1. 1 Chapter 6 Investments and Receivables Financial Accounting, Alternate 4e by Porter and Norton

2. 2 PepsiCo Inc. Consolidated Balance Sheet (partial) ASSETS (in millions) Dec. 28 Dec. 29 2002 2001. Current Assets: Cash and cash equivalents $1,638 $ 683 Short-term investments, at cost 207 966 1,845 1,649 Accounts & notes receivable 2,531 2,142 Inventories 1,342 1,310 Prepaid expenses & other assets 695 752 Total Current Assets $6,413 $5,853 selling on credit highly liquid

3. 3 PepsiCo Inc. Consolidated Balance Sheet (partial) ASSETS (in millions) Current Assets: Cash and cash equivalents Short-term investments, at cost Accounts and notes receivable Inventories Prepaid expenses & other assets Total Current Assets Less Liquid Highly Liquid

4. Investment in CD Assets = Liab. + O/E + Rev. – Exp. Short-term Inv. – CD 100,000 Cash (100,000) Invest $100,000 in a 120-day CD. Principal plus interest @ 6% due upon investment maturity. Example: 4

5. Year-end adjusting entry : Assets = Liab. + O/E + Rev. – Exp. Interest Rec. 1,500 Interest Inc. 1,500 Investment in CD Interest = Principal x Rate x Time $1,500 = $100,000 x 6% x 90/360 5 October – 29 days November – 30 days December – 31 days 90 days

6. Upon investment maturity: Assets = Liab. + O/E + Rev. – Exp. Cash 102,000 Interest Inc. 500 Short-Term Inv. – CD 100,000 Interest Rec. 1,500 Investment in CD 6 Interest earned in January: $100,000 x 6% x 30/360 = $500

7. 7 Reasons Companies Invest in Other Companies l Short-term cash excesses l Long-term investing for future cash needs l Exert influence over investee l Obtain control of investee

8. 8 Accounting for Common-Stock Investments No significant influence 0%20% Fair Value Method Significant influence 50% Equity Method Control 100% Consolidated F/S Our Focus

9. 9 Investments Without Significant Influence l Held-to-Maturity Securities l Trading Securities l Available-for-Sale Securities Use fair value method to account for these investments

10. 10 Held-to-Maturity Securities l Bonds of other companies l Intent and ability to hold until maturity $100,000 9% Bond Due 2019

11. 11 Held-to-Maturity Securities On 1/1/04, Homer buys: l $100,000; 10% bonds @ face value. l Bonds mature December 31, 2013 l Interest payable semiannually. Example: Record the purchase of the bonds and receipt of the first interest payment

12. 12 Recording Bond Purchase Assets = Liab. + O/E + Rev. – Exp. Inv. in Bonds 100,000 Cash (100,000) $100,000 10% Bond Due 2014

13. 13 Recording Receipt of Interest Payment Assets = Liab. + O/E + Rev. – Exp. Cash 5,000 Interest Inc. 500 Interest for Investor Borrower

14. 14 Recording Bond Sale Assets = Liab. + O/E + Rev. – Exp. Cash 99,000 Loss on Sale of Bonds 1,000 Inv. in Bonds (100,000) Interest for Investor Borrower

15. 15 Trading Securities l Purchased to generate profit from short-term appreciation Stocks Bonds 123 45678910 11121314151617 18192021222324 25262829303127 l Intent to sell in near term (classified as current assets)

16. 16 Trading Securities Income Statement l Unrealized gain or loss recognized on income statement l At end of each period, security is “marked to market” Stocks Bonds

17. 17 Trading Securities Dexter Corp. holds the following trading securities at 12/31/04: Cost Market Menlo preferred stock$25,000$27,500 Canby common stock 40,000 39,000 Example: Record the unrealized gain or loss at 12/31/04.

18. 18 Recording Unrealized Gain or Loss on Trading Securities Assets = Liab. + O/E + Rev. – Exp. Inv. in MenloUnrealized Gain – Pref. Stock 2,500 Trading Sec.* 1,500 Inv. in Canby Pref. Stock (1,000) * income statement account

19. 19 Available-for-Sale Securities l Securities not classified as held- to-maturity or trading Stocks Bonds l Can be classified as short-term or long- term, depending on expected date of disposition

20. 20 Available-for-Sale Securities Balance Sheet l Unrealized gain or loss accumulated in stockholders’ equity account l Also “marked to market” at end of accounting period Stocks Bonds

21. 21 Available-for-Sale Securities Lenox Corp. holds the following AFS securities at 12/31/04: CostMarket Adair preferred stock$15,000$16,000 Casey common stock 35,000 32,500 Example: Record the unrealized gain or loss at 12/31/04.

22. 22 Recording Unrealized Gain or Loss on AFS Securities Assets = Liab. + O/E + Rev. – Exp. Inv. in Adair Unrealized Gain/Loss Pref. Stock 1,000 – AFS Sec.* (1,500) Inv. in Casey Com. Stock (2,500) * part of Stockholders’ Equity

23. 23 Accounting for Investments Without Significant Influence RecognizeReportReport FV Categories as incomeon BS atchanges on Held-to-maturityinterestcostN/A Tradinginterest, div.fair valueIncome stmt. Avail.-for-Saleinterest, div.fair valueBalance sheet

24. 24 Credit Sales l Slows inflow of cash l Risk of uncollectible accounts Trade Credit Retail Customer Receivables Terms: 2/10, net 30 Sales Invoice

25. 25 Menkhaus Corporation Sample Accts. Rec. Subsidiary Ledger Total Due ABC Distributors$ 25 HIJ Distributors 336 : XYZ Distributors 108 $ 1,105 Gross Accounts Receivable In 000s

26. 26 Winnebago Industries, Inc. Consolidated Balance Sheet (partial) 2002 2001 Receivables, less allowance for doubtful accounts ($120 and $244, respectively) $28,616 $21,571 Net Realizable Value Estimated Uncollectible Accounts

27. 27 Accounting for Bad Debts: Direct Write-off Method Adjustment to write off uncollectible account: Assets = Liab. + O/E + Rev. – Exp. Accts. Rec. Bad Debts – Dexter (500) Exp. (500) Period of Sale Future Period charged with expense of bad debt write-off 123 45678910 11121314151617 18192021222324 25262829303127

28. 28 Accounting for Bad Debts: Allowance Method Period of Sale Estimated bad debt expense (and allowance account) recorded in same period 123 45678910 11121314151617 18192021222324 25262829303127

29. 29 Roberts Corp. Partial Balance Sheet Current assets: Accounts receivable $ 250,000 Less: Allowance for doubtful accounts ( 6,000) Net accounts receivable $ 244,000 Balance Sheet Presentation - Allowance Method

30. 30 Accounting for Bad Debts: Allowance Method Adjustment for estimated bad debt expense : Assets = Liab. + O/E + Rev. – Exp. Allow. for Bad Debts Doubtful Exp. (6,000) Accts (6,000) I estimate...

31. 31 Accounting for Bad Debts: Allowance Method Adjustment to write off uncollectible account: Assets = Liab. + O/E + Rev. – Exp. Allow. for Doubtful Accts 500 Accts. Rec. – Dexter (500) Bankrupt

32. 32 Approaches to Allowance Method % of Net Credit Sales % of Accounts Receivable »Aging Method Income Statement Approach Balance Sheet Approach

33. 33 Example: Percentage of Net Credit Sales Method Assume prior years’ net credit sales and bad debt expense are as follows: YearNet credit salesBad debts 1999 $1,250,000 $ 26,400 2000 1,340,000 29,350 2001 1,200,000 23,100 2002 1,650,000 32,150 2003 2,120,000 42,700 $7,560,000 $153,700

34. 34 Example: Percentage of Net Credit Sales Method Develop bad debt percentage: $153,700 $7,560,000 use 2% = 0.02033

35. 35 Percentage of Net Credit Sales Method 2004 Net credit sales (given) $2,340,000 Bad debt percentage 2% Bad debts expense 46,800 Example: Assets = Liab. + O/E + Rev. – Exp. Allow. for Bad Debts Doubtful Exp. (46,800) Accts (46,800)

36. 36 Est. Percent Est. Amount Category Amount Uncollectible Uncollectible Current $ 85,600 1%$ 856 Past due: 1-30 days 31,200 4% 1,248 31-60 days 24,50010% 2,450 61-90 days 18,00030% 5,400 90+ days 9,20050% 4,600 Totals $168,500$14,554 Aging Method

37. 37 Aging Method To determine the amount recognized as bad debts: Bal. required in allow. acct. after adj. $14,554 Less: Bal. in allow. acct. before adj. 1,230 Amount of adjustment $13,324

38. 38 Aging Method Example Adjustment for estimated bad debt expense : Assets = Liab. + O/E + Rev. – Exp. Allow. for Bad Debts Doubtful Exp. (13,324) Accts (13,324)

39. 39 Comparison of Methods % of Net Sales Computes bad debt expense Aging Computes ending balance in the allowance account

40. 40 Accounts Receivable Turnover Net Credit Sales Average Accounts Receivable Indicates how quickly a company is collecting (i.e., turning over) its receivables

41. 41 Accounts Receivable Turnover l Too fast credit policies too stringent; may be losing sales l Too slow credit department not operating effectively; dissatisfied customers

42. 42 Baker Corporation promises to pay HighTec, Inc. $15,000 plus 12% annual interest on March 13, 2005. Date: December 13, 2004 Signed:_________ Interest-Bearing Promissory Note Baker Corporation Maturity Date Principal Interest

43. 43 In exchange for $9,000 applied toward my purchase today, I promise to pay $9,900 in six months. Date: November 1, 2004 Signed:_________ J.E. Privett Non-Interest-Bearing Promissory Note Effective interest rate on note = 20% $900 12 $9,000 x 6

44. 44 12/31/044/30/05 Notes receivable$ 9,900$ 9,900 Less: Discount on notes receivable ( 600) - 0 - $ 9,300$ 9,900 Balance Sheet Presentation of Discounted Notes Discount transferred to interest revenue over life of note Upon Maturity

45. 45 Accelerating Cash Inflow From Sales l Sales Discounts l Credit Card Sales l Discounting Notes Receivable

46. 46 Credit Card Sales l Competitive necessity l Credit card company: » Charges fee » Assumes risk of nonpayment

47. 47 Discounting Notes Receivable l Sell note prior to maturity date for cash l Receive less than face value (i.e., discounted amount) l Can be sold with or without recourse Baker Corporation promises to pay HighTec, Inc. $15,000 plus 12% annual interest on December 31, 1998. Date: January 1, 1998 Signed:_________ Baker Corporation

48. Operating Activities Net incomexxxx Increase in accounts receivable - Decrease in accounts receivable + Increase in notes receivable - Decrease in notes receivable + Investing Activities Purchases of held-to-maturity and available-for-sale securities - Sales/maturities of held-to-maturity and available-for-sale securities + Financing Activities Liquid Assets and the Statement of Cash Flows - Indirect Method 48

49. 49 End of Chapter 6