Cash and Receivables

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Cash and Receivables

• CHAPTER 7

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Cash
Amounts on deposit with financial institutions
Coins and currency
Petty cash
Cashiers checks
Certified checks
Money orders
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Cash Equivalents
Items very near cash but not in negotiable
form Treasury bills Commercial paper Money
market funds
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Internal Control
Encourages adherence to company policies and
procedures
Promotes operational efficiency
Minimizes errors and theft
Enhances the reliability and accuracy of
accounting data
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Control of Cash Receipts

• Separate responsibility for
• handling cash,
• recording cash transactions, and
• reconciling cash balances.
• Agree cash amounts deposited with cash amounts
  received.
• Close supervision of cash-handling and
  cash-recording activities.

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Control of Cash Disbursements

• Separate responsibilities for
• cash disbursement documents,
• check writing,
• check signing,
• check mailing, and
• record keeping.
• All disbursements, except petty cash, made by
  check.

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Bank Reconciliation

• Bank reconciliations are prepared periodically to
  explain the difference between cash reported on
  the bank statement and the cash balance on
  companys books.

Why are the balances different?

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Bank Reconciliation
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Bank Reconciliation
All reconciling items on the book side require an
adjusting entry to the cash account.
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Bank Reconciliation

• Prepare a July 31 bank reconciliation statement
  and the resulting journal entries for the Simmons
  Company. The July 31 bank statement indicated a
  cash balance of 9,610, while the cash ledger
  account on that date shows a balance of 7,430.
• Additional information necessary for the
  reconciliation is shown on the next page.

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• Outstanding checks totaled 2,417.
• A 500 check mailed to the bank for deposit had
  not reached the bank at the statement date.
• The bank returned a customers NSF check for 225
  received as payment of an account receivable.
• The bank statement showed 30 interest earned on
  the bank balance for the month of July.
• Check 781 for supplies cleared the bank for 268
  but was erroneously recorded in our books as
  240.
• A 486 deposit by Acme Company was erroneously
  credited to our account by the bank.

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Bank Reconciliation
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Petty Cash
Imprest fund providing limited cash for routine
disbursements.
Intended for payment of Minor transportation
costs. Postage. Office supplies. Delivery charges.
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Petty Cash

• Only entries to Petty Cash
• Establish the fund.
• Increase, decrease or close fund.

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Petty Cash

• Jackson Company maintains a petty cash fund of
  400. The following summary information was
  taken from petty cash vouchers for July
• Travel Expenses 79.30
• Customer Business Lunches 93.42
• Express Mail Postage 55.00
• Miscellaneous Office Supplies 32.48
• Prepare the journal entry to record replenishing
  fund if the balance on July 31 was 137.80.

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Petty Cash
What amount of cash will be required to
replenish the petty cash fund? a. 260.20 b. 2
62.20 c. 139.80 d. 137.80
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Petty Cash
What amount of cash will be required to
replenish the petty cash fund? a. 260.20 b. 2
62.20 c. 139.80 d. 137.80
Desired Balance 400.00 Actual
Balance 137.80 Amount Needed
262.20
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Petty Cash
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Restricted Cash and Compensating Balances

• Restricted Cash
• Managements intent to use a certain amount of
  cash for a specific purpose.
• Compensating Balance
• Minimum balance that must be maintained in a
  companys account as support for funds borrowed
  from the bank.

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Accounts Receivable

• Amounts due from customers for credit sales.
• Credit sales require
• Maintaining a separate account receivable for
  each customer.
• Accounting for bad debts that result from credit
  sales.

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Cash Discounts
Increase sales.
Encourage early payment.
Cash discounts . . .
Increase likelihood of collections.
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Cash Discounts
2/10,n/30
Number of Days Discount is Available
Otherwise, Net (or All) is Due
CreditPeriod
Discount Percent
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Cash Discounts
Sales are recorded at the invoice amounts.
Gross Method
Sales discounts are recorded if payment is
received within the discount period.
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Cash Discounts
Net Method
Sales are recorded at the invoice amount less the
discount.
Sales discounts forfeited are recorded if payment
is received after the discount period.
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Cash Discounts

• On May 10, Eddy, Inc. sold 5,000 of
  merchandise to a customer subject to a cash
  discount of 1/10, n/30. Eddy uses the periodic
  method to account for inventory.
• Prepare the journal entry to record the sale if
  Eddy uses
• (a) the gross method.
• (b) the net method.

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Cash Discounts
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Cash Discounts

• Assume that on May 19, Eddy, Inc. received a
  check in full payment of the sale made on May 10.
  
• Prepare the journal entry to record the cash
  receipt if Eddy uses
• (a) the gross method.
• (b) the net method.

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Cash Discounts
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Cash Discounts

• Instead of the payment on May 19, now assume that
  Eddy, Inc. received a check on May 31, in full
  payment of the sale made on May 10. Prepare the
  journal entry to record the cash receipt if Eddy
  uses
• (a) the gross method.
• (b) the net method.

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Cash Discounts
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Sales Returns and Allowances
Sales Returns
Sales Allowance
Merchandise returned by a customer to a supplier.
A reduction in the cost of defective merchandise.
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Sales Returns and Allowances

• On June 1, a customer of LarCo returns 750 of
  merchandise that was damaged. LarCo uses the
  periodic method to account for inventory.
• Record the journal entry for the return of
  merchandise.

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Sales Returns and Allowances
Sales Returns and Allowances is a contra account
that reduces Sales Revenue in the current
accounting period.
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Uncollectible Accounts Receivable

• Bad debts result from credit customers who will
  not pay the business the amount they owe,
  regardless of continuing collection efforts.

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Uncollectible Accounts Receivable

• In conformity with the matching principle, bad
  debt expense should be recorded in the same
  accounting period in which the sales related to
  the uncollectible account were recorded.

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Uncollectible Accounts Receivable

• Most businesses record an estimate of the bad
  debt expense by an adjusting entry at the end of
  the accounting period.

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Uncollectible Accounts Receivable
Bad debt expense is normally classified as a
selling expense and is closed at year-end.
The Allowance for Uncollectible Accounts is a
contra asset account to Accounts Receivable.
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Allowance for Uncollectible Accounts
Accounts Receivable Less Allowance for
Uncollectible Accounts Net Realizable Value

• The net realizable value is the amount of the
  accounts receivable that the business expects to
  collect.

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Estimating Bad Debts

• Income Statement Approach
• Balance Sheet Approach
• Composite Rate
• Aging of Receivables

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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
  periods credit sales.

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Income Statement Approach

• Bad debts expense is computed as follows

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Income Statement Approach
In 2001, MusicLand has credit sales of 400,000
and estimates that 0.6 of credit sales are
uncollectible. What is Bad Debts Expense for 2001?
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Income Statement Approach
MusicLand computes estimated Bad Debts Expense of
2,400.
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Balance Sheet Approach

• Focuses on the collectibility 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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Balance Sheet ApproachComposite Rate

• Compute the estimate of the Allowance for
  Uncollectible Accounts.
• Bad Debts Expense is computed as

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Balance Sheet ApproachComposite Rate
On Dec. 31, 2001, MusicLand has 50,000 in
Accounts Receivable and a 200 credit balance in
Allowance for Uncollectible Accounts. Past
experience suggests that 5 of receivables are
uncollectible. What is MusicLands Bad Debts
Expense for 2001?
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Balance Sheet ApproachComposite Rate
Desired balance in Allowance for Uncollectible
Accounts
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Now, lets look at the accounts receivable aging
approach!
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Balance Sheet Approach Aging of Receivables

• Year-end Accounts Receivable is broken down into
  age classifications.

• Each age grouping has a different likelihood of
  being uncollectible.

• Compute estimated uncollectible amount.

• Compare estimated uncollectible amount with the
  balance in the allowance account.

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Balance Sheet Approach Aging of Receivables
At December 31, 2001, the receivables for EastCo,
Inc. were categorized as follows

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Balance Sheet Approach Aging of Receivables
EastCos unadjusted balance in the allowance
account is 500. Per the previous computation,
the desired balance is 1,350.

Prepare the entry to record bad debts expense at
Dec. 31, 2001.
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Balance Sheet Approach Aging of Receivables
EastCos unadjusted balance in the allowance
account is 500. Per the previous computation,
the desired balance is 1,350.

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Methods to Estimate Bad Debts
Income Statement Focus
Balance Sheet Focus
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Uncollectible Accounts

• As accounts become uncollectible, the following
  entry is made

So what happens if someone pays after a write-off
of the accounts receivable?
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Collection of Previously Written-Off Accounts

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

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Direct Write-Off Method

• If uncollectible accounts are immaterial, bad
  debts are simply recorded as they occur (without
  the use of an allowance account).

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Lets move to a new challenge.
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Notes Receivable
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Notes Receivable
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Interest Computation
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Interest-Bearing Notes

• On November 1, 2000, Winn, Inc. loans 25,000 to
  Westward, Co. The note bears interest at 12 and
  is due on November 1, 2001.
• Prepare the journal entry on November 1, 2000,
  December 31, 2000, (year-end) and November 1,
  2001.

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Interest-Bearing Notes
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Interest-Bearing Notes
25,000 12 3,000 - 500 2,500
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Noninterest-Bearing Notes

• 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

• On January 1, 2000, Winn, Inc. accepted a 25,000
  noninterest-bearing note from Westward, Co as
  payment for a sale. The note is discounted at
  12 and is due on December 31, 2000.
• Prepare the journal entries on January 1, 2000,
  and December 31, 2000.

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Noninterest-Bearing Notes
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Financing With Receivables

• Assigning
• Factoring
• Discounting

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Assigning Accounts Receivable

• Merely a promise by the borrower (owner of
  receivables) that any failure to repay debt will
  result in proceeds from accounts receivable
  collections being used to repay the debt.
• Reclassify Accounts Receivable as Accounts
  Receivable Assigned.

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Factoring Accounts Receivable
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Factoring Accounts Receivable

• Factoring without recourse
• An ordinary sale of receivables to the factor.
• Control of receivable passes to the factor.
• Receivables are removed from our books, cash is
  received and a financing expense or loss is
  recognized.

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Factoring Accounts Receivable

• Factoring with recourse -- to be recognized as a
  sale . . .
• The transferred assets have been isolated from
  the transferor.
• The transferee has the right to pledge or
  exchange the assets.
• The transferor does not maintain effective
  control over the transferred assets through any
  agreements.

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Factoring Accounts Receivable

• Factoring with recourse -- to be recognized as a
  loan . . .
• If the transaction fails to meet the three
  conditions necessary to be classified as a sale,
  the agreement will be treated as a loan.

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Discounting Receivables

• On May 31, Apex discounts a customers 25,000
  receivable at the bank. The receivable was dated
  May 1 and matures in 90 days. The receivable
  bears interest at 12 and the bank charges a
  discount of 15 on the maturity value of the
  receivable.
• Prepare the journal entry to record the
  discounting of the receivable.

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Discounting Receivables
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End of Chapter 7