Bank overdrafts should be accounted for as accounts payable or, if material,separately disclosed on the balance sheet or in the related notes... The directwrite offmethod is theoretical
Trang 1CHAPTER 7Cash and Receivables
Trang 3lty
Time (minut es)
E71 Determining cash balance Moderate 10–15
E72 Determining cash balance Moderate 10–15
E73 Financial statement presentation of receivables Simple 10–15
E74 Determining ending accounts receivable Simple 10–15
E75 Record sales gross and net Simple 15–20 E76 Recording sales transactions Moderate 5–10 E77 Recording bad debts Moderate 10–15
E78 Recording bad debts Simple 5–10
E79 Computing bad debts and preparing journal entries Simple 8–10
E710 Baddebt reporting Simple 10–12
E711 Bad debts—aging Simple 8–10
E712 Journalizing various receivable transactions Simple 15–20
E713 Assigning accounts receivable Simple 10–15
E714 Journalizing various receivable transactions Simple 15–18
E715 Transfer of receivables with recourse Simple 10–15
E716 Transfer of receivables with recourse Moderate 15–20
E717 Transfer of receivables without recourse Simple 10–15 E718 Notes transactions at unrealistic interest rates Simple 10–15 E719 Note receivable with unrealistic interest rate Moderate 20–25 E720 Analysis of receivables Moderate 10–15 E721 Transfer of receivables Moderate 10–15
*E724 Bank reconciliation and adjusting entries Moderate 15–20
*E725 Bank reconciliation and adjusting entries Simple 15–20
Trang 4*P715 Loan impairment entries Moderate 30–40
Trang 5CA71 Bad debt accounting Simple 10–15
CA72 Various receivable accounting issues Simple 15–20
CA73 Baddebt reporting issues Moderate 25–30
CA74 Basic note and accounts receivable transactions Moderate 25–30
CA75 Sale of notes receivable Moderate 20–25
CA76 Zerointerestbearing note receivable Moderate 20–30
CA77 Reporting of notes receivable, interest, and sale
of receivables.
Moderate 25–30
CA78 Accounting for zerointerestbearing note Moderate 25–30
CA79 Receivables management Moderate 25–30
CA710 Baddebt reporting, ethics Moderate 25–30
Trang 7*Note: All asterisked (*) items relate to material contained in the Appendix to the chapter.
1 Chapter 7 presents a detailed discussion of two of the primary liquid assets of
a company, cash and receivables. Cash is the most liquid asset held by a company andpossesses unique problems in its management and control. Receivables are composed ofboth accounts and notes receivables. Chapter coverage of accounts receivable placesemphasis on trade receivables. In covering notes receivables, the chapter includes bothshortterm and longterm notes
4 It is common practice for a corporation to have an agreement with a bank concerningcredit and borrowing arrangements. When such an agreement exists, the bank usuallyrequires the company to maintain a minimum cash balance on deposit. This minimumbalance is known as a compensating balance. Compensating balances that result in
legally restricted deposits must be separately classified in the balance sheet. The nature
of the borrowing arrangement determines whether the compensating balance is classified
as a current asset or a noncurrent asset
5 Cash that has been designated for some specific use, other than for payment of currentlymaturing obligations, is segregated from the general cash account. This amount may beclassified as a current asset if it will be disbursed within one year or the operating cycle,whichever is longer. Otherwise, the amount should be shown as a noncurrent asset
6 Bank overdrafts occur when a company writes a check for more than the amount in thecash account. Bank overdrafts should be accounted for as accounts payable or, if material,separately disclosed on the balance sheet or in the related notes
Trang 88 (S.O. 4) In most receivable transactions, the amount to be recognized is the exchange price(amount due from the debtor) between the two parties. Two factors that may complicate themeasurement of the exchange are (a) the availability of discounts (trade and cash) and (b)the length of time between the sale and the payment due date (the interest element)
9 Two types of discounts that must be considered in determining the value of receivables
list or catalog prices of merchandise. They are often used to avoid frequent changes incatalogs or to quote different prices for different quantities purchased. Cash discounts(also called sales discounts) are offered as an inducement for prompt payment and are
communicated in terms that read, for example, 2/10, n/30 (2% discount if paid within
10 days of the purchase or invoice date, otherwise the gross amount is due in 30 days)
10 (S.O. 5) It is highly unlikely that a company that extends credit to its customers will be successful in collecting all of its receivables. Thus, some method must be adopted toaccount for receivables that ultimately prove to be uncollectible. The two methods currentlyused are the direct writeoff method and the allowance method.
11 Under the direct writeoff method, the receivable account is reduced and an expense isrecorded when a specific account is determined to be uncollectible. The directwrite offmethod is theoretically deficient because it usually does not match costs and revenues ofthe period, nor does it result in receivables being stated at estimated realizable value onthe balance sheet. The direct writeoff method is not appropriate if the amount deemeduncollectible is material
12 Use of the allowance method requires a yearend estimate of expected uncollectibleaccounts based upon credit sales or outstanding receivables This ensures thatcompanies state receivables on the balance sheet at their net realizable value Net
realizable value is the net amount the company expects to receive in cash. The estimate ofuncollectible accounts is recorded by debiting an expense and crediting the allowanceaccount in the period in which the sale is recorded. Then, in a subsequent period, when
an account is deemed to be uncollectible, an entry is made debiting the allowanceaccount and crediting accounts receivable
13 Advocates of the allowance method contend that its use provides for a proper matching ofrevenues and expenses as well as reflecting a proper carrying value for accounts receivable
at the end of the period. When the allowance method is used, the estimated amount ofuncollectible accounts is normally based upon a percentage of sales or outstanding receivables
Trang 9amount instead of stating it explicitly
16 Shortterm notes are generally recorded at face value (less allowances) because theinterest implicit in the maturity value is immaterial. A general rule is that notes treated ascash equivalents (maturities of 3 months or less) are not subject to premium or discountamortization. Longterm notes receivable, however, are recorded at the present value ofthe future cash inflows. Determination of the present value can be complicated, particularlywhen a zerointerestbearing note or a note bearing an unreasonable interest rate isinvolved
17 Longterm notes receivable should be recorded and reported at the present value of thecash expected to be collected. When the interest stated on an interestbearing note isequal to the effective (market) rate of interest, the note sells at face value. When thestated rate is different from the market rate, the cash exchanged (present value) isdifferent from the face value of the note. The difference between the face value and thecash exchanged, either a discount or a premium, is then recorded and amortized over
the life of the note to approximate the effective interest rate. The discount or premium isshown on the balance sheet as a direct deduction from or addition to the face of the note
18 Whenever the face amount of a note does not reasonably represent the present value ofthe consideration given or received in the exchange, the accountant must evaluate theentire arrangement to properly record the exchange and the subsequent interest. Notesreceivable are sometimes issued with no (zero) interest rate stated or at a stated rate that
is unreasonable. In such instances the present value of the note is measured by the cashproceeds to the borrower or fair value of the property, goods, or services rendered. Thedifference between the face amount of the note and the cash proceeds or fair value of theproperty represents the total amount of interest during the life of the note. If the fair value ofthe property, goods, or services rendered is not determinable, estimation of the presentvalue requires use of an imputed interest rate. The choice of a rate may be affected
specifically by the credit standing of the issuer, restrictive covenants, collateral, paymentschedule, and the existing prime interest rate. Determination of the imputed interest rate ismade when the note is received; any subsequent changes in prevailing interest rates areignored
Trang 1019 The FASB requires that companies disclose the fair value of receivables in the notes tothe financial statements. Recently the Board has given companies the option to use fairvalue as the basis of measurement in the financial statements. If companies choose thefair value option, the receivables are recorded at fair value, with unrealized holding gains
or losses reported as part of net income. An unrealized holding gain or loss is the netchange in the fair value of the receivable from one period to another, exclusive of interestrevenue
Secured Borrowing
20 (S.O. 8) Receivables are often used as collateral in a borrowing transaction. A creditoroften requires that the debtor designate (assign) or pledge receivables as security for theloan. If the loan is not paid when due, the creditor has the right to convert the collateral tocash, that is, to collect the receivables
Sales of Receivables
21 When accounts and notes receivable are factored (sold), the factoring arrangement can
basis, the seller guarantees payment to the factor in the event the debtor does not makepayment. When a factor buys receivables without recourse, the factor assumes the risk ofcollectibility and absorbs any credit losses. Receivables that are factored with recourseshould be accounted for as a sale, recognizing any gain or loss, if all three of the followingconditions are met: (a) the transferred asset has been isolated from the transferor, (b) thetransferees have obtained the right to pledge or exchange either the transferred assets orbeneficial interests in the transferred assets, and (c) the transferor does not maintaineffective control over the transferred assets through an agreement to repurchase or redeemthem before their maturity
Presentation and Analysis
22 (S.O 9) The presentation of receivables in the balance sheet includes the following considerations: (a) segregate the different types of receivables that a company possesses,
if material; (b) appropriately offset the valuation accounts against the proper receivableaccounts: (c) determine that receivables classified in the current assets section will beconverted into cash within the year or the operating cycle, whichever is longer; (d) discloseany loss contingencies that exist on the receivables; (e) disclose any receivables designated
or pledged as collateral; and (f) disclose the nature of credit risk inherent in thereceivables, how that risk is analyzed and assessed in arriving at the allowance for creditlosses, and the changes and reasons for those changes in the allowance for creditlosses
23 The ratio used to assess the liquidity of receivables is the receivables turnover ratio, whichmeasures the number of times, on average, receivables are collected during the period
Accounts Receivable
Turnover = Net SalesAverage Trade Receivables (net) Days to Collect
Accounts Receivable = 365Accounts Receivable Turnover
Trang 11*24 (S.O. 10) Control over the handling of cash and cash transactions is an important consideration for any company Among the control procedures that are used for cashtransactions are the use of a petty cash system, or the use of bank accounts such as ageneral checking account, imprest bank accounts, and lockbox accounts
*Petty Cash
*25 In an imprest petty cash system, a petty cash custodian is given a small amount ofcurrency from which to make small payments (minor office supplies, tolls, postage, etc.).Each time a disbursement is made, the petty cashier obtains a signed receipt and makes apayment. When cash in the fund runs low, the petty cashier submits the signed receipts tothe general cashier and a check is prepared to replenish the petty cash fund. This process
is designed to promote control over small cash disbursements that would be awkward orimpossible to pay by check
*Physical Protection of Cash Balances
*26. Adequate control of receipts and disbursements is part of the protection of cash balances,along with certain other procedures. A company should minimize the cash on hand in the office which is often in the form of a petty cash fund, the current day’s receipts, and
perhaps funds for making change. It should keep these funds in a vault, safe, or locked cash drawer. The company should transmit intact each day’s receipts to the bank as soon
as practicable. A company must periodically prove the balance shown in the general ledger by counting the cash actually present in the office—petty cash, change funds, and undeposited receipts—for comparison with the company records
*Bank Reconciliation
*27 A basic cash control is preparation of a monthly bank reconciliation. The bank reconciliation,when properly prepared, proves that the cash balance per bank and the cash balance perbook are in agreement. The items that cause the bank and book balances to differ, andthus require preparation of a bank reconciliation, are the following:
d Bank Credits Collections or deposits in the company’s account for which the company may not be aware until it receives the bank statement
Trang 12e Bank or Depositor Errors Errors made by the company or the bank that must be corrected for the reconciliation to balance.
*28 Two forms of bank reconciliation may be prepared. One form reconciles from the bankstatement balance to the book balance or vice versa. The other form is described as the reconciliation of bank and book balances to corrected cash balance. This form is
composed of two separate sections that begin with the bank balance and book balance,respectively. Reconciling items that apply to the bank balance are added and subtracted
to arrive at the corrected cash balance. Likewise, reconciling items that apply to the bookbalance are added and subtracted to arrive at the same corrected cash balance. Thecorrected cash balance is the amount that should be shown on the balance sheet at thereconciliation date
*Impairments of Receivables
*29 (S.O. 11) A loan receivable is considered impaired when it is probable, based on currentinformation and events, that the company will be unable to collect all amounts due (bothprincipal and interest). If a loan is determined to be individually impaired, the loss due tothe impairment is calculated as the difference between the investment in the loan(generally the principal plus accrued interest) and the expected future cash flowsdiscounted at the loan’s historical effective interest rate
Trang 13Chapter 7, the first of six asset chapters, covers cash, accounts receivable, and notes receivable.This chapter can be covered in two class sessions. With the exception of transfers of receivableswith and without recourse, students should have had previous exposure to the chapter concepts
b Examples of cash equivalents include Treasury bills, commercial paper,money market funds, money market savings certificates, certificates of deposit,and similar types of deposits are nearly “equivalent to cash” in terms of liquidity.However, if these securities contain restrictions or penalties on their conversion tocash, they should be reported as temporary investments.
c It now appears likely that the FASB will eliminate the cashequivalent classificationfrom financial statement presentations altogether
a Cash restricted for some special purpose (such as the retirement of bonds) isreported separately in either the current assets section or the longterm assets
section of the balance sheet, depending on the date of availability or disbursement
b The SEC recommends that legally restricted deposits held as compensating balances against borrowing arrangements be reported separately in either the current assets section or the noncurrent assets section, depending on whether
the borrowing arrangement is shortterm or longterm
Trang 143 Interest Element Theoretically, receivables should be measured at their present value, but the accounting profession has chosen to ignore the implicit interest element inreceivables which are due within one year.
E (L.O. 5) Accounts Receivable— Valuation Issues. Companies value and report receivables
at net realizable value (the net amount they expect to receive in cash).
1 Methods of accounting for uncollectible accounts:
Trang 15a Direct writeoff method—When a specific account is determined to be uncollectible
(which may not occur in the period of sale), Bad Debt Expense is debited andAccounts Receivable is credited. This method is theoretically deficient because it:(1) fails to match costs with revenues of the period
(2) does not result in receivables being stated at net realizable value in thebalance sheet
of expected losses from uncollectible accounts. This estimate is debited to BadDebt Expense and credited to the Allowance for Doubtful Accounts. This method
is justified because a company has experienced a loss the moment customersreceive goods or services for which they will never pay. This is true even if thespecific identity of such customers will not be known for some time
(1) Methods of estimating bad debt expense under the allowance method
T EACHING T IP Illustration 71 emphasizes the computational difference in estimating Bad Debt Expense
T EACHING T IP Illustration 72 provides a numerical example of estimating bad debt expense using the