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The Basis For Business Decisions: Financial & Managerial Accounting
The Basis For Business Decisions: Financial & Managerial Accounting
Accounting
The Basis for Business Decisions
FOURTEENTH EDITION
7
Financial Assets
LO1
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
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., 2008
How
How Much
Much Cash
Cash Should
Should aa Business
Business
Have?
Have?
Financial
Assets
Cash Receivables
Short-term
Investments
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
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., 2008
The
The Valuation
Valuation of
of Financial
Financial Assets
Assets
Basis for Valuation in
Type of Financial Assets the Balance Sheet
Cash (and cash equivalents) Face amount
Short-term investments Current market value
(marketable securities)
Receivables Net realizable value
Estimated
Estimated collectible
collectible amount
amount
Coins and
paper money Cash is Checks
defined as
any deposit
Bank credit
card sales
banks will Money orders
accept.
Travelers’ checks
Combined with
cash on
balance sheet
Stable market
values
“Restricted”
Not a current Cash Listed as an
asset investment
Bank agrees in
advance to lend
money.
Lines of
Credit
Liability is incurred
Unused line of credit
when line of credit is
is disclosed in notes.
used.
Includes
Includes cash
cash and
and cash
cash
equivalents.
equivalents.
LO2
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Cash
Cash Management
Management
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.
Prevent
Prevent unnecessarily
unnecessarily large
large
amounts
amounts of
of idle
idle cash.
cash.
Cash
Cash Over
Over and
and Short
Short is
is debited
debited for
for
shortages
shortages and
and credited
credited for
for overages.
overages.
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Learning
Learning Objective
Objective
To prepare a bank
reconciliation and explain
its purpose.
LO3
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Bank
Bank Statements
Statements
Bank
Statement
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Reconciling
Reconciling the
the Bank
Bank Statement
Statement
+ Deposits by Bank
+ Deposits in Transit
(credit memos)
- Service Charge
- Outstanding Checks
- NSF Checks
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
Petty Cash
Funds
LO4
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Short-Term
Short-Term Investments
Investments
Marketable
Securities
Readily
Marketable
are . . . Current Assets
Almost As
Liquid As Cash
LO5
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Accounts
Accounts Receivable
Receivable
IfIf aa company
company makes
makes credit
credit
sales
sales to
to customers,
customers, some
some
accounts
accounts inevitably
inevitably will
will
turn
turn out
out to
to be
be
uncollectible.
uncollectible.
PAST DUE
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.
Selling
Selling expense
expense Contra-asset
Contra-asset account
account
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
The
The Allowance
Allowance for
for Doubtful
Doubtful
Accounts
Accounts
Accounts receivable
Less: Allowance for doubtful accounts
Net realizable value of accounts receivable
When
When an
an account
account is is determined
determined toto be
be
uncollectible,
uncollectible, itit no
no longer
longer qualifies
qualifies as
as an
an
asset
asset and
and should
should be be written
written off.
off.
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.
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 Two Approaches to Estimating
Credit Losses:
Accounts
Accounts to to this
this new
new Balance Sheet Approach
estimate.
estimate.
1.
Year-end
Year-end Accounts
Accounts Receivable
Receivable is
is
broken
broken down
down into
into age
age
classifications.
classifications.
Each
Each age
age grouping
grouping has
has aa
different
different likelihood
likelihood of
of being
being
uncollectible.
uncollectible.
Compute
Compute aa separate
separate allowance
allowance for
for
each
each age
age grouping.
grouping.
EastCo’s
EastCo’sunadjusted
unadjustedbalance
balance
in
in the
theallowance
allowance account
account is
is
$500.
$500.
Per
Per the
theprevious
previouscomputation,
computation,
the
thedesired
desired balance
balanceis
is$1,350.
$1,350.
Uncollectible accounts’
percentage is based on actual
uncollectible accounts from
prior years’ credit sales.
Net
Net Credit
Credit Sales
Sales
%
% Estimated
Estimated Uncollectible
Uncollectible
Amount
Amount of
of Journal
Journal Entry
Entry
In
In 2007,
2007, EastCo
EastCo had
had credit
credit sales
sales of
of $60,000.
$60,000.
Historically,
Historically, 1%
1% of
of EastCo’s
EastCo’s credit
credit sales
sales has
has
been
been uncollectible.
uncollectible.
For
For 2007,
2007, the
the estimate
estimate of
of uncollectible
uncollectible accounts
accounts
expense
expense isis $600.
$600.
($60,000
($60,000 ×× .01
.01 == $600)
$600)
Now,
Now, prepare
prepare the
the adjusting
adjusting entry
entry for
for December
December
31,
31, 2007.
2007.
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Estimating
Estimating Credit
Credit Losses
Losses —
— The
The
Income
Income Statement
Statement Approach
Approach
Aging
Agingof
of %
% of
of Credit
Credit Sales
Sales
Receivables
Receivables
Emphasis
Emphasisonon Emphasis
Emphasisonon
Realizable
RealizableValue
Value Matching
Matching
Accts. Sales
Rec. All. for Uncoll.
Doubtful Accts.
Accts. Exp.
Income
Income
Balance
BalanceSheet
Sheet Statement
Statement
Focus
Focus Focus
Focus
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Concentrations
Concentrations of
of Credit
Credit Risk
Risk
Concentrations
Concentrations of
of credit
credit risk
risk occur
occur ifif aa significant
significant portion
portion
of
of aa company’s
company’s receivables
receivables are
are due
due fromfrom aa few
few major
major
customers
customers or
or from
from customers
customers operating
operating in in the
the same
same
industry
industry oror geographic
geographic region.
region.
The
The FASB
FASB requires
requires
disclosure
disclosure of of all
all
significant
significant
concentrations
concentrations of of
credit
credit risk
risk in
in the
the
notes
notes to
to the
the financial
financial
statements.
statements.
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Recovery
Recovery of
of an
an Account
Account Receivable
Receivable
Previously
Previously Written
Written Off
Off
Subsequent
Subsequent collections
collections require
require that
that the
the original
original write-off
write-off
entry
entry be
be reversed
reversed before
before the
the cash
cash collection
collection is
is recorded.
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., 2008
Direct
Direct Write-Off
Write-Off Method
Method
Taxable Income
Allowance methods
GAAP
GAAP
GAAP
GAAP
Financial
Statement Income
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Internal
Internal Controls
Controls for
for Receivables
Receivables
Factoring Credit
Accounts Card
Receivable Sales
LO6
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Notes
Notes Receivable
Receivable and
and Interest
Interest
Revenue
Revenue
A
A promissory
promissory note
note is
is an
an unconditional
unconditional
promise
promise inin writing
writing to
to pay
pay on
on demand
demand or
or at
at
aa future
future date
date aa definite
definite sum
sum of
of money.
money.
Maker—the
Maker—the person
person who
who
signs
signs the
the note
note and
and thereby
thereby
promises
promises toto pay.
pay.
Payee—the
Payee—the person
person to
to whom
whom
payment
payment is
is to
to be
be made.
made.
Lender
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Notes
Notes Receivable
Receivable and
and Interest
Interest
Revenue
Revenue
The
The interest
interest formula
formula includes
includes three
three
variables:
variables:
Interest = Principal × Interest Rate × Time
When
Whencomputing
computinginterest
interestfor
forone
oneyear,
year,“Time”
“Time”
equals
equals1.
1. When
Whenthethecomputation
computationperiod
periodis isless
less
than
thanone
oneyear,
year,then
then“Time”
“Time”isisaafraction.
fraction.
For
Forexample,
example,ififwe
weneeded
neededto tocompute
computeinterest
interestfor for
33months,
months,“Time”
“Time”would
wouldbebe 3/12
3
/12..
What
What entry
entry would
would Hall
Hall Company
Company make
make on
on
December
December 31,
31, the
the fiscal
fiscal year-end?
year-end?
$10,00012%
$10,00012% 60//360
60
= $200
360 = $200
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Notes
Notes Receivable
Receivable and
and Interest
Interest
Revenue
Revenue
What
What entry
entry would
would Hall
Hall Company
Company
make
make on
on the
the maturity
maturity date?
date?
$10,00012%
$10,00012% 90//360
90
360
=
= $300
$300
IfIf Porter
Porter Company
Company defaulted
defaulted on
on the
the note,
note,
Hall
Hall Company
Company would
would make
make the
the following
following
entry
entry on
on the
the maturity
maturity date.
date.
LO7
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008
Financial
Financial Analysis
Analysis and
and Decision
Decision
Making
Making
Accounts
Accounts Receivable
Receivable Turnover
Turnover Rate
Rate
This
This ratio
ratio provides
provides useful
useful information
information for
for
evaluating
evaluating howhow efficient
efficient management
management has has
been
been inin granting
granting credit
credit to
to produce
produce revenue.
revenue.
Net Sales
Average Accounts Receivable
Avg.
Avg. Number
Number ofof 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