CHAPTER 7

Cash and Receivables

LEARNING OBJECTIVES
After studying this chapter, you should be able to:
1. Indicate how to report cash
and related items.
2. Define receivables and
explain accounting issues
related to their recognition.
3. Explain accounting issues
related to valuation of
accounts receivable.
FINANCIAL ACCOUNTING 1
4. Explain accounting issues Lecture 4: Cash and Receivables
related to recognition and
valuation of notes receivable.
5. Explain additional accounting FMT – Hanu
issues related to accounts and
notes receivables. Intermediate Accounting IFRS ed
3rd Ed – Chapter

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LEARNING OBJECTIVE 1
Cash
PREVIEW OF CHAPTER 7
Indicate how to report cash
and related items.

Cash
 Most liquid asset.

 Standard medium of exchange.

 Basis for measuring and accounting for all other 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.
Intermediate Accounting
IFRS 3rd Edition
Kieso ● Weygandt ● Warfield
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 Cash Reporting Cash

Reporting Cash Restricted Cash

Cash Equivalents Companies segregate restricted cash from “regular” cash.

Short-term, highly liquid investments that are both Examples, restricted for:

a) readily convertible to cash, and (1) plant expansion, (2) retirement of long-term debt, and
(3) compensating balances.
b) so near their maturity that they present insignificant
ILLUSTRATION 7.2
risk of changes in value. Disclosure of Restricted Cash

Examples: Government bonds, commercial paper, and

money market funds

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Reporting Cash

Bank Overdrafts
Company writes a check for more than the amount in its
cash account.
 Generally reported as a current liability.

 Included as a component of cash if such overdrafts are

repayable on demand and are an integral part of a
company’s cash management (such as the common
practice of establishing off setting arrangements against
other accounts at the same bank).
ILLUSTRATION 7.2
Classification of Cash-Related Items

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 LEARNING OBJECTIVE 2
Receivables Define receivables and explain accounting
issues related to their recognition.
Receivables

Receivables - Claims held against customers and Non-Trade Receivables

others for money, goods, or services. 1. Advances to officers and employees.

2. Advances to subsidiaries.
Oral promises of the Written promises to pay a 3. Deposits paid to cover potential damages or losses.
purchaser to pay for goods certain sum of money on a
4. Deposits paid as a guarantee of performance or payment.
and services sold. specified future date.
5. Dividends and interest receivable.
Accounts Notes
6. Claims against: Insurance companies for casualties sustained;
Receivable Receivable defendants under suit; governmental bodies for tax refunds;
common carriers for damaged or lost goods; creditors for returned,
damaged, or lost goods; customers for returnable items (crates,
containers, etc.).
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Non-Trade
Recognition of Accounts Receivables
Receivables
 Accounts receivable generally arise as part of a
revenue arrangement.
ILLUSTRATION 7.3  The revenue recognition principle indicates that a
Receivables Statement of Financial
Position Sheet Presentations
company should recognize revenue when it satisfies
its performance obligation by transferring the good or
service to the customer.

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 Recognition of Accounts Receivables Recognition of Accounts Receivables

For example, if Lululemon Athletica, Inc. (CAN) sells a
yoga outfit to Jennifer Burian for $100 on account, the yoga
outfit is transferred when Jennifer obtains control of this
outfit. When this change in control occurs, Lululemon
should recognize an account receivable and sales revenue.
Lululemon makes the following entry:
Accounts Receivable 100
Sales Revenue 100
Some key indicators that Lululemon has transferred and
that Jennifer has obtained control of the yoga outfit.
1. Lululemon has the right to payment from the customer.
2. Lululemon has passed legal title to the customer.
3. Lululemon has transferred physical possession of the
goods.
4. Lululemon no longer has significant risks and rewards of
ownership of the goods.

5. Jennifer has accepted the asset.

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Receivables Variable Consideration

Measurement of the Transaction Price Trade Discounts

The transaction price is the amount of consideration that a Use to:
company expects to receive from a customer in exchange 10 %
 Avoid frequent changes in
for transferring goods or services. catalogs. Discount for
new Retail
Variable Consideration  Alter prices for different
Store
quantities purchased.
In some cases, the price of a good or service is dependent Customers
on future events. These future events often include such  Hide the true invoice price
items as discounts, returns and allowances, rebates, and from competitors.
performance bonuses.

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 Variable Consideration Cash Discounts (Sales Discounts)

Cash Discounts (Sales Discounts)

 Offered to induce prompt
payment.

 Terms such as 2/10,

n/30, 2/10, E.O.M., or net
Payment
30, E.O.M. terms are
 Gross Method vs. Net 2/10, n/30
Method.

ILLUSTRATION 7.5
Entries under Gross and Net Methods

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Variable Consideration Sales Returns and Allowances

Sales Returns and Allowances Illustration: Assume that Max Glass sells hurricane glass to Oliver
Builders. As part of the sales agreement, Max includes a provision
 Sales Returns and Allowances is a contra revenue
that if Oliver is dissatisfied with the product, Max will grant an
account to Sales Revenue. allowance on the sales price or agree to take the product back.
 Allowance for Sales Returns and Allowances is a contra On January 4, 2019, Max sells $5,000 of hurricane glass to Oliver
asset account to Accounts Receivable. on account. Max records the sale on account as follows.

 The use of both Sales Returns and Allowances, and Accounts Receivable 5,000
Allowance for Sales Return and Allowances accounts is
Sales Revenue 5,000
helpful to identify potential problems associated with
inferior merchandise, inefficiencies in filling orders, or
delivery or shipment mistakes.

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 Sales Returns and Allowances Sales Returns and Allowances

Illustration: Assume that Max Glass sells hurricane glass to Oliver
Builders. As part of the sales agreement, Max includes a provision
that if Oliver is dissatisfied with the product, Max will grant an
allowance on the sales price or agree to take the product back.
On January 16, 2019, Max grants an allowance of $300 to Oliver
because some of the hurricane glass is defective. The entry to
record this transaction is as follows.
On January 31, 2019, before preparing financial statements, Max
estimates that an additional $100 in sales returns and allowances
will result from the sale to Oliver on January 4, 2019. An adjusting
entry to record this additional allowance is as follows.
Sales Returns and Allowances 100
Allowance for Sales Returns and Allowances 100

Sales Returns and Allowances 300

Accounts Receivable 300

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Variable Consideration Accounts Receivable

Time Value of Money How are these accounts presented on the Statement of
Financial Position?
 Theoretically, any revenue after the period of sale is interest
revenue.

 Companies ignore interest revenue related to accounts Allowance for

Accounts Receivable Doubtful Accounts
receivable because the amount of the discount is not
usually material in relation to the net income for the period. Beg. 500 25 Beg.
 The profession specifically excludes from present value
considerations “receivables arising from transactions with
customers in the normal course of business which are due
in customary trade terms not exceeding approximately one
End. 500 25 End.
year.”
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 Accounts Receivable Accounts Receivable
Alternate
Brown Furniture Brown Furniture Presentation
Statement of Financial Position (partial) Statement of Financial Position (partial)
Current Assets: Current Assets:
Cash $ 330 Cash $ 330
Accounts receivable 500 Accounts receivable, net of $25 allowance 475
Less: Allowance for doubtful accounts (25) 475 Inventory 812
Inventory 812 Prepaid expense 40
Prepaid expense 40 Total current assets 1,657
Total current assets 1,657

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Accounts Receivable Accounts Receivable

Journal entry for credit sale of $100? Journal entry for credit sale of $100?
Accounts Receivable 100 Accounts Receivable 100
Sales Revenue 100 Sales Revenue 100

Allowance for Allowance for

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

End. 500 25 End. End. 600 25 End.

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 Accounts Receivable Accounts Receivable
Collected $333 on account? Collected $333 on account?
Cash 333 Cash 333
Accounts Receivable 333 Accounts Receivable 333

Allowance for Allowance for

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

End. 600 25 End. End. 267 25 End.

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Accounts Receivable Accounts Receivable

Adjustment of $15 for estimated bad debts? Adjustment of $15 for estimated bad debts?
Bad Debt Expense 15 Bad Debt Expense 15
Allowance for Doubtful Accounts 15 Allowance for Doubtful Accounts 15

Allowance for Allowance for

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

End. 267 25 End. End. 267 40 End.

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 Accounts Receivable Accounts Receivable
Write-off of uncollectible accounts for $10? Write-off of uncollectible accounts for $10?
Allowance for Doubtful accounts 10 Allowance for Doubtful accounts 10
Accounts Receivable 10 Accounts Receivable 10

Allowance for Allowance for

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

End. 267 40 End. End. 257 30 End.

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Valuation of LEARNING OBJECTIVE 3

Accounts Receivable Explain accounting issues
Accounts Receivable related to valuation of
accounts receivable.

Brown Furniture
Statement of Financial Position (partial) Uncollectible Accounts Receivable
Current Assets:
 Record credit losses as debits to Bad Debt Expense (or
Cash $ 330
Uncollectible Accounts Expense).
Accounts receivable, net of $30 allowance 227
Inventory 812  Normal and necessary risk of doing business on credit.
Prepaid expense 40
 Two methods to account for uncollectible accounts:
Total current assets 1,409
1) Direct write-off method

2) Allowance method

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 Valuation of Accounts Receivable Valuation of Accounts Receivable

Methods of Accounting for Uncollectible Accounts
Direct Write-Off Method
Theoretically deficient:
 Fails to record expenses as
incurred.
 Receivable not stated at
cash realizable value.
 Not appropriate when
amount uncollectible is
material.
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Allowance Method
Losses are estimated:
 Percentage-of-sales.
 Percentage-of-receivables.
 IFRS requires when bad
debts are material in
amount.
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Direct Write-Off Method for Uncollectible Accounts
When a company determines a particular account to be
uncollectible, it charges the loss to Bad Debt Expense.
Assume, for example, that on December 10 Cruz Ltd. writes off
as uncollectible Yusado’s NT$8,000,000 balance. The entry is:
Bad Debt Expense 8,000,000
Accounts Receivable (Yusado) 8,000,000
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Valuation of Accounts Receivable Allowance Method for Uncollectible Accounts

Allowance Method for Uncollectible Accounts Recording Estimated Uncollectibles

 Involves estimating uncollectible accounts at the end
of each period.
 Ensures that companies state receivables on the
statement of financial position at their cash realizable
value.
 Companies estimate uncollectible accounts and cash
realizable value using information about past and
current events as well as forecasts of future
collectibility.
Illustration: Assume that Brown Furniture in 2019, its first year
of operations, has credit sales of £1,800,000. Of this amount,
£150,000 remains uncollected at December 31. The credit
manager estimates that £10,000 of these sales will be
uncollectible. The adjusting entry to record the estimated
uncollectibles (assuming a zero balance in the allowance
account) is:
Bad Debt Expense 10,000
Allowance for Doubtful Accounts 10,000

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 Recording Estimated Uncollectibles Allowance Method for Uncollectible Accounts

Recording the Write-Off of an Uncollectible

Account
 When companies have exhausted all means of
collecting a past-due account and collection appears
impossible, the company should write off the account.

ILLUSTRATION 7.5
 In the credit card industry, for example, it is standard
Presentation of Allowance for Doubtful Accounts
practice to write off accounts that are 210 days past
The amount of £140,000 represents the cash realizable value of due.
the accounts receivable at the statement date.

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Write-Off of an Uncollectible Account Allowance Method for Uncollectible Accounts

Illustration: The financial vice president of Brown Furniture Estimating the Allowance
authorizes a write-off of the £1,000 balance owed by Randall plc on
March 1. The entry to record the write-off is: Percentage-of-Receivables Approach
Allowance for Doubtful Accounts 1,000  Reports estimate of receivables at cash realizable value.
Accounts Receivable 1,000
Companies may apply this method using
Assume that on July 1, Randall plc pays the £1,000 amount that  one composite rate, or
Brown had written off on March 1. These are the entries:
 an aging schedule using different rates.
Accounts Receivable 1,000
Allowance for Doubtful Accounts 1,000
Cash 1,000
Accounts Receivable 1,000
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 Estimating the Allowance ILLUSTRATION 7.6
Accounts Receivable
Estimating the Allowance
Aging Schedule

ILLUSTRATION 7.6
Accounts Receivable
Aging Schedule

What entry
would Wilson
make assuming
that the
allowance
account had a
zero balance?

Bad Debt Expense 26,610

Allowance for Doubtful Accounts 26,610

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Estimating the Allowance Estimating the Allowance

ILLUSTRATION 7.6
Accounts Receivable
Illustration: Duncan SA reports the following financial information
Aging Schedule
before adjustments.

What entry
would Wilson
make assuming
the allowance
account had a
credit balance Instructions: Prepare the journal entry to record Bad Debt
of €800 before
Expense assuming Duncan Company estimates bad debts at
adjustment?
(a) 5% of accounts receivable and (b) 5% of accounts
receivable but Allowance for Doubtful Accounts had a $1,500
Bad Debt Expense (€26,610 – €800) 25,810
debit balance.
Allowance for Doubtful Accounts 25,810

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 Estimating the Allowance Estimating the Allowance

Illustration: Duncan SA reports the following financial information Illustration: Duncan SA reports the following financial information
before adjustments. before adjustments.

Instructions: Prepare the journal entry to record Bad Debt Instructions: Prepare the journal entry to record Bad Debt Expense
Expense assuming Duncan Company estimates bad debts at assuming Duncan Company estimates bad debts at (b) 5% of
(a) 5% of accounts receivable. accounts receivable but the Allowance had a $1,500 debit balance.
Bad Debt Expense 3,000 Bad Debt Expense 6,500
Allowance for Doubtful Accounts 3,000 Allowance for Doubtful Accounts 6,500
€100,000 x 5% = €5,000 - €2,000 = €3,000 €100,000 x 5% = €5,000 + €1,500 = €6,500
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LEARNING OBJECTIVE 4
Notes Receivable Explain accounting issues
related to recognition and
Notes Receivable
valuation of notes receivable.

Supported by a formal promissory note. Generally originate from:

 Written promise to pay a certain sum of money at a  Customers who need to extend payment period of an
specific future date. outstanding receivable.

 A negotiable instrument.  High-risk or new customers.

 Maker signs in favor of a Payee.  Loans to employees and subsidiaries.

 Interest-bearing (has a stated rate of interest) OR  Sales of property, plant, and equipment.

 Zero-interest-bearing (interest included in face  Lending transactions (the majority of notes).

amount).

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 Recognition of Notes Receivable Presentation and Analysis
General rules in classifying receivables are:
Short-Term Long-Term 1. Segregate and report carrying amounts of different categories of
receivables.
Record at 2. Indicate receivables classified as current and non-current in the
Record at
Present Value statement of financial position.
Face Value,
of cash expected 3. Appropriately offset the valuation accounts for receivables that are
less allowance
to be collected impaired, including a discussion of individual and collectively
determined impairments.
4. Disclose the fair value of receivables in such a way that permits it to
Interest Rates Note Issued at
be compared with its carrying amount.
Stated rate = Market rate Face Value 5. Disclose information to assess the credit risk inherent in the
receivables.
Stated rate > Market rate Premium
6. Disclose any receivables pledged as collateral.
Stated rate < Market rate Discount 7. Disclose all significant concentrations of credit risk arising from
receivables.
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GLOBAL ACCOUNTING INSIGHTS GLOBAL ACCOUNTING INSIGHTS

LEARNING OBJECTIVE 7 Relevant Facts

Compare the accounting procedures for cash and receivables under IFRS and
U.S. GAAP.
The basic accounting and reporting issues related to recognition and
measurement of cash and receivables is similar between U.S. GAAP and
IFRS. For example, the definition of cash and cash equivalents as well as the
use of allowance accounts, how to record discounts, use of the allowance
method to account for bad debts, and factoring are similar for both IFRS and
U.S. GAAP. In the wake of the international credit crisis, the Boards worked
together to improve the accounting for loan impairments and securitizations.
Following are the key similarities and differences between U.S. GAAP and
IFRS related to cash and receivables.
Similarities
• The accounting and reporting related to cash is essentially the same under
both U.S. GAAP and IFRS. In addition, the definition used for cash
equivalents is the same.
• Like IFRS, cash and receivables are generally reported in the current
assets section of the statement of financial position (balance sheet) under
U.S. GAAP.

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