Cash and Receivables

Chapter
7
Intermediate Accounting
12th Edition
Kieso, Weygandt, and Warfield

Chapter
7-1 Prepared by Coby Harmon, University of California, Santa Barbara
 Learning Objectives
1. Identify items considered as cash.
2. Indicate how to report cash and related items.
3. Define receivables and identify the different types of
receivables.
4. Explain accounting issues related to recognition of accounts
receivable.
5. Explain accounting issues related to valuation of accounts
receivable.
6. Explain accounting issues related to recognition of notes
receivable.
7. Explain accounting issues related to valuation of notes receivable.
8. Explain accounting issues related to disposition of accounts and
notes receivable.
9. Describe how to report and analyze receivables.
Chapter
7-2
 Cash and Receivables

Cash Receivables

What is cash? Recognition of accounts

Management and receivable
control of cash Valuation of accounts
Reporting cash receivable
Summary of cash- Recognition of notes
related items receivable
Valuation of notes
receivable
Disposition of accounts
and notes receivable
Presentation and
Chapter
analysis
7-3
 What is Cash?

Cash
Most liquid asset
Standard medium of exchange
Basis for measuring and accounting for all items
Current asset
Examples: coin, currency, available funds on
deposit at the bank, money orders, certified
checks, cashier’s checks, personal checks, bank
drafts and savings accounts.
Chapter
7-4 LO 1 Identify items considered as cash.
 Management and Control of Cash

Management faces two problems:

(1) to establish proper controls to prevent any
unauthorized transactions, and
(2) to provide information necessary to the proper
management of cash on hand and cash
transactions.
Companies need effective internal control over
cash.

Chapter
7-5 LO 1 Identify items considered as cash.
 Reporting Cash

Restricted Cash
Companies segregate restricted cash from “regular”
cash for reporting purposes.
Examples, restricted for:
(1) plant expansion, (2) retirement of long-term debt, and
(3) compensating balances.
Illustration 7-1

Chapter
7-6 LO 2 Indicate how to report cash and related items.
 Reporting Cash

Bank Overdrafts
When a company writes a check for more than the
amount in its cash account.
Generally reported as a current liability.
Offset against cash account only when available
cash is present in another account in the same
bank on which the overdraft occurred.

Chapter
7-7 LO 2 Indicate how to report cash and related items.
 Reporting Cash

Cash Equivalents
Short-term, highly liquid investments that are both

(a) readily convertible to cash, and

(b) so near their maturity that they present

insignificant risk of changes in interest rates.

Examples: Treasury bills, Commercial paper, and

Money market funds.

Chapter
7-8 LO 2 Indicate how to report cash and related items.
 Receivables

Claims held against customers and others for

money, goods, or services.

Oral promises of the Written promises to pay

purchaser to pay for a sum of money on a
goods and services sold. specified future date.

Accounts Notes
Receivable Receivable

Chapter
7-9 LO 3 Define receivables and identify the different types of receivables.
 Receivables

Nontrade Receivables
Examples:
1. Advances to officers and employees.
2. Advances to subsidiaries.
3. Deposits to cover potential damages or losses.
4. Deposits as a guarantee of performance or payment.
5. Dividends and interest receivable.

Chapter
7-10 LO 3 Define receivables and identify the different types of receivables.
 Recognition of Accounts Receivables

Trade Discounts
Reductions from the list
price
Not recognized in the 10 %
accounting records Discount
Customers are billed net for new
of discounts Retail
Store
Customers

Chapter
7-11 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Recognition of Accounts Receivables

Cash Discounts
Inducements for prompt
payment
Gross Method vs.
Net Method Payment
terms are
2/10, n/30

Chapter
7-12 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Recognition of Accounts Receivables

Example: On June 3, Benedict Corp. sold to Chester Inc.,

merchandise having a sale price of $5,000 with terms of
2/10,n/60, f.o.b. shipping point. On June 12, Benedict
received a check for the balance due from Chester.
Prepare required journal entries assuming Benedict records
the sale at gross. Gross Method

June 3 Accounts receivable 5,000

Sales 5,000

June 12 Cash ($5,000 x 98%) 4,900

Sales discounts 100
Accounts receivable 5,000
Chapter
7-13 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Recognition of Accounts Receivables

Example: On June 3, Benedict Corp. sold to Chester Inc.,

merchandise having a sale price of $5,000 with terms of
2/10,n/60, f.o.b. shipping point. On June 12, Benedict
received a check for the balance due from Chester.
Prepare required journal entries assuming Benedict records
the sale at net. Net Method

June 3 Accounts receivable 4,900

Sales 4,900

June 12 Cash 4,900

Accounts receivable 4,900

Chapter
7-14 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Recognition of Accounts Receivables

Example: On June 3, Benedict Corp. sold to Chester Inc.,

merchandise having a sale price of $5,000 with terms of
2/10,n/60, f.o.b. shipping point. On June 29, Benedict
received a check for the balance due from Chester.
Prepare required journal entries assuming Benedict records
the sale at net. Net Method

June 3 Accounts receivable 4,900

Sales 4,900

June 29 Cash 5,000

Accounts receivable 4,900
Sales discounts forfeited 100
Chapter
7-15 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Recognition of Accounts Receivables

Nonrecognition of Interest Element

A company should measure receivables in terms of
their present value.
In practice, companies ignore interest revenue
related to accounts receivable because the amount
of the discount is not usually material.

Chapter
7-16 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Accounting for Accounts Receivable

How are these accounts presented on the Balance

Sheet?

Allowance for
Accounts Receivable Doubtful Accounts
Beg. 500 25 Beg.

End. 500 25 End.

Chapter
7-17 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Assets
Current Assets:
Cash $ 346
Accounts receivable 500
Less allowance for doubtful accounts 25 475
Inventory 812
Prepaids _ 40
Total current assets 1,673
Fixed Assets:
Office equipment 5,679
Furniture & fixtures 6,600
Less: Accumulated depreciation (3,735)
Total fixed assets 8,544
Total Assets $10,217

Chapter
7-18 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Assets
Current Assets:
Cash $ 346
Accounts receivable, net of $25 allowance
for doubtful accounts 475
Inventory 812
Prepaids _ 40
Total current assets 1,673
Fixed Assets:
Office equipment 5,679
Furniture & fixtures 6,600
Less: Accumulated depreciation (3,735)
Total fixed assets 8,544
Total Assets $10,217

Chapter
7-19 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Accounting for Accounts Receivable
Journal entry for credit sale of $100?
Accounts receivable 100
Sales 100

Allowance for
Accounts Receivable Doubtful Accounts
Beg. 500 25 Beg.

End. 500 25 End.

Chapter
7-20 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Accounting for Accounts Receivable
Journal entry for credit sale of $100?
Accounts receivable 100
Sales 100

Allowance for
Accounts Receivable Doubtful Accounts
Beg. 500 25 Beg.
Sale 100

End. 600 25 End.

Chapter
7-21 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Accounting for Accounts Receivable
Collected of $333 on account?
Cash 333
Accounts receivable 333

Allowance for
Accounts Receivable Doubtful Accounts
Beg. 500 25 Beg.
Sale 100

End. 600 25 End.

Chapter
7-22 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Accounting for Accounts Receivable
Collected of $333 on account?
Cash 333
Accounts receivable 333

Allowance for
Accounts Receivable Doubtful Accounts
Beg. 500 25 Beg.
Sale 100 333 Coll.

End. 267 25 End.

Chapter
7-23 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Accounting for Accounts Receivable
Adjustment of $15 for estimated Bad-Debts?
Bad debt expense 15
Allowance for Doubtful Accounts 15

Allowance for
Accounts Receivable Doubtful Accounts
Beg. 500 25 Beg.
Sale 100 333 Coll.

End. 267 25 End.

Chapter
7-24 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Accounting for Accounts Receivable
Adjustment of $15 for estimated Bad-Debts?
Bad debt expense 15
Allowance for Doubtful Accounts 15

Allowance for
Accounts Receivable Doubtful Accounts
Beg. 500 25 Beg.
Sale 100 333 Coll. 15 Est.

End. 267 40 End.

Chapter
7-25 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Accounting for Accounts Receivable
Write-off of uncollectible accounts for $10?
Allowance for Doubtful accounts 10
Accounts receivable 10

Allowance for
Accounts Receivable Doubtful Accounts
Beg. 500 25 Beg.
Sale 100 333 Coll. 15 Est.

End. 267 40 End.

Chapter
7-26 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Accounting for Accounts Receivable
Write-off of uncollectible accounts for $10?
Allowance for Doubtful accounts 10
Accounts receivable 10

Allowance for
Accounts Receivable Doubtful Accounts
Beg. 500 25 Beg.
Sale 100 333 Coll. 15 Est.
10 W/O W/O 10

End. 257 30 End.

Chapter
7-27 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Assets
Current Assets:
Cash $ 346
Accounts receivable, net of $30 allowance
for doubtful accounts 227
Inventory 812
Prepaids _ 40
Total current assets 1,673
Fixed Assets:
Office equipment 5,679
Furniture & fixtures 6,600
Less: Accumulated depreciation (3,735)
Total fixed assets 8,544
Total Assets $10,217

Chapter
7-28 LO 4 Explain accounting issues related to recognition of accounts receivable.
 Valuation of Accounts Receivable

Reporting Receivables
Classification
Valuation (net realizable value)
Uncollectible Accounts Receivable
Sales on account raise the possibility of accounts
not being collected

Chapter
7-29 LO 5 Explain accounting issues related to valuation of accounts receivable.
 Uncollectible Accounts Receivable

Methods of Accounting for Uncollectible Accounts

Direct Write-Off Allowance Method

Theoretically undesirable: Losses are Estimated:
no matching Percentage-of-sales
receivable not stated at Percentage-of-
net realizable value receivables

Chapter
7-30 LO 5 Explain accounting issues related to valuation of accounts receivable.
 Uncollectible Accounts Receivable

Percentage of Sales
Income
Statement
Matching Approach

Sales --- Bad Debt Expense

Percentage of Receivables
Balance
Net Realizable Value Sheet
Approach
Receivables - Allowance for Bad Debt

Chapter
7-31 LO 5 Explain accounting issues related to valuation of accounts receivable.
 Uncollectible Accounts Receivable

Example Data
Credit sales $500,000
Estimated % of credit sales not collected 1.25%
Accounts receivable balance $72,500
Estimated % of A/R not collected 8%
Allowance for Doubtful Accounts:
Case I $150 (credit balance)
Case 2 $150 (debit balance)

Chapter
7-32 LO 5 Explain accounting issues related to valuation of accounts receivable.
 Uncollectible Accounts Receivable

Percentage of Sales Method

Charge sales $500,000

Estimated percentage x 1.25%
Estimated expense $ 6,250
===================================================
What should the ending balance be for the allowance
account? -- Case 1 and Case 2

Chapter
7-33 LO 5 Explain accounting issues related to valuation of accounts receivable.
 Uncollectible Accounts Receivable

Percentage of Sales
Case 1 Case 2
Actual balance (credit) (150) 150
Adjustment (6,250) (6,250)
Ending balance (6,400) (6,100)

Journal entry:
Bad debt expense 6,250
Allowance for doubtful accounts 6,250

Chapter
7-34 LO 5 Explain accounting issues related to valuation of accounts receivable.
 Uncollectible Accounts Receivable

Percentage of Receivables

Accounts receivable $ 72,500

Estimated percentage x 8%
Desired balance $ 5,800
===================================================
What should the ending balance be for the allowance
account? -- Case 1 and Case 2

Chapter
7-35 LO 5 Explain accounting issues related to valuation of accounts receivable.
 Uncollectible Accounts Receivable

Percentage of Receivables
Case 1 Case 2
Actual balance (credit) (150) 150
Desired balance (5,800) (5,800)
Adjustment (5,650) (5,950)

Journal entry – Case 1:

Bad debt expense 5,650
Allowance for doubtful accounts 5,650

Chapter
7-36 LO 5 Explain accounting issues related to valuation of accounts receivable.
 Uncollectible Accounts Receivable

Percentage of Receivables
Case 1 Case 2
Actual balance (credit) (150) 150
Desired balance (5,800) (5,800)
Adjustment (5,650) (5,950)

Journal entry – Case 2:

Bad debt expense 5,950
Allowance for doubtful accounts 5,950

Chapter
7-37 LO 5 Explain accounting issues related to valuation of accounts receivable.
 Uncollectible Accounts Receivable

Summary
Percentage of Sales approach:
Bad debt expense estimate is related to a nominal
account (Sales), any balance in the allowance account is
ignored.
Therefore, the method achieves a proper matching of
cost and revenues.
Percentage of Receivables approach:
Results in a more accurate valuation of receivables on
the balance sheet.
Method may also be applied using an aging schedule.
Chapter
7-38 LO 5 Explain accounting issues related to valuation of accounts receivable.
 Recognition of Notes Receivable

Notes Receivable
Supported by a formal promissory note.
A negotiable instrument
Maker signs in favor of a Payee
Interest-bearing (has a stated rate of interest) OR
Noninterest-bearing (interest included in face
amount)

Chapter
7-39 LO 6 Explain accounting issues related to recognition of notes receivable.
 Recognition of Notes Receivable

Generally originate from:

Customers who need to extend the payment
period of an outstanding receivable
High-risk or new customers
Loans to employees and subsidiaries
Sales of property, plant, and equipment
Lending transactions (the majority of notes)

Chapter
7-40 LO 6 Explain accounting issues related to recognition of notes receivable.
 Recognition of Notes Receivable

Short-Term Long-Term
Record at Record at
Face Value, Present Value
less allowance of cash expected
to be collected

Interest Rates Note Issued at

Stated rate = Market rate Face Value
Stated rate > Market rate Premium
Stated rate < Market rate Discount
Chapter
7-41 LO 6 Explain accounting issues related to recognition of notes receivable.
 Note Issued at Face Value

Exercise Balance Bar Co. lends Bio Foods $100,000 in

exchange for a $100,000, 5-year note bearing interest
at 8 percent annually. The market rate of interest for a
note of similar risk is also 8 percent. How does Balance
Bar record the receipt of the note?

$100,000

$8,000 8,000 8,000 8,000 8,000

0 1 2 3 4 5 6

Chapter
7-42 LO 6 Explain accounting issues related to recognition of notes receivable.
 Note Issued at Face Value

Table 6-4 PV of Interest

Number
of Discount Rate
Periods 4% 6% 8% 10% 12%

1 0.96154 0.94340 0.92593 0.90900 0.89286

5 4.45183 4.21236 3.99271 3.79079 3.60478
10 8.11090 7.36009 6.71008 6.14457 5.65022
15 11.11839 9.71225 8.55948 7.60608 6.81086
20 13.59033 11.46992 9.81815 8.51356 7.46944

$8,000 x 3.99271 = $31,942

Interest Factor Present Value
Chapter
7-43 LO 6 Explain accounting issues related to recognition of notes receivable.
 Note Issued at Face Value

Table 6-2 PV of Principal

Number
of Discount Rate
Periods 4% 6% 8% 10% 12%

1 0.96154 0.94340 0.92593 0.90909 0.89286

5 0.82193 0.74726 0.68058 0.62092 0.56743
10 0.67556 0.55839 0.46319 0.38554 0.32197
15 0.55526 0.41727 0.31524 0.23939 0.18270
20 0.45639 0.31180 0.21455 0.14864 0.10367

$100,000 x .68058 = $68,058

Principal Factor Present Value
Chapter
7-44 LO 6 Explain accounting issues related to recognition of notes receivable.
 Note Issued at Face Value

Summary Present value of Interest $ 31,942

Present value of Principal 68,058
Bond current market value $100,000

Date Account Title Debit Credit

Jan. yr. 1 Notes receivable 100,000
Cash 100,000

Dec. yr. 1 Cash 8,000

Interest revenue 8,000
($100,000 x 8%)

Chapter
7-45 LO 6 Explain accounting issues related to recognition of notes receivable.
 Zero-Interest-Bearing Note
Exercise Balance Bar Co. receives a 5-year, $100,000
zero-interest-bearing note. The market rate of interest
for a note of similar risk is 6 percent. How does Balance
Bar record the receipt of the note?
Present value of Principle:
$100,000 (PVF5, 6%) = $100,000 x .74726 = $74,726

$100,000

$0 0 0 0 0

0 1 2 3 4 5 6
Chapter
7-46 LO 6 Explain accounting issues related to recognition of notes receivable.
 Zero-Interest-Bearing Note

Amortization Schedule
Non-Interest-Bearing Note

6% Carrying
Cash Interest Discount Amount
Received Revenue Amortized of Note
Date of issue $ 74,726
End of yr. 1 - $ 4,484 $ 4,484 79,210
End of yr. 2 - 4,753 4,753 83,962
End of yr. 3 - 5,038 5,038 89,000
End of yr. 4 - 5,340 5,340 94,340
End of yr. 5 - 5,660 5,660 100,000
- 25,274 25,274

Chapter
7-47 LO 6 Explain accounting issues related to recognition of notes receivable.
 Zero-Interest-Bearing Note

Journal Entries for Non-Interest-Bearing note

Present value of Principal $74,726

Date Account Title Debit Credit

Jan. yr. 1 Notes receivable 100,000
Discount on notes receivable 25,274
Cash 74,726

Dec. yr. 1 Disount on notes receivable 4,484

Interest revenue 4,484
($74,726 x 6%)

Chapter
7-48 LO 6 Explain accounting issues related to recognition of notes receivable.
 Interest-Bearing Note
Exercise Balance Bar Co. made a loan to Bio Foods and
received in exchange a 5-year, $100,000 note bearing
interest 8 percent. The market rate of interest for a note
of similar risk is 10 percent. How does Balance Bar record
the receipt of the note?

Present value of Principle:

$100,000 (PVF5, 10%) = $100,000 x .62092 = $ 62,092
Present value of Interest:
$8,000 (PVF5, 10%) = $8,000 x 3.79079 = 30,326
Present value of note $ 92,418

Chapter
7-49 LO 6 Explain accounting issues related to recognition of notes receivable.
 Interest-Bearing Note

Amortization Schedule
Interest-Bearing Note

10% Carrying
Cash Interest Discount Amount
Received Revenue Amortized of Note
Date of issue $ 92,418
End of yr. 1 8,000 $ 9,242 $ 1,242 93,660
End of yr. 2 8,000 9,366 1,366 95,026
End of yr. 3 8,000 9,503 1,503 96,529
End of yr. 4 8,000 9,653 1,653 98,182
End of yr. 5 8,000 9,818 1,818 100,000
40,000 47,582 7,582

Chapter
7-50 LO 6 Explain accounting issues related to recognition of notes receivable.
 Interest-Bearing Note

Journal Entries for Interest-Bearing Note

Date Account Title Debit Credit

Jan. yr. 1 Notes receivable 100,000
Discount on notes receivable 7,582
Cash 92,418

Dec. yr. 1 Cash 8,000

Disount on notes receivable 1,242
Interest revenue 9,242
($92,418 x 10%)

Chapter
7-51 LO 6 Explain accounting issues related to recognition of notes receivable.
 Valuation of Notes Receivable

Short-Term reported at Net Realizable Value

(same as accounting for accounts receivable).
Long-Term note is impaired when collecting all
amounts due (both principal and interest) will
likely not occur. Accounting for impairments
discussed in Appendix 14A.

Chapter
7-52 LO 7 Explain accounting issues related to valuation of notes receivable.
Disposition of Accounts and Notes Receivable

Owner may transfer accounts or notes receivables

to another company for cash.
Reasons:
Competition.
Sell receivables because money is tight.
Billing / collection are time-consuming and costly.

Transfer accomplished by:

1. Secured borrowing
2. Sale of receivables
Chapter LO 8 Explain accounting issues related to disposition
7-53
of accounts and notes receivable.
 Secured Borrowing - Exercise
E7-13 On April 1, 2007, Rasheed Company assigns $400,000 of its
accounts receivable to the Third National Bank as collateral for a
$200,000 loan due July 1, 2007. The assignment agreement calls for
Rasheed Company to continue to collect the receivables. Third
National Bank assesses a finance charge of 2% of the accounts
receivable, and interest on the loan is 10% (a realistic rate of
interest for a note of this type).
Instructions
(a) Prepare the April 1, 2007, journal entry for Rasheed Company.
(b) Prepare the journal entry for Rasheed’s collection of $350,000
of the accounts receivable during the period from April 1, 2007,
through June 30, 2007.
(c) On July 1, 2007, Rasheed paid Third National all that was due
from the loan it secured on April 1, 2004.
Chapter LO 8 Explain accounting issues related to disposition
7-54
of accounts and notes receivable.
 Secured Borrowing - Exercise
Exercise 7-13 continued

Date Account Title Debit Credit

(a) Cash 192,000
Finance Charge 8,000
Notes Payable 200,000
($400,000 x 2% = $8,000)

(b) Cash 350,000

Accounts Receivable 350,000

(c) Notes Payable 200,000

Interest Expense 5,000
Cash 205,000
(10% x $200,000 x 3/12 = $5,000)
Chapter LO 8 Explain accounting issues related to disposition
7-55
of accounts and notes receivable.
 Sales of Receivables

Factors are finance companies or banks that buy

receivables from businesses for a fee.
Illustration 7-16

Chapter LO 8 Explain accounting issues related to disposition

7-56
of accounts and notes receivable.
 Sales of Receivables

Sale Without Recourse

Purchaser assumes risk of collection
Transfer is outright sale of receivable
Seller records loss on sale
Seller use Due from Factor (receivable) account to
cover discounts, returns, and allowances

Sale With Recourse

Seller guarantees payment to purchaser
Financial components approach used to record transfer

Chapter LO 8 Explain accounting issues related to disposition

7-57
of accounts and notes receivable.
 Secured Borrowing versus Sale
Illustration 7-21
The FASB
concluded that a
sale occurs only if
the seller
surrenders control
of the receivables
to the buyer.
Three conditions
must be met:

Chapter LO 8 Explain accounting issues related to disposition

7-58
of accounts and notes receivable.
 Presentation and Analysis

General rule in classifying receivables are:

1. Segregate the different types of receivables that a company
possesses, if material.
2. Appropriately offset the valuation accounts against the
proper receivable accounts.
3. Determine that receivables classified in the current assets
section will be converted into cash within the year or the
operating cycle, whichever is longer.
4. Disclose any loss contingencies that exist on the receivables.
5. Disclose any receivables designated or pledged as collateral.
6. Disclose all significant concentrations of credit risk arising
from receivables.

Chapter
7-59 LO 9 Explain how receivables are reported and analyzed.
 Presentation and Analysis

Analysis of Receivables
Illustration 7-23

This Ratio used to:

Assess the liquidity of the receivables.
Measure the number of times, on average, a company
collects receivables during the period.

Chapter
7-60 LO 9 Explain how receivables are reported and analyzed.
 Copyright

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Chapter
7-61