1. 1 CHAPTER 9 MANAGING AND REPORTING WORKING CAPITAL

2. 2 Chapter Overview  What is working capital, and why is its management important?  How can managers control cash receipts in a small company?  How can a manager control cash payments in a small company?  What is a bank reconciliation, what are the causes of the difference between a company’s cash balance and its cash balance on its bank statement?

3. 3  How can managers control accounts receivable in a small company?  How can managers control inventory in a small company?  How can managers control accounts payable in a small company? Chapter Overview

4. 4  From Chapter 8, we learned that working capital is the amount of current assets remaining after a company pays its current liabilities.  It represents the net resources managers have to work with in the company’s day-to- day operations. Working Capital Current Assets - Current Liabilities = Working Capital

5. 5 How Much Working Capital is Needed?  Companies manage working capital because they want an appropriate amount on hand, enough to finance day-to-day operations plus an amount in case something unexpected happens. Working capital on hand Too low: can’t fund operations; risks liquidity; unanticipated borrowings Ideal amount requires careful monitoring and planning Too high: idle resources not invested in operations

6. 6 Elements of Working Capital  A company’s working capital includes managing some important items such as cash, accounts receivable, inventory, and accounts payable.  The controls over these items are important to understanding how companies manage working capital.

7. 7  A company’s cash includes money on hand, deposits in checking and savings accounts, and checks and credit card invoices received from customers but not yet deposited.  Cash is also the most likely asset for employees and others to steal or for a company to misplace.  To safeguard cash, it is important to have controls in place. Controls over Cash

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9. 9 Reflection With all these controls over cash, what do I do with the bank statement when it is received?

10. 10  Despite all of the procedures used to control cash receipts and payments, errors in a company’s records still occur.  Since the bank also keeps a record of the company’s cash balance, a company uses a bank reconciliation to determine the accuracy of the balance in its Cash account.  This adds an additional internal control procedure over the cash accounts. Bank Reconciliation

11. 11 Structure of a Bank Reconciliation Exhibit 9-4

12. 12  It is not always convenient to make all payments by check, so many companies keep petty cash funds, small amount of cash on hand for making cash payments.  A petty cash fund is usually under the control of one employee who is responsible for maintaining the cash-on-hand plus expense vouchers equal to the fund balance, say $50.  Just like a regular bank account, the petty cash fund should be reconciled monthly by someone other than the petty cash clerk. Petty Cash Funds

13. 13  Accounts receivable are the amounts owed to a company by customers from previous credit sales.  “Credit sales” represents those sales made on a company store account, such as purchasing home office supplies at Office Depot on your Office Depot card. Accounts Receivable

14. 14 Controls over Account Receivable A company should be sure that a customer is complying with its credit terms, such as 2/10;n/30, meaning the full balance is due 30 days from the invoice date. This process ensures that customers have a history of being financially responsible and to what extent credit should be granted. If the balance increases, the company should investigate the reasons, verifying that it is due to increased credit sales to creditworthy customers and not collection problems.

15. 15  On its balance sheet, a company reports its accounts receivable at “net realizable value”, the amount expected to be ultimately collected from customers. For example, the presentation might be as follows: Accounts Receivable Balance Accounts receivable (net) $99,000 $100,000 of gross accounts receivable less an estimated 1% uncollectible amount of $1,000

16. 16  Accounting for, controlling, and reporting inventory are important for several reasons. Inventory 1.Selling inventory provides sources of profit and operating cash. 2. A company needs to monitor how well it turns over its inventory (purchase, sell, replace). 3. Storing inventory is expensive. 4. Inventory can be stolen and/or become obsolete.

17. 17 Controls over Inventory This process ensures that only authorized purchases are made and that the supplier ships items at the specified price. Physical controls include restricting access to inventory, using locked display cases, or other security devices. Regardless of the inventory system, a physical count verifies accuracy of records and can estimate theft, breakage, or spoilage.

18. 18  Using the specific identification method, a company allocates the total cost of its inventory between the cost of goods sold and ending inventory.  Under this method, the cost of each inventory item sold and on hand is separately calculated. The amount of the ending inventory is usually verified by a physical count. Calculating Cost of Goods Sold and Ending Inventory

19. 19 Sweet Temptations’ Inventory Information

20. 20  Accounts payable are the amounts that a company owes to its suppliers for previous credit purchases of inventory and supplies.  The amount of the accounts payable is listed in the current liabilities section of the ending balance sheet. Accounts Payable

21. 21 Controls over Accounts Payable Accounts payable create liabilities for a company, so authority should be limited. In a large company, a purchasing department controls purchases. Once incurred, a company is concerned that it makes payments at the appropriate time within credit terms, and that suppliers record payments made. Since accounts payable are due in the very near future, a company must monitor the total amount to be sure there are sufficient cash resources to meet obligations when due.