Presentation on theme: "ACG 2021 Financial Accounting"— Presentation transcript:
1 ACG 2021 Financial Accounting Chapter 5 – Accounting for Short-Term Investments and Accounts Receivable
2 Short-Term Investments Next most liquid Asset after CashInvestments that a company plans to hold for one year or less.Three Types:Held-to-maturity securitiesUsually Cash LoansTrading investmentsStocks or BondsAvailable-for-sale investmentsDiscussed later(Held-to-maturity and available-for-sale securities could also be long-term.)
3 Trading Investments Use of Excess Cash Buy Low, Sell High Most often, stock or bonds of another company
4 Held-to-Maturity Investments Typically Note ReceivableBusiness organization lends excess cash, expecting interest in returnInvestor expects to hold until maturity dateThese Investments earn interest revenue for the investor
5 Reporting Short-Term Investments Balance SheetCurrent AssetsTrading investments reported at current market valueIncome StatementInterest and dividend revenue reported under Other Revenue.Gains and losses reported under Other Revenue.Including Unrealized Gains and Losses
6 Accounting for Trading Investments Record PurchaseAdjust at end of period to Market ValueUnrealized GainIncreases Trading Investment balance (debit)Unrealized LossDecreases Trading Investment balance (credit)Record SaleCompare Sale price to ENDING balanceWhich includes all previous adjustments to market valueSale price > ENDING balance = GainSale price < Ending balance = Loss
7 Accounting for Trading Investments Investments that can be tradedStocks, BondsOracle Corporation purchases Ford Motor Company stock on May 18, paying $100,000, with the intention of selling the stock within a few months.May 18 Short-term investment 100,000Cash 100,000Purchased investment
8 Accounting for Unrealized Gain/(Loss) Oracle fiscal year ends on May 31, and the investment in Ford has a current market value of $102,000 on this date.May 31 Short-Term Investment 2,000Unrealized Gain on Investments ,000Adjusted investment to market value
9 Short-Term Investments Cost 100,000Adjustment tomarket value 2,000Balance 102,000What happens if at the next reporting period, if we sellFord’s stock for $105,000? What’s the entry?What if we sell the stock for $95,000? What’s the entry?
10 Realized Gain / (Loss) When Investor Sells Asset Realized Gain Sales Price > Investment BalanceRealized LossSales Price < InvestmentCash ,000Short-Term Invest 102,000Gain on Sale of Invest ,000Sold at a gainCash ,000Loss on Sale of Invest ,000Short-Term Invest 102,000Sold at a loss
11 Accounting for Dividends Rcv’d On May 27, Oracle receives a cash dividend of $4,000 from Ford.May 27 Cash 4,000Dividend revenue 4,000Received cash dividend
12 Reporting on the Balance Sheet and the Income Statement
14 Receivables Receivables are the 3rd most liquid Assets after: CashShort-term InvestmentsReceivables are monetary claims against the business organization customers.Business organization extends credit to customers to make a saleHow many business do you know where you can only pay with cash?Two major types:Accounts receivable (trade receivables) – amount to be collected from customers from the sale of goods and servicesNotes receivable – written promise to paySecuredCollateralized loanUnsecured
15 Issues When Extending Credit BenefitsIncrease Sales VolumeGrow market shareGrow BusinessConsequencesCustomers take a long time to payRatio: Days Sales in ReceivablesCustomers don’t pay at allAdditional expense from management of collection processHigher risk of $’s being stolen by employee
16 Accounting for Accounts Receivable Main Account Receivable AccountDebits are for new amounts owed by ALL customersCredits are for payments made by ALL customersAccount balance is total owed by ALL customersSubsidiary Account ReceivablesSeparate accounts maintained for each customerDebits are only for new amounts owed by particular customerCredits are only for payments paid by particular customerAccount balance is total owed by particular customer
17 Accounts Receivable Accounts Receivable Bal. 9,000 Aston Bal. 5,000 GENERAL LEDGERAccounts ReceivableBal. 9,000ACCOUNTS RECEIVABLESUBSIDIARY RECORDAstonBal. 5,000HarrisSalazarBal. 1,000Bal. 3,000
18 Issues in Accounting for Receivables Measure and report receivables at net realizable value.The amount the business organization expects to collectTotal Accounts receivable – Estimated Uncollectible $’sEstimate reduces Accounts Receivable (credit) and creates an expense (debit)Measure and report the expense associated with failure to collect.Why? What accounting principle requires us to report this expense?Matching: Must match costs with revenues that the costs generate…Extending credit creates revenue, we must record the cost of extending creditTwo accounting methods for recording uncollectible accounts receivableAllowance Method (based on Estimation)Estimation technique #1: Percent of SalesEstimation technique #2: Aging of Accounts ReceivableDirect Write-off Method
19 Uncollectible Receivables Allowance methodrecord losses based on an estimate of uncollectible accounts.Percent-of-sales methodcomputes expense as a percent of revenueincome statement approachAging-of-receivables methodComputes ending allowance account balanceindividual receivables are analyzed based on how long they have been outstandingbalance sheet approach
20 Contra Accounts Allowance account = Contra Accounts Receivable Contra Account is related to a “main” accountContra Account has opposite normal balance from “main” accountAccounts Receivable = Assets = Normal Debit BalanceAllowance for Uncollectible Accounts = Contra Asset = Normal Credit BalanceAccounts Receivable – Allowance for Uncollectible Accounts = Net Realizable Value
21 Estimating Uncollectible A/R We need 3 T-AccountsBad Debt Expense (debit)Cost of not collecting A/R’sAllowance for Uncollectible Accounts (credit)Contra account that indicates what we expect not to collectAccounts Receivable (no adjustment, used to calculate NRV)Total (Gross) amount owed by customersStep 1: Determine EstimateKnow what that estimate isStep 2: Record Estimate% of SalesDebit Bad Debt ExpenseCredit Allowance for Uncollectible AccountsAging of A/RNew Ending Balance in Allowance AccountSubtract Beginning Balance from Ending Balance =
22 Uncollectible Accounts Percent-of-SalesTotal sales are $33,000. The credit department estimates that uncollectible-account expense is 1% of total revenues.Dec 31 Uncollectible-Account Expense($33,000 x .01) 330Allowance for Uncollectible Accounts 330Recorded expense for the yearAllowance forUncollectible AccountsAccounts Receivable3,105NetAccounts Receivable$3,105 – 350 = $2,75520330Bal. 3,105Bal
24 Aging-of-Receivables Dec 31 Uncollectible-Account Expense 214Allowance for Uncollectible Accounts 214Recorded expense for the yearAllowance forUncollectible AccountsAccounts Receivable3,105NetAccounts Receivable$3,105 – 384 = $2,721170214Bal. 3,105BalEnd Bal (384) – Beg Bal (170) = Expense (214)
25 Aging-of-Receivables Current balance in allowance account is $170.Calculate the adjustment needed to bring the balance to $384.Expense: $384 – $170 = $214
26 Financial Statements using The Allowance Method Balance Sheet (partial)Accounts receivable $10,000Less: Allowance for uncollectible accounts – 900Accounts receivable, net $ 9,100Accounts receivable, net of allowance for doubtful accounts of $701 and $767 atDecember 31, 2005 and 2006, respectively , ,394Income Statement (partial)Expenses:Uncollectible-account expense $ 2,000
27 Writing off Uncollectible Accounts Decrease the Allowance account and remove the account receivable.Mar 31 Allowance for Uncollectible AccountsAccounts Receivable 100What is the effect on total assets?Why is there no expense recorded?
29 Direct Write-Off Method No allowance is established and the expense is recognized when accounts are written off.Mar 31 Uncollectible Account ExpenseAccounts ReceivableAccounts Receivable – Sarasota Pipe 61Accounts Receivable – Miller Auto Sales 39
30 Direct Write-Off Method Assets are overstated on the balance sheet because no allowance account is used.Poor matching of uncollectible-account expense against revenue. Net income is overstated.
31 Basic Accounting for Accounts Receivable Provided $1,000 Goods/Services on accountAccounts Receivable 1,000Sales Revenue ,000Receive $1,000 payment from customer on accountCash ,000Accounts Receivable ,000
32 ACG 2021 Financial Accounting Accounting for Notes Receivable and Cash Flow Issues
33 Some Definitions Creditor Debtor Debt Instrument Equity Security Who the money is owed toDebtorWho owes the moneyDebt InstrumentLegal Document representing debtRepresented by a payable for the debtorRepresented by a receivable for the creditorEquity SecurityStock certificate, ownership of a corporationMaturityDate when debt instrument must be paidTermTime from inception to maturity of debt instrumentIf < 1 year, listed as Current Asset / LiabilityIf > 1 yearCurrent Portion is Current Asset / LiabilityPortion due after 1 year is Long term Asset/Liability
34 Notes Receivable Creditor has a note receivable. Debtor has a note payable.Principal is the amount borrowed.Interest is revenue to the lender/creditor and expense to the borrower/debtor.Accrues over the period of the noteIf period straddles two accounting periodsAdjusting Entry must be made to reflect interest earned during each period – recall accrued revenues.
35 Notes Receivable Notes Receivable – L. Holland 1,000 Cash 1,000 Laura Holland signs a $1,000 note dated Aug. 31, 20X5 with a maturity date of Feb. 28, 20X6. To record this on the bank’s books: (How many months is this loan for? How many accounting periods does it cover?Notes Receivable – L. Holland 1,000Cash 1,000Made a loanTo record interest earned at Dec. 31, 20X5:Interest Receivable (1,000 x .09 x 4/12) 30Interest Revenue 30Accrued interest revenue
36 Notes Receivable To record collection of the note on Feb. 28, 20X6: Cash 1,045Note Receivable – L. Holland 1,000Interest Receivable 30Interest Revenue (1,000 x .09 x 2/12) 15Collected note at maturity
37 How to Speed Up Cash Flow Credit card or bankcard salesSelling receivables (Factoring)Discounting notes receivable
40 Reporting on the Statement of Cash Flows Receivables bring in cash when the business collects from customers.Operating ActivitiesInvestment transactions change CashInvesting Activities
41 ACG 2021 Financial Accounting Acid Test & Days Sales in Receivables Ratios
42 Ratios Acid Test Ratio = Day’s Sales in Receivables = Cash + ST Investments + Net ReceivablesAcid Test Ratio =Total Current LiabilitiesAverage Net Accounts ReceivableDay’s Sales in Receivables =Average Daily Sales
43 Acid-Test Ratio A stringent test of liquidity Measures entity’s ability to pay its current liabilities immediately
44 Days’ Sales in Receivables How long does it take to collect the average receivables for an organization?Step 1: Determine Organizations sales for a single dayOne day’s sales = Net sales ÷ 365 daysStep 2: Determine Organizations Average Receivables(Beginning Balance + Ending Balance) / 2Step 3: Calculate RatioA smaller number indicates a quick conversion to cash.
45 BBBB and BBY Ratios BlackBoard Best Buy Acid Test FYE FYEDay’s Sales in ReceivablesFYEBest BuyFYE FYEFYE