C 7 Cash and Receivables hapter Intermediate Accounting 11th edition Nikolai Bazley Jones An electronic presentation By Norman Sunderman and Kenneth Buchanan Angelo State University COPYRIGHT © 2010 South-Western/Cengage Learning

2 Show Me the Money! Cash is the lifeblood for companies, and infusions are coming more frequently from nontraditional sources. According to a recent Federal Reserve Payments Study, noncash payments grew by 4.6% over the previous three years and had a total value of $75.8 trillion. Of these noncash payments, more than two-thirds were made electronically, with debit cards being the most frequently used electronic payment type.

Show Me the Money! Debit and credit cards are used most frequently. 3 Show Me the Money! Debit and credit cards are used most frequently. The automated clearing house (ACH) is an electronic network that provides for the interbank clearing of electronic payments. ACH payments currently represent 91% of the value of all electronic payments.

Automated Clearing House (ACH) 4 Automated Clearing House (ACH) ACH payments include: Direct deposit of payroll and social security Electronic payments of bills Mortgages Utility bills Insurance premiums The conversion of checks by businesses

Electronic Banking Accounts receivable conversion (ARC) 5 Electronic Banking Accounts receivable conversion (ARC) Paper checks received at the bank lockbox are converted into automated clearing house debits and then the check is destroyed. ARC payments are about one-third cheaper than paper checks. Float time is cut in half. Check Clearing for the 21st Century Act (Check 21) Gives legal status to substitute checks Allows merchants to scan and transmit checks to the bank

Cash Cash is the resource on hand to meet planned payments and emergency situations.

Cash Cash Included in Cash Excluded from Cash Coins and currency Checking accounts Savings accounts Negotiable checks Bank drafts Certificates of deposit Bank overdrafts Postdated checks Travel advances Postage stamps

Cash Equivalents Cash equivalents are short-term, highly liquid investments that are readily convertible into known amounts of cash and so near their maturity that there is little risk of changes in value because of changes in interest rates.

Cash Management Control Over Receipts The person opening the mail or the salesperson using the cash register should count the receipts immediately. All cash receipts are recorded daily in the accounting records. All receipts are deposited daily in the company’s bank account.

Cash Management Control Over Payments Make all payments by check or electronic payment (except petty cash items) so that a record exists for every company expenditure. Authorize and sign all checks only after an expenditure is verified and approved. Periodically reconcile the cash balance in the bank statement with the company’s accounting records.

Receivables Those receivables expected to be collected or satisfied within one year or the current operating cycle, whichever is longer, are classified as current assets; the remainder are classified as noncurrent.

Receivables Each of the following criteria must be satisfied when the right of return exists in order to recognize revenue at the time of sale. The sales price is known at the date of sale. The buyer has paid or will pay the seller, and the obligation is not contingent upon the resale of the product. The buyer’s obligation to the seller would not be changed by theft or damage to the product. Continued

Receivables Each of the following criteria must be satisfied when the right of return exists in order to recognize revenue at the time of sale. The buyer has an economic substance apart from the seller. The seller does not have significant obligations to help the buyer sell the product. The seller can reasonably estimate the amount of future returns.

Internal Control Procedures for Accounts Receivable Prenumbered sales invoices Separation of the sales function from the cash collection responsibilities

Sales Discounts Increase sales Encourage prompt payment Increase likelihood of collection

Calculation of Sales Discounts A 2% discount may be subtracted from the invoice price if payment is made within 10 days, otherwise the total amount is due within 30 days (net of returns and allowances).

Sales Returns and Allowances 17 Sales Returns and Allowances When goods are sold that are found to be defective, the customer may retain the goods and be allowed a reduction in the purchase price. This reduction is called a sales allowance. When the customer returns good to the seller, the exchange is called a sales return.

Loss Contingencies Information available prior to the issuance of the financial statements indicates that it is probable that an asset has been impaired or a liability has been incurred at the date of the financial statements. The amount of the loss can be reasonably estimated. …recorded as reductions in assets or as liabilities when both of these conditions are met. GAAP requires that estimated losses from loss contingencies be accrued against income and…

Estimated Bad Debts Method Bad debts can be estimated based on sales or on accounts receivable.

Estimated Bad Debts Method Relationship to sales (income statement approach): Percentage of sales Percentage of net credit sales Relationship to accounts receivable (balance sheet approach): Percentage of outstanding accounts receivable Aging of accounts receivable

Aging of Accounts Receivable Review the unpaid invoices in each customer’s account. Classify the invoice amounts according to the length of time the invoice has been outstanding. Multiply the total amount in each age group by the applicable estimated uncollectible percentage. Make a journal entry to bring the balance in Allowance for Doubtful Accounts to the amount calculated in Step 3.

Average Net Receivables 22 Ratio Analysis Activity Ratios Receivables turnover indicates how many times receivables are “turned over” or collected each period. Net Credit Sales Average Net Receivables

Accounts Receivable Financing Agreements There are three basic forms of financing agreements to obtain cash from accounts receivable. Pledging Assigning Factoring

Pledging When a company pledges its accounts receivable, it is using these accounts as collateral for a loan, and the servicing activities remain its responsibility.

Assignment When a company assigns its accounts receivable to a financial institution, it enters into a lending agreement with the institution to receive cash on specific customer accounts.

Factoring When a company factors its accounts receivable, it sells individual accounts to a financial institution (called a factor).

Credit Card Sales Many retail companies accept national credit cards, such as VISA, MasterCard, American Express, and Diner’s Club. The retailer either deposits the credit card receipts at the bank or receives an electronic transfer of funds from the credit card company. The retailer is assessed a service charge by the credit card company. This charge is accounted for as an operating expense.

Notes Receivable A note receivable is an unconditional written agreement to collect a certain sum of money on a specific date.

Notes Receivable Notes receivable generally have two attributes that are not found in accounts receivable.

Notes Receivable They are negotiable instruments, which means that they are legally transferable among parities and may be used to satisfy debts by the holders of these instruments. They usually involve interest, requiring the separation of the receivable into its principal and interest components.

IFRS vs. U.S. GAAP Same Different Cash and cash equivalents 31 IFRS vs. U.S. GAAP Same Cash and cash equivalents Sales discounts Allowance for doubtful accounts Pledging, assignment, and factoring Different IFRS category loans and receivables not defined under GAAP IFRS allows receivables to be classified as “available-for-sale”

Appendix: Petty Cash An employee is appointed petty cash custodian.

Appendix: Petty Cash Petty cash vouchers are printed, prenumbered, and given to the custodian of the fund. At all times the total of the cash in the fund plus the amounts of expenditure vouchers should be equal to $500 (in this case).

Appendix: Petty Cash …the vouchers are sorted into expense categories and the remaining cash is counted. When the amount of cash in the petty cash fund becomes low at the end of accounting period,… Assume that a count at the end of the month shows $67.54 remaining in the petty cash fund.

The fund is short by $4.40 ($71.94 – $67.54). Appendix: Petty Cash The sorting of vouchers indicates the following costs were incurred during the month: Office supplies $ 34.16 Postage 178.00 Transportation 132.14 Miscellaneous 83.76 Total expenses $428.06 The fund is short by $4.40 ($71.94 – $67.54).

Appendix: Petty Cash The company records the actual expenses and the amount needed to replenish the fund. Office Supplies Expense 34.16 Postage Expense 178.00 Transportation Expense 132.14 Miscellaneous Expense 83.76 Cash Short and Over 4.40 Cash 432.46

Appendix: Bank Reconciliation 37 Appendix: Bank Reconciliation Procedures for Preparing a Bank Reconciliation Compare the deposits listed in the company’s records with the deposits shown on the bank statement. Compare the checks listed in the company’s records with the checks shown on the bank statement. Continued

Appendix: Bank Reconciliation 38 Appendix: Bank Reconciliation Procedures for Preparing a Bank Reconciliation Identify any deposits or charges made directly by the bank that are not included in the company’s records. Determine the effect of any errors. Complete the bank reconciliation.

Appendix: Bank Reconciliation Causes of the difference between the cash balance and the company’s bank statement balance: Outstanding checks Deposits in transit Charges made directly by the bank Deposits made directly by the bank Errors

C 7 hapter The End Task Force Image Gallery clip art included in this electronic presentation is used with the permission of NVTech Inc.