possession of the goods and sells them on behalf of the consignor in exchange for receipt of a consignment fee, typically termed as “consignee’s commission”.
The steps involved in a typical consignment transaction are as follows:
- The owner or consignor consigns goods to the consignee for forward sale to customers. Only the possession of goods is transferred and the ownership remains with the consignor.
- Goods are generally consigned for a specific time period. In case the goods remain unsold after this period they are either returned to the consignor or the consignment arrangement is extended.
- When the consignee is instrumental in executing sales, the sales consideration is first received by him from the customers.
- The consignee generally sends periodic statement of account to the consignor which contains the reconciliation of goods as well as sales amount. It indicates the quantity of goods received, sold, returned back to consignor and any unsold units in stock with consignee. It also details the sales consideration received, commission charged against those sales and any recoverable expenses paid by the consignee.
- After retaining his commission and expenses, consignee remits the balance of sales proceeds to the consignor.
Consignment is a popular arrangement that the sellers can adopt to maximize their sales through an expanded network of consignees. The consignees, in turn, have the opportunity to earn a decent amount of commission income on sales without making much investment.
A sale is a transaction/contract with which the seller of the goods transfers the ownership and possession of goods to the buyer, in exchange for a consideration. This consideration is the selling price of the goods in the sales transaction. Sales are the key revenue generating activity for any business.
A sale primarily consists of two parties:
- Vendor or seller: The party that provides goods to a customer in exchange for receipt of sale consideration. A seller can be either a manufacturer, a distributor, a retailer or an agent depending on the type of sale transaction.
- Customer or buyer: The party that receives possession and ownership of the goods against payment of purchase consideration. In service industries, the term “customer” is often replaced by the term “client”.
From payment perspective, a sale transaction can be one of three types:
- a cash sale transaction,
- a credit sale transaction and,
- an advance payment sale transaction.
In first type, cash is received from the buyer or client immeditely after the delivery of goods or services to him. Besides currency notes, payments received via credit or debit cards for online sales mostly fall under cash sale transaction. In second type, the goods or services are delivered immediatly but the payment for them is recovered at a future agreed date. The journal entries for these two types of sale transactions are shown below:
Entry for cash sale transaction:
Entry for credit sale transaction:
Accounts receivable [Dr]
The third type of sale transaction is exactly the opposite of second type i.e., the payment is received in advance of delivery. However from accounting point of view, this does not qualify as a valid sale transaction because the sales revenue can only be realized and recorded when the goods or services have actually been delivered to the buyer or client. This condition is imposed by the revenue recognition principle of accounting. The advance amount received from a customer or client is, therefore, initially entered as unearned revenue liabiliy, and subsequently when the goods or services are actually delivered, the recordeded liability is eliminated by converting the same into sales revenue through a seperate journal entry. The two accounting entries used to handle such type of sale are shown below:
Entry upon receiving advance cash from customer:
Unearned revenue [Cr]
Entry for recognizing sales revenue uopn delivery of goods to customer:
Unearned revenue [Dr]
Difference between consignment and sale
Ten key points of difference between consignment and sale have been listed below:
- Consignment is a business arrangement wherein a consignor ships goods to a consignee who effects sales on former’s behalf for a commission or fee which is typically based on a preagreed percentage of gross sales amount.
- Sale is a financial transaction in which the possession and title in goods is transferred from the seller to the buyer in exchange of the receipt of sales consideration.
2. Accounting entry
- When a consignor sends goods to his agent or consignee, he initially debits “consignment account” and credits “goods sent on consignment account” in his journal. The sales revenue is recognized on actual sale of goods by the consignee or on receipt of account sales from him which contains details regarding consignment activities on consignee’s end including units of goods sold and in stock etc.
- When a seller sells goods to his customer, he debits “cash account” or “accounts receiable account” and credits “sales account” in his books. In a service business, the credit part of the entry consists of “service revenue account” or “client revenue account” rather than the “sales account”.
3. Parties involved
- Consignment arrangement involves a consignor and a consignee.
- A sale transaction involves a seller and a buyer.
4. Relationship between parties
- In a consignment, the relation between consignor and consignee is that of principal and agent.
- In a sales transaction, the relation between seller and buyer could be that of creditor and debtor if the transaction is credit based.
5. Transfer of ownership/title in goods
- In a consignment arrangement, only the possession of goods is transferred . The ownership of goods is not transferred to the consignee and remains with the consignor till actual sale.
- In a sales transaction, both the possession and ownership of goods are transferred to the buyer.
6. Transfer of risks
- As title in goods is retained with the consignor, the risk of loss also continues to vest with him.
- In case of sales, the risk of loss is transferred to the buyer.
7. Consideration for the arrangement
- The consideration for a successful consignment arrangement is commission to be received by the consignee. This is generally calculated as a pre-determined percentage of the sales consideration.
- The consideration for a sales transaction is the price of goods which is received as sales consideration by the seller.
- If the consignment agreement not renewed, consignee may return the unsold units to the consignor on expiry of the consignment arrangement.
- A buyer can return sold goods to the seller only if such provision exists in the sales agreement. It is generally permitted only in case of defective, damaged or otherwise inappropriate goods.
- A consignment arrangement is an entire business chain which includes all steps from consigning goods to undertaking marketing activities to ultimately executing sales through thei consignment agents or consignees.
- A sale is one part of an entire business arrangement – the penultimate revenue generating transaction.
- Not all businesses have consignment arrangements in place. Businesses try to avail it as an opportunity of generating additional revenue only when it looks convenient and appealing to them.
- Since sales are the core source of revenue, all businesses must have enough sales transactions to generate profit and remain viable.
11. Impact on cash flow of owner
- Consignment involves a complete operating cycle and, thus, results in varous types of both outflows and inflows of cash.
- A sale transaction, on the other hand, is just a component of operating cycle which only results in cash inflow either immediately (cash sales) or at a future agreed date (credit sales).
The ultimate objective of both consignment and sale is to earn revenue and make profit. Consignment arrangements are popular means of increasing the reach and customer base for both manufacturers and traders. The consignment model is applicable for all those products that can be easily dispatched and kept in another store. Examples of products that could be good candidates include toys, cloth, handicrafts, and home made unique products like jewlary, carpets, and artworks etc. However, the pure consignment model is found in action in small businesses that lack capital to expand; large ones prefer to affect sales directly through opening thier own branches and outlets in feasible and attractive areas.
Modern day ecommerce can be effectively modeled on consignment concept wherein a manufacturer or trader can list their goods on ecommerce portals and provide them at their fulfillment centers. These portals can eventually retain a portion of the proceeds of each online sale as their commission.