PowerPoint Authors:Susan Coomer Galbreath, Ph.D., CPACharles W. Caldwell, D.B.A., CMAJon A. Booker, Ph.D., CPA, CIACynthia J. Rooney, Ph.D., CPA

Cash and Receivables

7

Copyright © 2011 by the McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/Irwin

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Page 338

Balances inchecking accounts

Balances inchecking accounts

Currency and coinsCurrency and coins

Cash equivalents are short-term, highly liquid investments that can be readily converted to cash.

Cash equivalents are short-term, highly liquid investments that can be readily converted to cash.

Money marketfunds

Money marketfunds Treasury billsTreasury bills Commercial

paperCommercial

paper

CashCash

Items for deposit such as checks and money orders

from customers

Items for deposit such as checks and money orders

from customers

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Internal Control (page 239)

Encourages adherence to company policiesand procedures

Encourages adherence to company policiesand procedures

Promotes operational efficiency

Promotes operational efficiency

Minimizes errorsand theft

Minimizes errorsand theft

Enhances the reliability and accuracy of accounting dataEnhances the reliability and accuracy of accounting data

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U.S. GAAP vs. IFRS

• Bank overdrafts are treated as liabilities.

In general, cash and cash equivalents aretreated similarly under IFRS and U.S. GAAP. One difference

is highlighted below.

• Bank overdrafts may be offset against other cash accounts.

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Accounts Receivable(page 342-368)

Result from the credit sales of goods or

services to customers.

Are classified as current assets.

1) Are recorded net of trade discounts

2) Cash discounts??

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2/10,n/302/10,n/30Number of

days discount is available

Number of days

discount is available

Otherwise, net (or all)

is due

Otherwise, net (or all)

is due

CreditperiodCreditperiod

Discount percent

Discount percent

Cash Discounts (pages 343-344)(note: gross & net methods)

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Example of accounting for sales discounts

• Use Exercise 7-4 on page 377– Gross method– Net method

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Cash Discounts (see entries on p.343)

Sales are recorded at the invoice

amounts.

Sales are recorded at the invoice

amounts.

Sales discounts taken are recorded as reduction of revenue if payment is

received within the discount period.

Sales discounts taken are recorded as reduction of revenue if payment is

received within the discount period.

Gross Method

Sales are recorded at the invoice amount less the discount.

Sales are recorded at the invoice amount less the discount.

Sales discounts forfeited are recorded

as interest revenue if payment is received after

the discount period.

Sales discounts forfeited are recorded

as interest revenue if payment is received after

the discount period.

Net Method

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Merchandise may be

returned by a customer to a supplier.

A special price reduction, called

an allowance, may be given as an incentive to

keep the merchandise.

Sales Returns (pages 344-346)

sales revenue and accounts receivable should be reduced by the amount of returns

in the period of sale

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Uncollectible Accounts Receivable(pages 347-352)

PAST DUE

In conformity with

the matching principle:• bad debt expense should be

recorded • in the same accounting period in

which the related sales were recorded

In conformity with

the matching principle:• bad debt expense should be

recorded • in the same accounting period in

which the related sales were recorded

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Allowance for Uncollectible Accounts

Net realizable value is the amount of the accounts receivable that the business expects to collect.

Accounts Receivable

Less: Allowance for Uncollectible Accounts

Net Realizable Value

Accounts Receivable

Less: Allowance for Uncollectible Accounts

Net Realizable Value

Income Statement ApproachBalance Sheet Approach

◦ Composite Rate◦ Aging of Receivables

Income Statement ApproachBalance Sheet Approach

◦ Composite Rate◦ Aging of Receivables

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Example of accounting for bad debts

• Use P7-4 on page 386– Journal entries– Base calculation on percentage of sales– Base calculation on accounts receivable

balance– Analyze activity in key accounts

• The asset account• The allowance account

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Summary: Income Statement Approach• Focuses on past credit sales to make

estimate of bad debt expense.

• Emphasizes the matching principle by estimating the bad debt expense associated with the current period’s credit sales.

• Focuses on past credit sales to make estimate of bad debt expense.

• Emphasizes the matching principle by estimating the bad debt expense associated with the current period’s credit sales.

Bad debt expense is computed as follows: Bad debt expense is computed as follows:

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Summary: Balance Sheet Approach

• Focuses on the collectability of accounts receivable to make the estimate of uncollectible accounts.

• Involves the direct computation of the desired balance in the allowance for uncollectible accounts.

• Focuses on the collectability of accounts receivable to make the estimate of uncollectible accounts.

• Involves the direct computation of the desired balance in the allowance for uncollectible accounts.

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Illustration 7-3a, page 348

• The “Aging Schedule”

– Step #1 – breakdown by customer / age

– Step #2 – apply percentages to the “age groups”

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Journal entries forUncollectible Accounts

1) As specific accounts become known to be uncollectible:

2) When a customer makes a payment after an account has been written off, two journal entries are required.

Allowance for uncollectible accounts 500Accounts receivable 500

a) Accounts receivable 500Allowance for uncollectible accounts 500

b) Cash 500 Accounts receivable 500

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Notes Receivable – Regular(pages 352-355)

A written promise to pay a specificamount at a specific future date.

Even for maturities less than 1 year, the

rate is annualized.

Even for maturities less than 1 year, the

rate is annualized.

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NOTE RECEIVABLE JOURNAL ENTRIES:

A) USE EXERCISE 7-12 (PAGE 378) AND,B) TEXT EXAMPLE: PAGE 352-3

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“Noninterest-Bearing Notes” (pages 353-354)

Actually do bear interest.

Interest is deducted (discounted) from the face value of the note.

Cash proceeds equal face value of note less discount.

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NONINTEREST-BEARING NOTES:

A) USE EXERCISE 7-13 (PAGE 379)B) ALSO: SEE TEXT EXAMPLE: PAGE 353

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U.S. GAAP vs. IFRS

• U.S. GAAP does not allow receivables to be accounted for as “available for sale” investments.

• U.S. GAAP requires more disaggregation of accounts and notes receivable in the balance sheet or notes.

In general, IFRS and U.S. GAAP are very similar with respect to accounts receivable and notes receivable. Differences are

highlighted below.

• In the years between 2010 and 2012, companies may account for receivables as “available for sale” investments if the approach is elected initially.

• After January 1, 2013, this treatment is no longer allowed.

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Financing With Receivables(pages 356-364)

a) Companies may use their receivables to obtain immediate cash.

b) two ways to “do the deal”

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• 1) IF IT IS A SECURED BORROWING – MAY BE AN “ASSIGNING” OR “PLEDGING” OF RECEIVABLES

SEE ILLUS 7-5 & GRAPHIC 7-7 (PAGES 357 &358)

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2) Sale of Receivables

Treat as a sale if all of these conditions are met:receivables are isolated from transferor.transferee has right to pledge or exchange

receivables.transferor does not have control over the

receivables. Transferor cannot repurchase

receivable before maturity. Transferor cannot require return

of specific receivables.

Treat as a sale if all of these conditions are met:receivables are isolated from transferor.transferee has right to pledge or exchange

receivables.transferor does not have control over the

receivables. Transferor cannot repurchase

receivable before maturity. Transferor cannot require return

of specific receivables.

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Sale of Receivables to a FactorWithout recourse• Factor assumes all risk of uncollectibility. • Control of receivable passes to the factor.• Receivables are removed from the books, fair value of

cash and other assets received is recorded, and a financing expense or loss is recognized.

Without recourse• Factor assumes all risk of uncollectibility. • Control of receivable passes to the factor.• Receivables are removed from the books, fair value of

cash and other assets received is recorded, and a financing expense or loss is recognized.

With recourse• Transferor (seller) retains risk of uncollectibility.• If the transaction fails to meet the three conditions

necessary to be classified as a sale, it will be treated as a secured borrowing.

With recourse• Transferor (seller) retains risk of uncollectibility.• If the transaction fails to meet the three conditions

necessary to be classified as a sale, it will be treated as a secured borrowing.

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SALE OF RECEIVABLES (“FACTORING”)

1) WITHOUT RECOURSE - ILLUS 7-6: P. 360 2) WITH RECOURSE – ILLUS 7-7: P.360

REFER TO DR J’S EXCEL WORKSHEET

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Transfers of Notes Receivable(pages 361-365)

• Illustration 7-8 – page 361• Stridewell receives note in exchange for land• Three months later, Stridewell discounted the

note @ The Bank• See illustration for the accounting entry

assuming sale treatment

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Deciding Whether to Account for a Transfer as a Sale or a Secured Borrowing

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Recall ….

Treat as a sale if all of these conditions are met:receivables are isolated from transferor.transferee has right to pledge or exchange

receivables.transferor does not have control over the

receivables. Transferor cannot repurchase

receivable before maturity. Transferor cannot require return

of specific receivables.

Treat as a sale if all of these conditions are met:receivables are isolated from transferor.transferee has right to pledge or exchange

receivables.transferor does not have control over the

receivables. Transferor cannot repurchase

receivable before maturity. Transferor cannot require return

of specific receivables.

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U.S. GAAP vs. IFRS

• U.S. GAAP focuses on whether control of assets has shifted from the transferor to the transferee.

The U.S. GAAP and the IFRS approaches often lead to similar accounting treatment for transfers

of receivables.

• The company has to have transferred the rights to receive the cash flows from the receivable, and

• considers whether the company has transferred “substantially all of the risks and rewards of ownership,” as well as whether the company has transferred control.

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This ratio measures how many times a company converts its

receivables into cash each year.

Net Sales Average Accounts Receivable

ReceivablesTurnover

Ratio=

This ratio is an approximation of the number of days the average accounts

receivable balance is outstanding.

365 Receivables Turnover Ratio

Average Collection

Period=

Receivables Management

End of Chapter 7