Finance: Cash and Receivables Overview
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Questions and Answers

What is the correct definition of cash equivalents?

  • Only cash and bank drafts
  • Short-term, highly liquid investments that are readily convertible into known amounts of cash (correct)
  • Long-term investments held in a savings account
  • Investments that can change significantly in value

Which type of receivable is owed by customers from revenue?

  • Trade receivables (correct)
  • Amortized receivables
  • Non-trade receivables
  • Long-term receivables

How should a company initially measure trade receivables with no significant financing component?

  • At fair value
  • At the transaction price (correct)
  • At a predetermined fixed rate
  • At the current market value

What does 'Allowance for Doubtful Accounts' (AFDA) refer to?

<p>Estimation of bad debts expected not to be collected (A)</p> Signup and view all the answers

What must companies disclose separately on the balance sheet?

<p>Restricted cash (A)</p> Signup and view all the answers

How is impairment in receivables generally measured?

<p>At amortized cost considering impairment (D)</p> Signup and view all the answers

What is another name for 'bad debts expense'?

<p>Loss on impairment (B)</p> Signup and view all the answers

How should a company report separate overdrafts according to best practices?

<p>As liabilities unless at the same bank (A)</p> Signup and view all the answers

What is the correct accounting entry when a note is initiated as interest-bearing?

<p>DR Notes receivable, CR Cash (B)</p> Signup and view all the answers

Which method is not specified by ASPE for calculating yield rate?

<p>Amortization method (C)</p> Signup and view all the answers

Which of the following correctly describes a 'zero coupon note'?

<p>A note that does not make periodic interest payments (B)</p> Signup and view all the answers

When calculating interest income under IFRS, which formula is used?

<p>Carrying amount x effective interest rate (A)</p> Signup and view all the answers

What is the difference between interest payment and interest income?

<p>Interest payment is the cash received; interest income is accounted for (B)</p> Signup and view all the answers

What is a 'discount' in the context of notes receivable?

<p>Lending out less than the face value (D)</p> Signup and view all the answers

What should be recorded as a combined journal entry for interest when it is collected?

<p>DR Cash, CR Notes receivable (C)</p> Signup and view all the answers

What leads to the classification of a note as interest-bearing versus non-interest bearing?

<p>Presence of a prescribed interest rate (B)</p> Signup and view all the answers

What is the correct journal entry for writing off an uncollectible account?

<p>DR Allowance for doubtful accounts, CR Receivables (C)</p> Signup and view all the answers

When using the aging schedule for estimating uncollectible accounts, what is the primary output?

<p>Ending balance in Allowance for doubtful accounts (D)</p> Signup and view all the answers

What adjustment is made when the current Allowance for doubtful accounts balance is a debit of $200 and the ending balance needed is $37,650?

<p>DR Bad debts expense $37,850; CR AFDA $37,850 (D)</p> Signup and view all the answers

What method is described as estimating bad debts expense as a percentage of sales?

<p>Percentage of sales method (B)</p> Signup and view all the answers

Which accounting principle is violated by using the direct write-off method?

<p>Matching principle (D)</p> Signup and view all the answers

If a company estimates that 2% of $400,000 monthly net credit sales are uncollectible, what is the associated bad debts expense entry?

<p>DR Bad debts expense $8,000; CR AFDA $8,000 (C)</p> Signup and view all the answers

What does the effective interest method under IFRS focus on?

<p>Determining actual interest earned on a financial asset (B)</p> Signup and view all the answers

If the Allowance for doubtful accounts is currently credited at $18,800 and needs to be adjusted to $37,650, what is the required adjustment entry?

<p>DR Bad debts expense $18,850; CR Allowance for doubtful accounts $18,850 (B)</p> Signup and view all the answers

What happens to the receivables if secured borrowing is used but the borrower fails to repay?

<p>The creditor has the right to collect the receivables. (D)</p> Signup and view all the answers

In factoring without recourse, what is the primary characteristic of the transaction?

<p>The bank has no right to collect from the seller if receivables are uncollectible. (B)</p> Signup and view all the answers

What determines whether a transaction is recorded as a sale or secured borrowing?

<p>Whether the risks and rewards have been transferred. (B)</p> Signup and view all the answers

What is the entry for Crest Textiles when factoring $500K of receivables with a 3% finance charge?

<p>DR Cash 460K, DR Loss 15K, CR A/R 500K. (C)</p> Signup and view all the answers

What is an essential aspect of securitization?

<p>Receivables are pooled and interests are sold to third parties. (C)</p> Signup and view all the answers

What impact does factoring with recourse have on Crest Textiles?

<p>Crest Textiles may be liable for uncollectible receivables. (A)</p> Signup and view all the answers

How should collateralized receivables be accounted for under secured borrowing?

<p>Like regular accounts without special treatment. (C)</p> Signup and view all the answers

What is recorded in the entries when the bank factors receivables with Crest Textiles?

<p>CR Finance revenue based on total receivables. (A)</p> Signup and view all the answers

What happens to the carrying amount of a note when cash is collected?

<p>It decreases the carrying amount. (B)</p> Signup and view all the answers

How is the ending note receivable calculated assuming no write-offs?

<p>Opening note receivable + interest income - cash collected. (C)</p> Signup and view all the answers

What is the correct journal entry for the first year with an interest-bearing note?

<p>DR Note receivable 9,520; CR Cash 9,520. (A)</p> Signup and view all the answers

What is the effective rate of the interest-bearing note with a face value of $10,000 and a cash amount of $9,520?

<p>12% (D)</p> Signup and view all the answers

Which entry reflects the recognition of interest income in the second year of the note?

<p>DR Note receivable 1,159; CR Interest income 1,159. (C)</p> Signup and view all the answers

How is the ending carrying amount determined at the end of year 3?

<p>By adding cumulative interest income over three years to the initial amount. (A)</p> Signup and view all the answers

What is the total interest income recognized over three years for an interest-bearing note with a 10% payment schedule?

<p>$1,142 + $1,159 + $1,179 (A)</p> Signup and view all the answers

In how many periods is the discount amortized for an interest-bearing note with a $480 discount and a three-year term?

<p>3 periods. (B)</p> Signup and view all the answers

What is the original amount lent out in the zero-interest-bearing note scenario?

<p>$7,721 (C)</p> Signup and view all the answers

How much cash is received at the end of the third year for a zero-interest-bearing note with a face value of $10,000?

<p>$10,000 (D)</p> Signup and view all the answers

What does ASPE permit regarding the calculation method for notes payable?

<p>Only the straight-line method. (D)</p> Signup and view all the answers

In the event of a note being derecognized, which of the following is NOT a reason for derecognition?

<p>Increased interest rate. (D)</p> Signup and view all the answers

What reflects the carrying amount of a note after the second year if cash of $1,000 was also received?

<p>$9,821 (D)</p> Signup and view all the answers

Flashcards

Cash equivalents

Short-term, highly liquid investments readily convertible to cash with insignificant value changes.

Restricted cash

Cash set aside for a specific purpose, separate from normal operations.

Trade receivables

Amounts owed by customers for goods or services.

Allowance for doubtful accounts (AFDA)

Account to recognize expected losses from uncollectible receivables.

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Bad debts expense

Expense reflecting estimated losses on uncollectible accounts.

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Receivables measurement (initial)

Generally measured at fair value, transaction price for some.

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Receivables measurement (subsequent)

Usually measured using the amortized cost method.

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Cash and Cash Equivalents (IFRS/ASPE)

Cash, demand deposits, and highly liquid short-term investments.

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Yield Rate

The effective annual interest rate earned on an investment, considering the purchase price and maturity value.

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Market Rate

The prevailing interest rate for similar investments in the market at the time of the investment.

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What is the difference between yield rate and market rate?

Yield rate is the actual return you get on your investment, while market rate is the prevailing interest rate for similar investments at the time of purchase.

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Discount

When the purchase price of a note is less than face value.

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Premium

When the purchase price of a note is more than face value.

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Non-Interest Bearing Note

A note that doesn't specify periodic interest payments, but still has an implied interest rate.

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How is interest income calculated for non-interest bearing notes?

Interest income is calculated using the effective interest rate on the note's carrying amount.

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How does interest income affect a note's carrying amount?

Interest income earned is added to the carrying amount of the note over time, reflecting the increase in value due to interest earned.

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Write-off Uncollectible Accounts

When an individual account is deemed uncollectible, it is removed from the receivables balance and written off. This involves debiting the Allowance for Doubtful Accounts (AFDA) and crediting Receivables.

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Recovering a Written-Off Account

If a previously written-off account is collected, the receivables balance is restored by debiting Receivables and crediting AFDA. The cash received is then recorded by debiting Cash and crediting Receivables.

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AFDA: Ending Balance

The Allowance for Doubtful Accounts (AFDA) represents the estimated amount of uncollectible receivables. The key is to calculate the desired ENDING balance in AFDA.

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Adjusting AFDA to the Ending Balance

To reach the desired ending balance in AFDA, an adjustment is made to the existing balance. This adjustment may involve debiting or crediting Bad Debts Expense and the corresponding AFDA account.

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Percentage of Sales Method

This method estimates bad debts expense as a percentage of net credit sales. It's a fast and simple way to estimate potential bad debts.

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Combined Method (Bad Debt Expense)

This method combines the Percentage of Sales method (for estimating initial expense) with the Allowance method (for updating the final AFDA balance) at the period-end.

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Direct Write-Off Method (Bad Debts)

This method directly debits Bad Debts Expense and credits Accounts Receivable when an account is deemed uncollectible. It doesn't use an allowance account.

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Why the Direct Write-Off Method is Bad

The Direct Write-Off Method violates the matching principle by possibly writing off expenses related to revenues from previous periods.

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Note Receivable Carrying Amount

The value of a note receivable on a balance sheet, considering interest accrual and payments.

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Interest Income on Notes

Revenue earned from the interest accrued on a note receivable.

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Discount on Notes

When the present value of a note is less than its face value. The difference between the present value and face value is a discount.

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Effective Interest Rate

The actual rate of return on a note, considering the purchase price, face value, and interest payments.

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Amortizing a Discount on Notes

Gradually reducing the discount on a note over time by debiting note receivable. This increases the note's carrying amount.

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End Carrying Amount of a Note

The balance of a note receivable at the end of a period, after accounting for interest accrual and payments.

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Zero-Interest Bearing Note

A note where the interest is implied, not explicitly stated. The lender receives the face value at maturity.

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Straight Line Method (for Notes)

A simplified way of amortizing the discount or premium on a note. Spread the amount evenly over the note's term.

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Derecognition of Receivables

Removing a receivable from the accounting records when it is collected, written off, sold, or pledged as collateral.

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Writing Off a Receivable

Removing a receivable from the accounting records when it is considered uncollectible.

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Pledging a Receivable as Collateral

Using a receivable as security for a loan or other obligation. The lender has a claim on the receivable if the borrower defaults.

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Face Value of a Note

The amount stated on the face of the note, representing the principal amount to be repaid.

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Interest Payment on a Note

The periodic cash flow paid by the borrower to the lender.

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Implied Rate of a Note

The actual interest rate on a note, calculated using the present value, face value, and interest payments.

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Amortized Cost Method (for Notes)

Accounting for notes by adjusting their carrying amount each period to reflect the earned interest. This ensures that the reported value is accurate and reflects the time value of money.

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Secured Borrowing

A type of borrowing where the borrower pledges their receivables as collateral. If the borrower defaults, the creditor has the right to collect the receivables.

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Sale of Receivables

The act of selling receivables to a bank or finance company for a fee. The buyer then is responsible for collecting the receivables.

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Factoring

A specific type of sale of receivables where a financial institution (factor) purchases receivables from a company at a discount, taking on the responsibility for collections.

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Recourse

In a factoring arrangement, the seller is responsible for repaying the factor if the receivables are uncollectible.

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Securitization

A process where a company pools its receivables and sells interests in them to third parties. The company continues to service the receivables.

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IFRS: Sale vs Secured Borrowing

Under IFRS, a transaction qualifies as a sale of receivables if the seller transfers the risks and rewards of ownership, even if the seller continues to service the receivables. If not, it's considered a secured borrowing.

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ASPE: Sale vs Secured Borrowing

ASPE uses a similar approach to IFRS, considering the transfer of risks and rewards to determine if a transaction is a sale or a secured borrowing.

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Accounting for Sale of Receivables

When a sale of receivables occurs, the company recognizes cash received, a loss on the sale (if the sale is at a discount), and a due-from-factor account (if there are potential returns or allowances).

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Study Notes

Cash

  • Cash includes coins, currency, foreign currency, deposits, bank drafts, and money orders.
  • Cash equivalents are money market funds, certificates of deposit, and short-term paper.
  • Cash and cash equivalents are also defined under IFRS and ASPE as cash, demand deposits, short-term, highly liquid investments readily convertible into known amounts with insignificant value risk.
  • Restricted cash is set aside for a specific purpose and should be disclosed separately on the balance sheet.
  • Restricted cash can also be a non-current asset.
  • Overdrafts are typically recorded as liabilities unless they are held at the same bank.

Receivables

  • Receivables are a general right to receive cash.
  • Trade receivables are amounts owed by customers from revenue.
  • Non-trade receivables include loans to employees, dividends receivable, and other written promises.
  • Generally, initially measure receivables at fair value.
  • Trade receivables without significant financing are measured at transaction price (remember IFRS 15?).
  • Transaction price is also acceptable under ASPE when immaterial.
  • Subsequently, receivables are measured at amortized cost.
  • Impairment must be considered.

Allowance for Doubtful Accounts (AFDA)

  • Proactively assess the value of receivables for expected uncollectible amounts.
  • Estimate bad debts before customer defaults.
  • Three types of journal entries exist for this:
    • First, estimate bad debts periodically.
    • Second, write-off uncollectible accounts.
    • Third, collect written-off accounts.
  • Bad debts expense (BDE) and allowance for doubtful accounts (AFDA - contra-asset) are used in journal entries.
  • Several approaches can be used to estimate AFDA; the allowance method, sales approach, and combined approach.

Allowance Method

  • The allowance method looks at the balance of receivables and estimates uncollectible amounts.
  • The end balance of AFDA is the calculated amount in the allowance method.
  • Use the aging schedule to determine uncollectible amounts.

Percentage of Sales Method

  • Estimated bad debts expense is a percentage of sales.
  • A straightforward approach.
  • Requires a periodic update of the allowance to match changes in credit sales.

Direct Write-Off Method

  • This approach directly records bad debts as expenses when accounts are deemed uncollectible.
  • This violates the matching principle.
  • Avoid using this method.

Receivables and Interest

  • When interest is material, consider interest.
  • Use effective interest rate (yield rate or market rate).
  • At initiation, record notes receivable and cash.
  • Periodically, record notes receivable, interest income, and adjust the carrying amount.
  • Interest payment is not the same as interest income; consider amortization.
  • Face value is the principal amount received at maturity.
  • Discount is lending for less than face value.
  • Premium is lending for more than face value.
  • Zero-interest-bearing notes have an implicit interest.

Derecognition of Receivables

  • Ways receivables are derecognized: -Cash collected -Write-off -Sale -Pledged as collateral

Secured Borrowing

  • Pledge receivables as collateral to secure a loan.
  • If the borrower defaults, the creditor collects the receivables.
  • Receivables remain under the borrower's control.

Sale of Receivables

  • Factoring: Selling receivables to a bank or finance company for a fee, and the bank collects amounts due.
  • Recourse means the seller is responsible if the buyer cannot collect amounts due.
  • Securitization is pooling receivables and selling ownership interests.
  • Sales versus secured borrowing transactions are considered. IFRS and ASPE criteria are used.

ASPE and IFRS

  • ASPE permits straight-line method for accounting interest on receivables.
  • IFRS uses the effective method to calculate interest.

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Finance: Cash and Receivables PDF

Description

This quiz explores essential concepts related to cash and receivables in finance. Test your understanding of cash components, cash equivalents, restricted cash, and the nature of receivables. Gain insights into their significance in financial statements.

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