Financial Assets Chapter 7 PDF

Chapter 7 FINANCIAL ASSETS McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  How How Much Much Cash Cash Should Should aa Business Business...

Chapter 7 FINANCIAL ASSETS McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  How How Much Much Cash Cash Should Should aa Business Business Have? Have? Every business needs enough McGraw-Hill/Irwin $ cash to pay its bills! © The McGraw-Hill Companies, Inc., 20  How How Much Much Cash Cash Should Should aa Business Business Have? Have? In response to this question, most businesspeople would say, “As little as necessary.” In a well-managed company, daily cash receipts are deposited promptly in the bank. Often, a principal source of these daily receipts is the collection of accounts receivable. If the daily receipts exceed routine cash outlays, the company can meet its obligations while maintaining relatively low balances in its bank accounts. Cash that will not be needed in the immediate future often is invested in highly liquid, short-term securities. These investments are more productive than cash because they earn revenue in the forms of interest and dividends. If the business should need more cash than it has in its bank accounts, it can easily convert some of its investments back into cash. © The McGraw-Hill Companies, Inc., 20 McGraw-Hill/Irwin  How How Much Much Cash Cash Should Should aa Business Business Have? Have? The term financial assets describes not just cash but also those assets easily and directly convertible into known amounts of cash. All of these assets represent forms of money; financial resources flow quickly among these asset categories which include: Cash Receivables Short-term Investments McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  How How Much Much Cash Cash Should Should aa Business Business Have? Have? Collections from Cash (and cash customers equivalents) Cash Accounts payments receivable “Excess” Investments cash is are sold as invested cash is temporarily. needed. Marketable securities (short-term investments) McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  The The Valuation Valuation of of Financial Financial Assets Assets In Inthe thebalance balancesheet, sheet,financial financialassets assetsare areshown shownatattheir theircurrent current values valueswhich whichmay maybe bedifferent differentforforeach eachof ofthem. them. The Thecurrent currentvalue valueof ofcash cashisissimply simplyitsitsface faceamount. amount.ButButthe thecurrent current value valueof ofmarketable marketablesecurities securitiesmaymaychange changedaily, daily,based basedon ondifferent different factors. factors.Therefore, Therefore,most mostshort-term short-terminvestments investmentsappear appearin inthe the balance balancesheet sheetatattheir theircurrent currentmarket marketvalues. values. Accounts Accountsreceivable, receivable,like likecash, cash,have havestated statedface faceamounts. amounts.But Butatat times timessome somecustomers customerssimply simplywill willbebeunable unabletotomake makefullfullpayment. payment. Therefore, Therefore,receivables receivablesappear appearin inthe thebalance balancesheet sheetatatthe theestimated estimated collectible amount—callednet collectibleamount—called netrealizable realizablevalue. value. Basis for Valuation in Type of Financial Asset the Balance Sheet Cash (and cash equivalents) Face amount Short-term investments Current market value (marketable securities) Receivables Net realizable value McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Cash Cash Coins and paper money Cash is Checks defined as any deposit Bank credit card sales banks will Money orders accept. Travelers’ checks McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Reporting Reporting Cash Cash in in the the Balance Balance Sheet Sheet Combined with cash on balance sheet Liquid short- Cash Matures term Equivalents within 90 days investments of acquisition Stable market values Some short-term investments are so liquid that they are termed cash equivalents. Examples include money market funds, U.S. Treasury bills, and high-grade commercial papers. © The McGraw-Hill Companies, Inc., 20 McGraw-Hill/Irwin  Reporting Reporting Cash Cash in in the the Balance Balance Sheet Sheet Not available for paying current liabilities “Restricted” Not a current Cash Listed as an asset investment McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Reporting Reporting Cash Cash in in the the Balance Balance Sheet Sheet Bank agrees in advance to lend money. Lines of Credit Liability is Unused line of incurred when line credit is disclosed of credit is used. in notes. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Cash Cash Management Management The term cash management refers to planning, controlling, and accounting for cash transactions and cash balances. Efficient management of these resources is essential to the success—even to the survival—of every business organization.  Accurately Accurately account account for for cash. cash.  Prevent Prevent theft theft and and fraud. fraud.  Assure Assure the the availability availability of of adequate adequate amounts amounts of of cash. cash.  Avoid Avoid unnecessarily unnecessarily large large amounts amounts of of idle idle cash. cash. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Using Using Excess Excess Cash Cash Balances Balances Efficiently Efficiently Cash available for long- Cash not needed for term investment may business purposes be used to finance should be distributed growth and expansion to the company’s of the business, or to stockholders. repay debt. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  INTERNAL INTERNAL CONTROL CONTROL OVER OVER CASH CASH It is the process of preventing fraud and theft of financial resources. A good system of internal control will aid in the efficient cash management, including accurate accounting for cash transactions, anticipating the need for borrowing, and the maintenance of adequate but not excessive cash balances.  Separate Separatethe thefunction functionofofhandling handlingcash cashfrom fromthe themaintenance maintenanceof ofaccounting accounting records. records.  Prepare Preparecash cashbudgets budgets(or (orforecasts) forecasts)of ofplanned plannedcash cashreceipts, receipts,cash cashpayments, payments,andand cashbalances. cash balances.  Require Requirethat thatall allcash cashreceipts receiptsbe bedeposited depositeddaily dailyin inthe thebank. bank.  Make Makeall allpayments paymentsby bycheck. check.  Require Requirethat thatevery everyexpenditure expenditurebebeverified verifiedbefore beforeaacheck checkisisissued issuedininpayment. payment.  Separatethe Separate thefunction functionof ofapproving approvingexpenditures expendituresfrom fromthe thefunction functionof ofsigning signing checks. checks.  Promptly Promptlyreconcile reconcilebank bankstatements statementswith withthe theaccounting accountingrecords. records. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Bank Bank Statements Statements Shows the beginning bank balance, deposits made, checks paid, other debits and credits in the month, and the ending bank balance. Bank Statement McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Reconciling Reconciling the the Bank Bank Statement Statement Explains the difference between cash reported on bank statement and cash balance in depositor’s accounting records. The balances shown in the bank statement and in the accounting records are both adjusted for any unrecorded transactions. Additional adjustments may be required to correct any errors discovered in the bank statement or in the accounting records. Provides information for reconciling journal entries. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Normal Normal Differences Differences between between Bank Bank Records Records and and Accounting Accounting Records Records Certain transactions recorded by the depositor may not have been recorded by the bank. The most common examples are:  Outstanding checks.  Deposits in transit. Certain transactions appearing in the bank statement may not have been recorded by the depositor. For example:  Service charges.  Charges for depositing NSF checks.  Credits for interest earned.  Miscellaneous bank charges and credits. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Reconciling Reconciling the the Bank Bank Statement Statement Balance per Bank Balance per Depositor + Deposits by Bank + Deposits in Transit (credit memos) - Service Charge - Outstanding Checks - NSF Checks ± Bank Errors ± Book Errors = Adjusted Balance = Adjusted Balance McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Reconciling Reconciling the the Bank Bank Statement Statement All reconciling Balance per Depositor items on the + Deposits by Bank book side (credit memos) require an - Service Charge adjusting - NSF Checks entry to the ± Book Errors cash account. = Adjusted Balance McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Reconciling Reconciling the the Bank Bank Statement Statement Example Example Prepare a July 31 bank reconciliation statement and the resulting journal entries for the Simmons Company. The July 31 bank statement indicated a cash balance of $9,610, while the cash ledger account on that date shows a balance of $7,430. Additional information necessary for the reconciliation is shown on the next page. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Outstanding  Outstanding checks checks totaled totaled $2,417. $2,417. A  A $500 $500 check check mailed mailed to to the the bank bank for for deposit deposit had had not not reached reached the the bank bank at at the the statement statement date. date. The  The bank bank returned returned aa customer’s customer’s NSF NSF check check for for $225 $225 received received asas payment payment of of an an account account receivable. receivable. The  The bank bank statement statement showed showed $30 $30 interest interest earned earned on on the the bank bank balance balance for for the the month month of of July. July. Check  Check 781781 for for supplies supplies cleared cleared thethe bank bank for for $268 $268 but but was was erroneously erroneously recorded recorded in in our our books books asas $240. $240. A  A $486 $486 deposit deposit by by Acme Acme Company Company was was erroneously erroneously credited credited to to our our account account by by the the bank. bank. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Reconciling Reconcilingthe Reconciling theBank the BankStatement Bank Statement Statement Example Example Balance per bank statement, July 31 $ 9,610 Additions: Deposit in transit 500 Deductions: Bank error $ 486 Outstanding checks 2,417 2,903 Adjusted cash balance $ 7,207 Balance per depositor's records, July 31 $ 7,430 Additions: Interest 30 Deductions: Recording error $ 28 NSF check 225 253 Adjusted cash balance $ 7,207 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Reconciling Reconciling the the Bank Bank Statement Statement Example Example GENERAL JOURNAL P Date Account Titles and Explanation R Debit Credit Jul 31 Cash 30 Interest Revenue 30 31 Supplies Inventory 28 Accounts Receivable 225 Cash 253 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Short-Term Short-Term Investments Investments Capital Bond Stock Investments Investments Marketable Securities Readily Marketable are... Current Assets Almost As Liquid As Cash McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Mark-to-Market: Mark-to-Market: A A New New Principle Principle of of Asset Asset Valuation Valuation Short-term investments in marketable securities appear on the balance sheet at their current market value as of the balance sheet date. Hence, this valuation principle is often called fair value accounting. Due to their liquidity, investments in marketable securities usually are listed immediately after Cash in the balance sheet and are most often classified as available for sale securities. The adjustment of marketable securities to their current market value results in creating a special account entitled Unrealized Holding Gain (or Loss) on Investments. This account appears as a stockholders’ equity item in the balance sheet McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Accounting Accounting for for Marketable Marketable Securities Securities (1) the purchase of investments There are four basic (4). End-of- events relating to (2) the receipt period investments in of interest adjustments marketable securities revenue dividends (3) the sale of investments McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  PURCHASE PURCHASEOF OFMARKETABLE MARKETABLESECURITIES SECURITIES Investments in marketable securities are originally recorded at cost, which includes any brokerage commissions. To illustrate, assume that Foster Corporation purchases as a short-term investment 4,000 shares of The Coca-Cola Company on December 1. Foster paid $48.98 per share, plus a brokerage commission of $80. The entry to record the purchase of these shares is: McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  RECOGNITION RECOGNITIONOF OFINVESTMENT INVESTMENTREVENUE REVENUE Entries to recognize interest and dividend revenue typically involve a debit to Cash and a credit to either Interest Revenue or Dividend Revenue. To illustrate, assume that on December 15, Foster Corporation receives a $0.30 per share dividend on its 4,000 shares of Coca-Cola. The entry to record this receipt is: McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  SALE SALE OF OF INVESTMENTS INVESTMENTS When an investment is sold at a price above or below its cost , a gain or a loss often results. This gain or loss appear in the “Other Income/Expense” section of the income statement. Investments Sold at a Gain: Assume that Investments Sold at a Loss: Assume that Foster Corporation sells 500 Foster Corporation sells an additional shares of its Coca-Cola stock on 2,500 shares of its Coca-Cola stock on December 18 for $50.04 per share, less a December 27 for $48.01 per share, less a $20 brokerage commission. $25 brokerage commission. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  ADJUSTING ADJUSTING MARKETABLE MARKETABLE SECURITIES SECURITIES TO TO MARKET MARKET VALUE VALUE As already stated, marketable securities are presented in the balance sheet at their current market value as of the balance sheet date and this adjustment requires the use of an account entitled Unrealized Holding Gain (or Loss) on Investments. Assume that Foster Corporation’s 1,000 remaining shares of Coca-Cola capital stock have a current market value of $47,000 on December 31 (1,000 shares at a market price of $47 per share). Prior to any adjustment, the company’s Marketable Securities account has a balance of $49,000 (1,000 shares at $49 per share). Thus, Foster Corporation must make the following fair value adjustment on December 31: McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  PRESENTATION PRESENTATION OF OF MARKETABLE MARKETABLE SECURITIES SECURITIES IN IN THE THE BALANCE BALANCE SHEET SHEET McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Let’s turn our attention to accounts receivable. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Uncollectible Uncollectible Accounts Accounts One of the key factors underlying the growth of the American economy is the trend toward selling goods and services on credit. Accounts receivable comprise the largest financial asset of many merchandising companies. We have stated that IfIf aa company company makes makes accounts receivable are shown in the balance sheet credit credit sales sales to to at the estimated collectible customers, customers, somesome amount—called net realizable value. No accounts accounts inevitably inevitably will will business wants to sell turn turn out out to to be be merchandise on uncollectible. uncollectible. account to customers who will be unable to pay. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Reflecting Reflecting Uncollectible Uncollectible Accounts Accounts in in the the Financial Financial Statements Statements At At the the end end of of each each period, period, record record an an estimate estimate ofof the the uncollectible uncollectible accounts. accounts. GENERAL JOURNAL P Date Account Titles and Explanation R Debit Credit Uncollectible Accounts Expense $$$$ Allowance for Doubtful Accounts $$$$ Selling Sellingexpense expense Contra-asset Contra-asset account account McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  The The Allowance Allowance for for Doubtful Doubtful Accounts Accounts The Allowance for Doubtful Accounts often is described as a contra-asset account or a valuation account. The Allowance for Doubtful Accounts has a credit balance which offsets the Accounts Receivable control account to produce a more useful and reliable measure of a company’s liquidity. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  The The Allowance Allowance for for Doubtful Doubtful Accounts Accounts The net realizable value is the amount of accounts receivable that the business expects to collect. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Writing Writing Off Off an an Uncollectible Uncollectible Account Account Receivable Receivable When When an an account account is is determined determined to to be be uncollectible, uncollectible, itit no no longer longer qualifies qualifies as as an an asset asset and and should should bebe written written off. off. GENERAL JOURNAL P Date Account Titles and Explanation R Debit Credit Allowance for Doubtful Accounts $$$$ Accounts Receivable (X Customer) $$$$ McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Writing Writing Off Off an an Uncollectible Uncollectible Account Account Receivable Receivable Assume that on January 5, K-Max determined that Jason Clark would not pay the $500 he owes. K-Max would make the following entry. GENERAL JOURNAL P Date Account Titles and Explanation R Debit Credit Jan. 5 Allowance for Doubtful Accounts 500 Accounts Receivable (J. Clark) 500 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Writing Writing Off Off an an Uncollectible Uncollectible Account Account Receivable Receivable Assume that before this entry, the Accounts Receivable balance was $10,000 and the Allowance for Doubtful Accounts balance was $2,500. Let’s see what effect the write-off had on these accounts. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Writing Writing Off Off an an Uncollectible Uncollectible Account Account Receivable Receivable Before After Write-Off Write-Off Accounts receivable $ 10,000 $ 9,500 Less: Allow. for doubtful accts. 2,500 2,000 Net realizable value $ 7,500 $ 7,500 Notice that the $500 write-off did not change the net realizable value nor did it affect any income statement accounts. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Recovery Recovery of of an an Account Account Receivable Receivable Previously Previously Written Written Off Off Subsequent Subsequent collections collectionsrequire requirethat that the theoriginal original write-off write-off entry entrybe bereversed reversedbefore beforethe thecash cashcollection collectionis isrecorded. recorded. GENERAL JOURNAL P Date Account Titles and Explanation R Debit Credit Accounts Receivable (X Customer) $$$$ Allowance for Doubtful Accounts $$$$ Cash $$$$ Accounts Receivable (X Customer) $$$$ McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Monthly Monthly Estimates Estimates of of Credit Credit Losses Losses At At the the end end of of each each month, month, management management should should estimate estimate thethe probable probable amount amount of of uncollectible uncollectible accounts accounts and and adjust adjust the the Allowance Allowance forfor Doubtful Doubtful Accounts Accounts to to this this new new estimate. estimate. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Monthly Monthly Estimates Estimates of of Credit Credit Losses Losses Example Example At At December December 31, 31, 2003, 2003, MusicLand’s MusicLand’s accounting accounting records records indicate indicate the the following: following: Accounts Accounts Receivable Receivable == $50,000 $50,000 Allowance Allowance forfor Doubtful Doubtful Accounts Accounts == $200 $200 (credit) (credit) Past Past experience experience suggests suggests that that 5% 5% of of receivables receivables are are uncollectible. uncollectible. What What is is MusicLand’s MusicLand’s Uncollectible Uncollectible Accounts Accounts Expense Expense for for 2003? 2003? McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Monthly Monthly Estimates Estimates of of Credit Credit Losses Losses Example Example Desired balance in Allowance Allowance for Doubtful Accounts for Doubtful Accounts. 200 $ 50,000 2,300 × 5.00% 2,500 = $ 2,500 GENERAL JOURNAL P Date Account Titles and Explanation R Debit Credit Dec. 31 Uncollectible Accounts Expense 2,300 Allowance for Doubtful Accounts 2,300 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Let’s Let’s look look at at another another way way to to estimate estimate the the uncollectible uncollectible accounts! accounts! McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Estimating Estimating Credit Credit Losses Losses — — The The “Balance “Balance Sheet” Sheet” Approach Approach  Year-end Year-endAccounts AccountsReceivable Receivableis is broken brokendown downinto intoage age classifications. classifications.  Each Eachage agegrouping groupinghas hasaa different different likelihood likelihoodof ofbeing being uncollectible. uncollectible.  Compute Computeaaseparate separateallowance allowancefor for each eachage agegrouping. grouping. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Estimating Estimating Credit Credit Losses Losses — — The The “Balance “Balance Sheet” Sheet” Approach Approach At December 31, 2003, the receivables for EastCo, Inc. were categorized as follows: EastCo, Inc. Schedule of Accounts Receivable by Age December 31, 2003 Accounts Estimated Estimated Receivable Bad Debts Uncollectible Days Past Due Balance Percent Amount Current $ 45,000 1 - 30 15,000 31 - 60 5,000 Over 60 2,000  $ 67,000 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Estimating Estimating Credit Credit Losses Losses — — The The “Balance “Balance Sheet” Sheet” Approach Approach At December 31, 2003, the receivables for EastCo, Inc. were categorized as follows: EastCo, Inc. Schedule of Accounts Receivable by Age December 31, 2003 Accounts Estimated Estimated Receivable Bad Debts Uncollectible Days Past Due Balance Percent Amount Current $ 45,000 1% 1 - 30 15,000 3% 31 - 60 5,000 5% Over 60 2,000 10%  $ 67,000  McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Estimating Estimating Credit Credit Losses Losses — — The The “Balance “Balance Sheet” Sheet” Approach Approach At December 31, 2003, the receivables for EastCo, Inc. were categorized as follows: EastCo, Inc. Schedule of Accounts Receivable by Age December 31, 2003 Accounts Estimated Estimated Receivable Bad Debts Uncollectible Days Past Due Balance Percent Amount Current $ 45,000 1% $ 450 1 - 30 15,000 3% 450 31 - 60 5,000 5% 250 Over 60 2,000 10% 200  $ 67,000  $  1,350 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Estimating Estimating Credit Credit Losses Losses — — The The “Balance “Balance Sheet” Sheet” Approach Approach Allowance for EastCo’s EastCo’sunadjusted unadjustedbalance balance Doubtful Accounts in inthe theallowance allowanceaccount account is is 500 $500. $500. 850 1,350 Per Perthetheprevious previouscomputation, computation, the thedesired desiredbalance balanceis is$1,350. $1,350. GENERAL JOURNAL P Date Account Titles and Explanation R Debit Credit Dec. 31 Uncollectible Accounts Expense 850 Allowance for Doubtful Accounts 850 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Guess Guess What! What! There There is is another another alternative alternative to to estimate estimate the the uncollectible uncollectible accounts! accounts! McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  An An Alternative Alternative Approach Approach toto Estimating Estimating Credit Credit Losses Losses Uncollectible accounts’ percentage is based on actual uncollectible accounts from prior years’ credit sales. Focus is on determining the amount to record on the income statement as Uncollectible Accounts Expense. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  An An Alternative Alternative Approach Approach toto Estimating Estimating Credit Credit Losses Losses Net Credit Sales  % Estimated Uncollectible Amount of Journal Entry McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  An An Alternative Alternative Approach Approach toto Estimating Estimating Credit Credit Losses Losses In 2003, EastCo had credit sales of $60,000. Historically, 1% of EastCo’s accounts have been uncollectible. For 2003, the estimate of uncollectible accounts expense is $600. ($60,000 ×.01 = $600) Now, prepare the adjusting entry for December 31, 2003. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  An An Alternative Alternative Approach Approach toto Estimating Estimating Credit Credit Losses Losses GENERAL JOURNAL P Date Account Titles and Explanation R Debit Credit Dec. 31 Uncollectible Accounts Expense 600 Allowance for Doubtful Accounts 600 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Uncollectible Uncollectible Accounts Accounts Summary Summary Aging Agingof of % % of of Receivables Receivables % % of of Sales Sales Receivables Receivables Emphasis Emphasisonon Emphasis Emphasisonon Emphasis Emphasisonon Realizable RealizableValue Value Realizable RealizableValue Value Matching Matching Accts. Accts. Sales Rec. All. for Rec. All. for Uncoll. Doubtful Doubtful Accts. Accts. Accts. Exp. Income Income Balance BalanceSheet Sheet Balance BalanceSheet Sheet Statement Statement Focus Focus Focus Focus Focus Focus McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Direct Direct Write-Off Write-Off Method Method This method makes no attempt to match revenue with the expense of uncollectible accounts. GENERAL JOURNAL P Date Account Titles and Explanation R Debit Credit June 15 Uncollectible Accounts Expense $$$$ Accounts Receivable (X Customer) $$$$ McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Income Income Tax Tax Regulations Regulations and and Financial Financial Reporting Reporting Direct write-off method required to calculate taxable income. Taxable Income Allowance methods GAAP GAAP GAAP GAAP better match expenses with revenues. Financial Statement Income McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Internal Internal Controls Controls for for Receivable Receivable Separate the following duties:  Maintenance Maintenance of of the the accounts accounts receivable receivable subsidiary subsidiary ledger. ledger. Custody Custody of of cash cash receipts. receipts.  Authorization Authorization of of accounts accounts receivable receivable write- write- offs. offs. McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Management Management of of Accounts Accounts Receivable Receivable Extending credit encourages Credit Terms customers to buy from us...... but it ties up resources Minimize in accounts receivable. Accounts Receivable McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Ways Ways to to Minimize Minimize Amounts Amounts in in Accounts Accounts Receivable Receivable Selling Credit Accounts Card Receivable Sales McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Evaluating Evaluating the the Quality Quality of of Accounts Accounts Receivable Receivable Accounts Accounts Receivable Receivable Turnover Turnover Ratio Ratio This This ratio ratio provides provides useful useful information information for for evaluating evaluating how how efficient efficient management management has has been been inin granting granting credit credit to to produce produce revenue. revenue. Net Sales Average Accounts Receivable McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  Evaluating Evaluating the the Quality Quality of of Accounts Accounts Receivable Receivable Avg. Avg. Number Number of of Days Days to to Collect Collect A/R A/R This This ratio ratio helps helps judge judge the the liquidity liquidity of of aa company’s company’s accounts accounts receivable. receivable. Days in Year Accounts Receivable Turnover Ratio McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20  End End of of Chapter Chapter 77 McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 20