University of California, Santa Barbara

University of California, Santa Barbara
Prepared by Coby Harmon University of California, Santa Barbara Westmont College Copyright ©2015 Pearson Education Inc. All rights reserved.

ACCOUNT FOR SHORT-TERM INVESTMENTS Reasons to Invest in Other Companies Companies invest in debt or equity securities for at least two reasons: Have excess cash For strategic reasons, such as obtaining the ability to influence another company LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Reasons to Invest in Other Companies To be classified as a current asset, an investment must meet both of the following criteria: Must be liquid (easily convertible to cash); and Investor must intend to either convert to cash within one year or current operating cycle, whichever is longer, or use it to pay a current liability Otherwise, the investment is classified as a long-term asset LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Categories of Investments in Securities
Reasons to Invest in Other Companies Categories of Investments in Securities Trading Available-for-Sale Held-to-Maturity Debt (bonds, notes, etc.) or equity (stock) Expected to be sold within the near term through active trading Generate income or losses on a day-to-day basis through changes in their prices LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Reasons to Invest in Other Companies Categories of Investments in Securities Trading Available-for-Sale Held-to-Maturity Held with intent of selling some time in the future Not classified as either trading or held-to-maturity LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Reasons to Invest in Other Companies Categories of Investments in Securities Trading Available-for-Sale Held-to-Maturity Debt securities (bonds, notes, or other instruments with established maturity dates) Investor has intent and ability to hold until they mature LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Trading Securities Suppose that, on June 18, 2014, Apple, Inc., purchases 5,000 shares of Intel stock as a trading security. For simplicity, suppose that the Intel stock is Apple, Inc.’s only short-term investment. Apple, Inc., buys the Intel stock during 2014 for $20 per share, paying $100,000 cash. Apple, Inc., records the purchase of the investment at cost: Account Debit Credit June 18 Investment in Trading Securities 100,000 Cash 100,000 Purchase investment LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Trading Securities Assume that, on June 30, Apple, Inc., receives a cash dividend of $4,000 from Intel. Apple, Inc., records the dividend revenue as: Account Debit Credit June 30 Cash 4,000 Dividend Revenue 4,000 Received cash dividend LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

If fair value has increased If fair value has decreased
Trading Securities Unrealized Gains and Losses Trading securities are reported on the balance sheet at current fair (market) value Unrealized gain If fair value has increased Unrealized loss If fair value has decreased LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Unrealized Gains and Losses. Apple, Inc
Unrealized Gains and Losses. Apple, Inc.’s 2014 fiscal year ends on September 27. On this date, the fair market value of Intel’s stock is $110,000. Apple, Inc., adjusts the investment in Intel securities to its current fair value with the following journal entry: Account Debit Credit Investment in Trading Securities 10,000 Unrealized Gain on Trading Securities 10,000 Adjusted investment to fair value Unrealized Gain on Trading Securities (other income) Investment in Trading Securities 100,000 10,000 10,000 110,000 LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Unrealized Gains and Losses
Unrealized Gains and Losses. On September 26, 2015, the end of Apple, Inc.’s fiscal year, the fair value of Intel stock is $105,000. In preparation for its 2015 balance sheet, Apple, Inc., makes the following adjusting entry: Account Debit Credit Unrealized Loss on Trading Securities 5,000 Investment in Trading Securities 5,000 Adjusted investment to fair value Unrealized Loss on Trading Securities (other income) Investment in Trading Securities 100,000 5,000 5,000 10,000 105,000 LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Sales price > carrying amount Sales price < carrying amount
Trading Securities Realized Gains and Losses Occurs only when the investor sells an investment Realized gain Sales price > carrying amount Realized loss Sales price < carrying amount LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Realized Gains and Losses. Suppose Apple, Inc., sells its Intel stock on June 19, 2016 for $107,000. Apple, Inc., makes the following journal entry: Account Debit Credit Cash 107,000 Investment in Trading Securities 105,000 Gain on Sale of Trading Securities 2,000 Sale of investments at a gain LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Available-for-Sale Securities Same as Trading Securities Recording initial purchase Recording dividend revenue Adjusting to fair value Different from Trading Securities Unrealized gains and losses reported as other comprehensive income (loss) for each period Accumulated and reported as accumulated other comprehensive income (loss) in stockholders’ equity LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Illustration Trading Trading
Eastern Corporation, the investment banking company, often has extra cash to invest. Suppose Eastern buys 1,000 shares of Dream, Inc., stock at $57 per share. Assume Eastern expects to hold the Dream stock for one month and then sell it. The purchase occurs on December 15, At December 31, the market price of a share of Dream stock is $58 per share. Requirements 1. What type of investment is this to Eastern? Give the reason for your answer. Trading Eastern intends to sell the stock within a short time Trading Eastern intends to sell the stock within a short time LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Illustration. 2. Record Eastern’s purchase of the Dream stock on December 15 and the adjustment to market value on December 31. Account Debit Credit Dec. 15 Investment in Trading Securities 57,000 Cash 57,000 (1,000 shares x $57) Dec. 31 Investment in Trading Securities 1,000 Unrealized Gain on Trading Securities 1,000 [(1,000 shares x $58) - $57,000] LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Illustration. 3. Show how Eastern would report this investment on its balance sheet at December 31 and any gain or loss on its income statement for the year ended December 31, 2014. LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Available-for-Sale Available-for-Sale
Illustration. 4. Suppose Eastern did not intend to treat the Dream stock as a trading security, but still intended to treat it as a short-term investment. How do your answers for parts 1-3 change? Requirements 1. What type of investment is this to Eastern? Give the reason for your answer. Available-for-Sale Facts state it is not a trading security Available-for-Sale Facts state it is not a trading security LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Illustration. 2. Record Eastern’s purchase of the Dream stock on December 15 and the adjustment to market value on December 31. Account Debit Credit Dec. 15 Investment in AFSS 57,000 Cash 57,000 (1,000 shares x $57) Dec. 31 Investment in AFSS Securities 1,000 Unrealized Gain on AFSS (OCI) 1,000 [(1,000 shares x $58) - $57,000] LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

Illustration. 3. Show how Eastern would report this investment on its balance sheet at December 31 and any gain or loss on its income statement for the year ended December 31, 2014. LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Ethics and the Current Ratio There are several strategies for increasing the current ratio Launch a major sales effort Pay off some current liabilities before year-end Reclassifying investments as current assets LO 1 Copyright ©2015 Pearson Education Inc. All rights reserved.

APPLY GAAP FOR PROPER REVENUE RECOGNITION Revenue Recognition When performance obligation satisfied Goods transferred or services provided to customer Price is fixed or determinable Collection reasonably assured Revenue is cash value of goods or services transferred Impacted by shipping terms and payment incentives offered LO 2 Copyright ©2015 Pearson Education Inc. All rights reserved.

APPLY GAAP FOR PROPER REVENUE RECOGNITION Assume Apple, Inc., delivers a truckload of iPhones to an AT&T Wireless warehouse in Florida. On the truck are 30,000 iPhone 6s, each of which Apple, Inc., sells to AT&T Wireless for $100 on account. Apple, Inc., records the following: Account Debit Credit Accounts Receivable 3,000,000 Sales Revenue 3,000,000 (30,000 x $100) LO 2 Copyright ©2015 Pearson Education Inc. All rights reserved.

Shipping Terms Ownership Changes Hands and Revenue Recognized
FOB (free on board) shipping point At the point when the goods leave the seller’s shipping dock FOB (free on board) destination At the point of delivery to the customer LO 2 Copyright ©2015 Pearson Education Inc. All rights reserved.

2% discount if paid within 10 days
Sales Discounts Discounts offered for early payment Typical incentive 2/10, n/30 2% discount if paid within 10 days Full amount due in 30 days LO 2 Copyright ©2015 Pearson Education Inc. All rights reserved.

Sales Discounts Discounts offered for early payment Typical incentive 2/10, n/30 If Apple, Inc. offered AT&T Wireless terms of 2/10, n/30 and AT&T pays the invoice within 10 days, it is entitled to a $60,000 discount ($3,000,000 sale times 2%). The collection of this receivable is recorded as follows: Account Debit Credit Cash 2,940,000 Sales Discount 60,000 Accounts Receivable 3,000,000 LO 2 Copyright ©2015 Pearson Education Inc. All rights reserved.

Sales Returns and Allowances Right to return unsatisfactory or damaged merchandise to the retailer for a refund or exchange Suppose that of the 30,000 iPhones Apple, Inc., sells to AT&T Wireless, 100 are returned (or Apple, Inc., grants AT&T Wireless an allowance) because they are damaged in shipment. Apple, Inc., would record the following entry: Account Debit Credit Sales Returns and Allowances 10,000 Accounts Receivable 10,000 LO 2 Copyright ©2015 Pearson Education Inc. All rights reserved.

ACCOUNT FOR AND CONTROL ACCOUNTS RECEIVABLE Types of Receivables Third most liquid asset Monetary claims against others Acquired mainly by: Selling goods and services (accounts receivable) Lending money (notes receivable) LO 3 Copyright ©2015 Pearson Education Inc. All rights reserved.

ACCOUNT FOR AND CONTROL ACCOUNTS RECEIVABLE Accounts Receivable Amounts collectible from customers from the sale of goods and services Sometimes called trade receivables The Accounts Receivable account serves as a control Summarizes total receivables from all customers Subsidiary ledger kept with a separate account for each customer LO 3 Copyright ©2015 Pearson Education Inc. All rights reserved.

ACCOUNTS RECEIVABLE SUBSIDIARY LEDGER
ACCOUNT FOR AND CONTROL ACCOUNTS RECEIVABLE ACCOUNTS RECEIVABLE SUBSIDIARY LEDGER GENERAL LEDGER Accounts Receivable Brown Bal. 9,000 Bal. 5,000 FedEx Total $9,000 Bal. 1,000 Moody’s Bal. 3,000 LO 3 Copyright ©2015 Pearson Education Inc. All rights reserved.

ACCOUNT FOR AND CONTROL ACCOUNTS RECEIVABLE Notes Receivable Borrower signs a written promise to pay the lender A definite sum plus interest At the maturity date May require the borrower to pledge security LO 3 Copyright ©2015 Pearson Education Inc. All rights reserved.

ACCOUNT FOR AND CONTROL ACCOUNTS RECEIVABLE Other Receivables Miscellaneous category for all receivables other than accounts receivable and notes receivable Examples Interest receivable Advances to employees LO 3 Copyright ©2015 Pearson Education Inc. All rights reserved.

Internal Controls Over Cash Collections on Account Separate cash-handling and cash accounting duties Bookkeeper should Not handle cash Record amounts from remittance advices Separate employee should open incoming mail and make deposit Lockbox system LO 3 Copyright ©2015 Pearson Education Inc. All rights reserved.

Managing Receivables Issues Plan of Action What are the benefits and the costs of extending credit to customers? Benefit—Increase in sales. Cost—Risk of not collecting. Run a credit check on prospective customers. Extend credit only to creditworthy customers. Design the internal control system to separate duties. Separate cash-handling and accounting duties to keep employees from stealing the cash collected from customers. Keep a close eye on customer payment habits. Send second and third statements to slow-paying customers, if necessary. Pursue collection from customers to maximize cash flow. LO 3 Copyright ©2015 Pearson Education Inc. All rights reserved.

Accounting for Receivables
Issues Plan of Action Measure and report receivables on the balance sheet at net realizable value, the amount you expect to collect. This is the appropriate amount to report for receivables. Report receivables at NRV: Balance sheet Receivables Measure and report the expense associated with failure to collect receivables. This expense is called uncollectible-account expense and is reported on the income statement. Issues Plan of Action Measure and report receivables on the balance sheet at net realizable value, the amount you expect to collect. This is the appropriate amount to report for receivables. Report receivables at NRV: Balance sheet Receivables $1,000 Less: Allowance for uncollectible accounts (80) Receivables, net $ Measure the expense of not collecting from customers: Income statement Sales (or service) revenue $8,000 Expenses: Uncollectible-account expense 190 Measure and report the expense associated with failure to collect receivables. This expense is called uncollectible-account expense and is reported on the income statement. LO 3 Copyright ©2015 Pearson Education Inc. All rights reserved.

Benefits of Selling on Credit
EVALUATE COLLECTIBILITY USING THE ALLOWANCE FOR UNCOLLECTIBLE ACCOUNTS Benefits of Selling on Credit Cost of Selling on Credit Customers can buy on credit, so sales and profits increase Company cannot collect from some customers Recorded as uncollectible- account expense LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Allowance Method Records collection losses based on company’s collection experience Records Uncollectible-Account Expense (Income Statement) Sets up Allowance for Uncollectible Accounts Contra-account to Accounts Receivable Amount of receivables business expects to not collect LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Alternate Presentation
Allowance Method Alternate Presentation LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Allowance Method Two basic ways to estimate uncollectibles:
Percent-of-Sales Method Income Statement Approach Aging-of-Receivables Method Balance Sheet Approach LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Uncollectible Accounts
Percent-of-Sales. Assume it is September 29, 2012, and Apple, Inc.’s accounts have these balances before the year-end adjustments (amounts in millions): Allowance for Uncollectible Accounts Accounts Receivable 11,028 10 Suppose Apple, Inc.’s credit department estimates that uncollectible- account expense is (1/20 of 1%) of total revenues, which are $156,508 million. The entry that records uncollectible-account expense for the year also updates the allowance as follows (using Apple, Inc., figures). LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Percent-of-Sales. Suppose Apple, Inc.’s credit department estimates that uncollectible-account expense is (1/20 of 1%) of total revenues, which are $156,508 million. The entry that records uncollectible-account expense for the year also updates the allowance as follows (using Apple, Inc., figures). Uncollectible-Account Expense = $156,508 x = $78 Account Debit Credit Sep. 29 Uncollectible-Account Expense 78 Allowance for Uncollectible Accounts 78 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Uncollectible Accounts Net accounts receivable, $10,940
Percent-of-Sales. Allowance for Uncollectible Accounts Accounts Receivable 11,028 10 Adj 78 Bal 88 Net accounts receivable, $10,940 Uncollectible- Account Expense Employs the expense recognition (matching) concept 78 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Aging-of-Receivables Method Balance Sheet Approach Estimate % Uncollectible X Accounts Receivable = Allowance for Uncollectible Accounts LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Uncollectible Accounts
Aging-of-Receivables. Assume it is September 29, 2012, and Apple, Inc.’s receivables accounts show the following before the year-end adjustment (amounts in millions): Allowance for Uncollectible Accounts Accounts Receivable 11,028 10 Apple, Inc.’s accounts receivable aging schedule shows that the company will not collect $98. LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Aging-of-Receivables.
Exhibit 5-3 | Aging Accounts Receivable of Apple, Inc. * Computations are rounded LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Allowance for Uncollectible Accounts
Aging-of-Receivables. The aging method will bring the balance of the allowance account ($10) to the needed amount as determined by the aging schedule ($98). To update the allowance, Apple, Inc., would make the following adjusting entry at year-end: Allowance for Uncollectible Accounts = $98 - $10 = $88 Account Debit Credit Sep. 29 Uncollectible-Account Expense 88 Allowance for Uncollectible Accounts 88 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Uncollectible Accounts Net accounts receivable, $10,930
Aging-of-Receivables. Allowance for Uncollectible Accounts Accounts Receivable 11,028 10 Adj 88 Bal 98 Net accounts receivable, $10,930 Uncollectible- Account Expense 88 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Write Off Uncollectible Accounts
Write Off Uncollectible Accounts. Assume that at the beginning of fiscal 2013, Apple, Inc., had these accounts receivable (amounts in millions): Allowance for Uncollectible Accounts Accounts Receivable—RS 9 98 Accounts Receivable—TM Total Accounts Receivable = $11,028 3 Accounts Receivable—Other 11,016 Accounts Receivable, Net = $10,930 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Write Off Uncollectible Accounts. Early in fiscal 2013, Apple, Inc.’s credit department determines that Apple, Inc., cannot collect from RS. Apple, Inc., then writes off this receivable with the following entry: Account Debit Credit Jan. 31 Allowance for Uncollectible Accounts 9 Accounts Receivable—RS 9 + 9 - 9 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Allowance for Uncollectible Accounts Accounts Receivable—RS
Write Off Uncollectible Accounts. Early in fiscal 2013, Apple, Inc.’s credit department determines that Apple, Inc., cannot collect from RS. Apple, Inc., then writes off this receivable with the following entry: Account Debit Credit Jan. 31 Allowance for Uncollectible Accounts 9 Accounts Receivable—RS 9 Allowance for Uncollectible Accounts Accounts Receivable—RS 9 9 9 98 89 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Write Off Uncollectible Accounts. After the write-off, Apple, Inc
Write Off Uncollectible Accounts. After the write-off, Apple, Inc.’s accounts show these amounts: Allowance for Uncollectible Accounts Accounts Receivable—RS 9 9 9 98 89 Accounts Receivable—TM 3 Total Accounts Receivable = $11,019 Accounts Receivable—Other 11,016 Accounts Receivable, Net = $10,930 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Illustration On November 30, High Peaks Party Planners had a $34,000 balance in Accounts Receivable and a $3,000 credit balance in Allowance for Uncollectible Accounts. During December, High Peaks Party Planners made credit sales of $159,000. December collections on account were $130,000, and write-offs of uncollectible receivables totaled $2,700. Uncollectible-accounts expense is estimated as 1% of credit sales. Requirements Journalize sales, collections, write-offs of uncollectibles, and uncollectible-account expense by the allowance method during December. Explanations are not required. Show how High Peaks Party Planners will report accounts receivable and net sales on its December 31 balance sheet and income statement for the month ended December 31. LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Illustration. During December, High Peaks Party Planners made credit sales of $159,000. December collections on account were $130,000, and write-offs of uncollectible receivables totaled $2,700. Account Debit Credit Dec Accounts Receivable 159,000 Sales Revenue 159,000 Dec Cash 130,000 Accounts Receivable 130,000 Dec Allowance for Uncollectible Accounts 2,700 Accounts Receivable 2,700 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Illustration. High Peaks made credit sales of $159,000
Illustration. High Peaks made credit sales of $159,000. Uncollectible-accounts expense is estimated as 1% of credit sales. Account Debit Credit Dec Uncollectible-Account Expense 1,590 Allowance for Uncollectible Accounts 1,590 Allowance for Uncollectible Accounts Accounts Receivable 34,000 130,000 3,000 159,000 2,700 2,700 1,590 Bal. 60,300 Bal. 1,890 Accounts Receivable, Net = $58,410 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Illustration. Show how High Peaks Party Planners will report accounts receivable and net sales on its December 31 balance sheet and income statement for the month ended December 31. LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Direct Write-Off Method Record expense when specific customer’s account proves to be uncollectible Not GAAP No allowance for uncollectibles Receivables (assets) may be overstated Fails to recognize expense in same period in which sales revenue is earned Required method for federal income tax purposes LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Direct Write-Off Method The journal entry to record the write off of the RS receivable using the direct write-off method is as follows: Account Debit Credit Jan. 31 Uncollectible-Account Expense 9 Accounts Receivable—RS 9 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Record revenue on account
Computing Cash Collections from Customers Account Debit Credit Accounts Receivable 1,800 Sales (or Service) Revenue 1,800 Accounts Receivable Beginning balance 200 Sales on account 1,800 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Write-off of uncollectible account
Computing Cash Collections from Customers Account Debit Credit Allowance for Uncollectible Accounts 100 Accounts Receivable 100 Accounts Receivable Beginning balance 200 Write-off of uncollectible 100 Sales on account 1,800 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Record collection on account
Computing Cash Collections from Customers Account Debit Credit Cash 1,500 Accounts Receivable 1,500 Accounts Receivable Beginning balance 200 Write-off of uncollectible 100 Sales on account 1,800 Collections from customers 1,500 Ending balance 400 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

Computing Cash Collections from Customers Receivables typically hold only five items Can solve for Collections from Customers when sales, write-offs, beginning and ending balances are known Accounts Receivable Beginning balance 200 Write-off of uncollectible 100 Sales on account 1,800 Collections from customers Collections from customers 1,500 Ending balance 400 LO 4 Copyright ©2015 Pearson Education Inc. All rights reserved.

ACCOUNT FOR NOTES RECEIVABLE
Terms Creditor Party to whom money is owed; lender Debtor Party that borrowed and owes money; maker, borrower Interest Cost of borrowing money; stated as annual percentage rate Maturity date Date when debtor must pay note Maturity value Sum of principal and interest Principal Amount borrowed by debtor Term Length of time from when note was signed to when payment must be made Classified as current or long-term LO 5 Copyright ©2015 Pearson Education Inc. All rights reserved.

Accounting for Notes Receivable Consider the promissory note in Exhibit 5-5. After Lauren Holland signs the note, Continental Bank gives her $1,000 cash. The bank makes the following entry to record the loan. Account Debit Credit Aug 31 Notes Receivable—L.Holland 1,000 Cash 1,000 Made a loan LO 5 Copyright ©2015 Pearson Education Inc. All rights reserved.

Principal x Interest Rate x Time = Amount of Interest
Accounting for Notes Receivable Continental Bank earns interest revenue during September, October, November, and December. At December 31, 2014, the bank accrues 9% interest revenue for four months: Account Debit Credit Dec 31 Interest Receivable 30 Interest Revenue 30 Accrued interest Calculation of Accrued Interest: $1,000 Principal x Interest Rate x Time = Amount of Interest .09 4/12 $30 LO 5 Copyright ©2015 Pearson Education Inc. All rights reserved.

Accounting for Notes Receivable The bank collects the note on February 28, 2015, and records the following: Account Debit Credit Feb 28 Cash 1,045 Notes Receivable—L.Holland 1,000 Interest Receivable 30 Interest Revenue 15 Interest Revenue for January and February = $1,000 x .09 x 2/12 = $15 LO 5 Copyright ©2015 Pearson Education Inc. All rights reserved.

Accounting for Notes Receivable Interest Rates usually expressed as an annual percent Fraction used for time periods less than an year Months/12 Days/365 LO 5 Copyright ©2015 Pearson Education Inc. All rights reserved.

SHOW HOW TO SPEED UP CASH FLOW FROM RECEIVABLES Strategies to shorten credit cycle: Sales discounts Interest on past due customer accounts Effective credit and collection procedures Emphasize credit card and bankcard sales LO 6 Copyright ©2015 Pearson Education Inc. All rights reserved.

Credit Card or Bankcard Sales Apple, Inc., sells a computer and peripheral devices for $5,000 at one of its stores, and the customer pays with a VISA card. VISA charges companies a 2% processing fee. Credit card fee = $5,000 x 2% = $100 Account Debit Credit Cash 4,900 Credit Card Discount Expense 100 Sales Revenue 5,000 LO 6 Copyright ©2015 Pearson Education Inc. All rights reserved.

Selling (Factoring) Receivables Company sells receivables to a factor Factor pays discounted price Benefits company with immediate receipt of cash Expensive and loss of control over collection process Used by companies with Weak or insufficient credit history Significant amount of debt LO 6 Copyright ©2015 Pearson Education Inc. All rights reserved.

Selling (Factoring) Receivables To illustrate, suppose a company wishes to speed up cash flow and therefore sells $100,000 of accounts receivable, receiving cash of $95,000. The company would record the sale of the receivables: Account Debit Credit Cash 95,000 Financing Expense 5,000 Accounts Receivable 100,000 LO 6 Copyright ©2015 Pearson Education Inc. All rights reserved.

Quick (Acid-Test) Ratio Higher the ratio, the easier it is to pay current liabilities Apple, Inc.’s quick ratio is 1.04 $1.04 of quick assets to pay each $1 of current liabilities Ratio value is considered excellent What constitutes an acceptable quick ratio depends on the industry LO 7 Copyright ©2015 Pearson Education Inc. All rights reserved.

Days’ Sales in Receivables
Net sales 365 days 1. Average daily sales = Average net receivables * Average daily sales 2. Days’ sales in receivables = * Average net receivables Beginning net receivables + Ending net receivables 2 = LO 7 Copyright ©2015 Pearson Education Inc. All rights reserved.

Compute Arcadia’s quick (acid-test) ratio
$6,000 Cash and Cash Equivalents $22,000 Marketable securities $56,000 Net current receivables + + .69 = Total current liabilities $15,000 + $107,000 Fairly weak LO 7 Copyright ©2015 Pearson Education Inc. All rights reserved.

Illustration Days’ Sales in Receivables $1,995 31.6 days
Net sales 365 days $728,000 365 days 1. Average daily sales = = = $1,995 Average net receivables * Average daily sales ($56, $70,000) / 2 $1,995 2. Days’ sales in receivables = = = 31.6 days 31.6 days’ sales in receivables is within an acceptable range relative to credit terms of net 30 days. LO 7 Copyright ©2015 Pearson Education Inc. All rights reserved.

This work is protected by United States copyright law and is provided solely for the use of instructors in teaching their courses and assessing student learning. Dissemination or sale of any part of this work (including on the World Wide Web) will destroy the integrity of the work and is not permitted. The work and materials from it should never be made available to students except by instructors using the accompanying text in their classes. All recipients of this work are expected to abide by these restrictions and to honor the intended pedagogical purposes and the needs of other instructors who rely on these materials. Copyright ©2015 Pearson Education Inc. All rights reserved.

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