1. FINANCIAL ACCOUNTING A USER PERSPECTIVE Hoskin Fizzell Davidson Second Canadian Edition

2. Cash, Temporary Investments, and Accounts & Notes Receivable Chapter Six

3. Cash Asset with probable future value Purchasing power –Ability to be exchanged for goods and services in the future Medium of exchange Difficult to control –Need for internal control procedures

4. Cash Valuation Methods Record at face value –Value is assumed not to change Unit-of-measure assumption –Canadian practise –Results of a company’s activities can be measured by a monetary unit - the Canadian dollar

5. Internal Control Systems Control to prevent loss or theft Safeguarding of all assets Policies and procedures established for –cash- supplies- buildings –inventory- equipment

6. Internal Control Systems Effective systems should include: –Physical measures to guard against theft and vandalism –Separation of duties –An effective record-keeping system

7. Internal Control Systems Bank reconciliation –Ensures that the accounting records agree with the bank records –Differences may be due to timing, incomplete data, and errors –Normally made every month

8. Bank Reconciliation For the Month of March

9. Bank Reconciliation The appropriate cash balance is $9,550.87 Journal entry to adjust the cash account SE-Bank charge expense 25.75 A-Accounts receivable 186.80 A-Cash 212.55

10. Bank Reconciliation Reconciling items include: –Outstanding cheques –Outstanding deposits –Bank service charges –Errors in recording items –Any other item that affects cash

11. Control Measures The person who reconciles the bank account should not be the person who is responsible for the bank account or the accounting records Sufficient cash should be readily accessible to pay expenses

12. Temporary Investments Cash may be invested in marketable securities: –Debt or equity interest in another entity –Two sources of future value Periodic payments Value when sold in the future

13. Valuation Methods Historical cost –Changes in market value have no effect –A realized gain or loss is recognized when the securities are sold

14. Valuation Methods Market cost –Changes in market value are recognized as unrealized gains or losses –Other income is recognized when interest or a dividend is received

15. Valuation Methods Canadian practice: –Lower of cost and market (LCM) Temporary investments shown at cost If market value has declined below cost, then shown at market value

16. Initial Acquisition Each investment is recorded in its own subsidiary account A-Investment in HTMS 10,000 A-Investment in ATS 20,000 A-Investment in LFS 30,000 A-Short-term Investments 60,000 Control account: Short-term investments

17. Initial Acquisition SUBSIDIARY ACCOUNTS A-Investment in HTMS CONTROL ACCOUNT A-Investment in ATS A-Investment in LFS A-Short-term Investments 10,000 60,000 20,000 30,000

18. Dividend/Interest Recognition Recognized each period, as earned Could be accrued, resulting in a receivable A-Cash 1,200 SE-Dividend/interest income 1,200 (income statement account)

19. Unrealized Losses/Recoveries LCM Rule: –Compare the market value of the investments to their original cost –Determine the lower of the two –Carry the investment at this lower value –Apply to entire portfolio or to individual securities

20. Unrealized Losses/Recoveries Cost: $60,000 Market value of portfolio: $57,000 SE-Unrealized loss on valuation of temporary investments 3,000 XA-Valuation allowance for temporary investments 3,000 Affects both the income statement and the balance sheet

21. Unrealized Losses/Recoveries If the market value has increased –Companies can recover unrealized losses –But can never recognize unrealized gains above the original cost

22. Unrealized Losses/Recoveries Market value of portfolio has increased: $62,000 XA-Valuation allowance for temporary investments 3,000 SE-Recovery of unrealized loss on valuation of temporary investments 3,000 The additional $2,000 cannot be recognized

23. Realized Gains and Losses Investment HTMS was sold for $12,000 (Cost had been $10,000) A-Cash 12,000 A-Investment in HTMS 10,000 SE-Realized gain on sale of temporary investment 2,000

24. Disclosure of Temporary Investments December 31 19981997 Marketable securities [Market value $379,542 (1997- $233,794)] 300,593219,292

25. Accounts Receivable Amounts owed from customers as a result of selling goods and services on credit Uncertainty of bad debts

26. Accounts Receivable Valuation Methods Gross payment method –Ignores the effects of bad debts Time value of money to be received Possibility that the receivable will not be paid Factoring:A/R can be sold

27. Accounts Receivable Valuation Methods Canadian practice: –Show receivable at gross less allowances for bad debts and returns

28. Allowance Method Matching concept: –When revenues from a sale are recognized, also recognize all expenses relating to that sale Bad debts are reductions in revenues Companies must estimate uncollectible amounts

29. Allowance Method Allowance for doubtful accounts –Contra account to accounts receivable SE-Bad debt expense 325 XA-Allowance for doubtful accounts 325 Reduces – N et carrying value of A/R – Net income

30. Allowance Method Write-off of an account receivable XA-Allowance for doubtful accounts 300 A-Accounts receivable300

31. Allowance Method Recovery of a previous written off account receivable A-Accounts receivable 50 XA-Allowance for doubtful accounts 50 A-Cash 50 A-Accounts receivable 50

32. Estimating Doubtful Accounts Percentage of credit sales method Aging of accounts receivable method

33. Percentage of Credit Sales Method Assumes that the bad debt expense is based on credit sales Multiply credit sales by an appropriate percentage Percentage is based on collection history

34. Direct Write-Off Method Recognizes the loss from the uncollectible account in the period in which the company decides that the account is uncollectible Violates the matching concept SE-Bad debt expense300 A-Accounts receivable300

35. Notes Receivable Promissory note –Written contract between the maker and the payee –Interest is calculated on the principal amount of the note Collateral –Asset that the payee has the right to receive if the note is defaulted

36. Interest on Notes Receivable Implied interest –Interest is included in the amount stated in the note Explicit –Interest is calculated based on the amount stated in the note

37. Interest on Notes Receivable Short-term notes receivable –Simple-interest calculations Long-term notes receivable –Compound interest calculations

38. Simple-Interest Simple-Interest Formula Interest = Principal x Interest Rate x Time Principal - amount borrowed Interest Rate - stated as a yearly amount Time - stated as a fraction of year

39. Simple-Interest Nov.30: Acceptance of a 12% note, with a maturity of 60 days A-Notes receivable 1,000 A-Accounts receivable1,000 Dec.31: One month’s interest (year end) Interest = $1,000 x 12% x 30/360 A-Interest receivable 10 SE-Interest revenue 10

40. Simple-Interest Jan.31: Accrue interest for January A-Interest receivable 10 SE-Interest revenue 10 Jan.31: Cash payment A-Cash1,020 A-Notes receivable1,000 A-Interest receivable 20

41. Short-Term Liquidity Liquidity –The ability of a company to convert assets into cash to pay liabilities –Quantitative measures Current ratio Quick ratio

42. Current Ratio Current Liabilities Current Assets = Current Ratio = $4,115,116 $2,294,778 = 1.79

43. Quick Ratio Current Liabilities Current Assets - Inventory - Prepaid Expenses = Quick Ratio = $4,115,116 - 2,050,703 - 433,785 $2,294,778 =.71

44. Accounts Receivable Turnover A/R Turnover Average A/R Total Sales Revenue = A/R Turnover for 1999 = 26,466,241 (1,548,486+1,302,336)/2 = 18.57 A/R Turnover for 1998 19.52 =