05 Fisher Account 5e v1 PPT ch05

Intermediate Accounting
Fifth Edition, Volume One
Chapter 5
Cash and Receivables
Copyright © 2023 Pearson Canada Inc. 5-1

Learning Objectives
L.O. 5-1. Apply the standards and procedures for recording,
reconciling, and reporting cash and cash equivalents.
L.O. 5-2. Explain the need for internal controls for cash
specifically and other assets more generally, and evaluate
the adequacy of cash controls in different situations.
L.O. 5-3. Apply the standards and procedures for the initial
recognition, subsequent measurement at the balance sheet
date, and derecognition of trade receivables.
L.O. 5-4. Apply the standards to account for non-trade
receivables.

CPA Competencies Addressed in
Chapter 5 (1 of 2)
1.1.2 Evaluates the appropriateness of the basis of
financial reporting (Level B)
c. Difference between accrual accounting compared to
cash accounting
1.2.1 Develops or evaluates appropriate accounting
policies and procedures – Ethical professional
judgment (Level B)

CPA Competencies Addressed in
Chapter 5 (2 of 2)
1.2.2 Evaluates treatment for routine transactions (Level
A)
a. Cash and cash equivalents
b. Receivables
o. Changes in accounting policies and estimates, and
errors
1.3.1 Prepares financial statements (Level A)
p. Internal control and cash (bank reconciliation, control
over cash receipts and disbursements)
1.4.1 Analyzes complex financial statement note
disclosure (Level C)
Cash and Cash Equivalents (L.O. 5-1)
• Universally accepted medium of exchange
• Important to understand what cash includes/excludes

1. Inclusions in Cash and Cash
Equivalents
• Cash: Bills and coins and demand deposits
• Cash transactions include transactions completed by
– Cheques
– Bank drafts
– Email transfers
– Wire transfers
• Cash equivalents: short-term, highly liquid investments,
readily convertible to known amounts of cash and that are
subject to insignificant risks of change in value
• Cash balances can be negative

2. Exclusions From Cash and Cash
Equivalents
• Funds subject to restrictions or “appropriated” are
excluded
– Cash that is appropriated for a sinking fund would be in
non-current assets since such funds are not available
for other uses.
• Financial investments subject to significant
fluctuations in value are excluded
– Share prices of investments in shares traded on a
public exchange can change dramatically on a daily
basis; these investments are not cash equivalents.

3. Cash Held in Foreign Currencies
• We make generalization that foreign currencies are
readily convertible into Canadian currency
• Foreign currencies have low risk of value changes
• Professional judgment required

4. Negative Balances
• Account balance in negative = overdraft
• Not listed as liability unless net balance is negative
• Report as deduction from cash and cash equivalents

5. Implications for the Cash Flow
Statement
• Cash and cash equivalents defined in IAS 7
• Exchanges of cash and cash equivalents for items
that are not cash or cash equivalent result in cash
flows.
• Changing the composition of cash and cash
equivalents is not a cash flow; it is a shift within cash
and cash equivalents.
Copyright © 2023 Pearson Canada Inc. 5 - 10

Bank Reconciliations (1 of 4)
• Ties together amount of cash per the records and
amount of cash per the bank
• Reasons for preparing a bank reconciliation
– To understand why the two sets of records differ
– To identify any bookkeeping errors by either entity
– To contribute to the internal control over cash

• Two steps to reconcile
1. Begin with bank balance and adjust for reconciling
items to derive the corrected cash balance
2. Begin with company’s balances and adjust for
reconciling items to derive the corrected cash balance
• Should be done periodically, i.e., month-end

Exhibit 5-2 Bank reconciliation schedule for Cash Cow
Corporation
Cash Cow Corporation
Bank Reconciliation
May 31, 2020
Step 1: Blank Blank Blank

Balance per bank statement Blank Blank $ 5,890
+ Deposits in transit May 30 $45,300 Blank
Blank May 31 39,600 Blank
Blank Blank Blank 84,900
− Outstanding cheques #3345 7,500 Blank
Blank #3351 4,200 Blank
Blank #3352 12,400 Blank
Blank Blank Blank (24,100)
+/− Bank errors (cheque #3347 for $8,790 processed as $7,890) Blank Blank (900)
Corrected cash balance Blank Blank $65,790

Exhibit 5-2 Bank reconciliation schedule for Cash Cow
Corporation
Cash Cow Corporation
Bank Reconciliation
May 31, 2020
Step 2: Blank Blank Blank

Balance per company’s books Blank Blank $ 66,010
+/− Book errors (over-recorded May 21 cash deposit) Blank Blank (100)
− Bank charges not yet recorded on books Blank Blank (120)
Corrected cash balance Blank Blank $65,790

Cash Management, Internal Controls,
and Fraud Prevention
• Significant risks are associated with cash
• A bank reconciliation is a detective control
– Should be assigned to appropriate employee
• Preventative controls/measures equally or more
important

1. Segregation of Duties (1 of 3)
• Think about the list of activities surrounding cash:
– Employees make sales to customers and record credit
sales in accounts receivable
– Customers pay using cash, cheques, or credit cards
– Employees record payments against customers’
accounts
– Employees combine cash, cheques, and credit cad
receipts from different counters and make deposits
– The company makes purchases on credit
– The company issues cheques for accounts payable
– The bank issues a bank statement to the company
• Separate certain activities surrounding cash:
– Restrict the ability of sales staff to modify or delete
accounts receivable; credits or refunds recorded on a
credit note
– Assign employees with no access to receivable records
the task of recording cash and cheques received
– Assign different employees the task of depositing funds
to the bank
– Have accounts receivable staff (separate from the
above) record payments against specific accounts

• May be the most important activity to reduce risk of
cash misappropriation
• When duties are segregated, fraud requires collusion
among two or more employees, which is more difficult
to execute
• In smaller enterprises, segregation of duties is more
difficult
– Direct supervision is important

2. Monitoring by Staff and Customers
• Not always possible to segregate duties
– Time and cost prohibits segregation
• Rely on staff and customers

3. Implications for Internal Controls of
Other Areas
• Cash is one of many assets subject to
misappropriation
• Controls needed for other non-cash assets too!
– Experiment shows people are more willing to lie when
dealing with non-cash items!

Overview of Accounting for Non-Cash
Assets (L.O. 5-3)
• Non-cash assets are due to accrual accounting
• Questions common to all non-cash assets:
– Does a transaction give rise to an asset or expense?
– For a particular asset or class of assets, what is the
appropriate value to be reported at the balance sheet
date?
– When should an asset be removed from the balance
sheet?

1. Initial Recognition and Measurement:
Asset or Expense? (1 of 2)
• Defining expenditure – an outflow of cash or other
resources (distinguish from expense)
• Defining capitalize – recording an expenditure as an
asset on the balance sheet
– Future economic benefits, under the entity’s control,
result from past events
• Defining expense – an amount reported on the
income statement that reduces the amount of profit (or
increases a loss) for the period

1. Initial Recognition and Measurement:
Asset or Expense? (2 of 2)
• The definition of an asset has three characteristics:
– Has future economic benefits;
– Be under the entity’s control; and
– Results from past events.

2. Asset Valuation on the Balance Sheet
• Need to determine if asset is appropriately valued
• Consider if asset is overstated
– Is a write-down to current value required?
• Valuation adjustments increase representational
faithfulness

3. Derecognition: Removal of an Asset
from the Balance Sheet
• Need to determine if asset should be removed
– Selling inventory (remove inventory from the balance
sheet when the inventory is sold)
– Depreciating equipment costs over time
• Accounting term is to derecognize

Trade Receivables: Initial Classification,
Recognition, and Measurement
• Trade receivables/accounts receivables – from
ordinary sales
• A receivable is a cash flow temporarily forgone
• Meets the definition of an expenditure and an asset
• Time value of money ignored for trade receivables

Gross vs. Net Method (1 of 2)
• Cash discounts may be offered to customers
• Alternatives exist for recording accounts receivable
– Gross method: record at gross/face value
– Net method: record at sales price less cash discount

Gross vs. Net Method (2 of 2)
Standard entry for a sale made on credit:
Dr. Accounts receivable 100 Blank
Cr. Sales revenue Blank 100
Expanded entry to show advance to customer followed

by cash sale:
Dr. Accounts receivable 100 Blank
Cr. Cash Blank 100
Dr. Cash 100 Blank
Cr. Sales revenue Blank 100

Illustration of the Gross and Net Method
Exhibit 5-5 Illustration of gross and net methods of
accounting for cash discounts
Blank Gross method (more Blank Blank Net method (conceptually Blank Blank
common) better)
Sale made Dr. Accounts receivable 1,000 Blank Dr. Accounts receivable 980 Blank
May 1, 2020 Cr. Sales revenue Blank 1,000 Cr. Sales revenue Blank 980
If payment Dr. Cash 980 Blank Dr. Cash 980 Blank
received by Dr. Cash discount 20 Blank Blank Blank Blank
May 10, 2020 [income statement] Blank Blank Blank Blank Blank
Blank Cr. Accounts receivable Blank 1,000 Cr. Accounts receivable Blank 980
OR Blank Blank Blank Blank Blank Blank
If payment Dr. Cash 1,000 Blank Dr. Cash 1,000 Blank
received after Blank Blank Blank Cr. Interest or other Blank 20
revenue
May 10, 2020 Cr. Accounts receivable Blank 1,000 Cr. Accounts receivable Blank 980

Subsequent Measurement of Trade
Receivables: Accounting for Bad Debts
(L.O. 5-3) (1 of 2)
• Risk of uncollectible amounts in receivables
• Receivables should be reported at expected net
realizable value
• Adjust for both known and anticipated uncollectible
– Known as uncollectible: direct write-off method

Subsequent Measurement of Trade
Receivables: Accounting for Bad Debts
(L.O. 5-3) (2 of 2)
• net realizable value: The value expected from the sale
of an asset, net of any costs of disposal.
• direct write-off method (for accounts receivable): A
method that records the expense when an account
receivable is deemed to be uncollectible.

Reasons for Adjusting for Uncollectible
Amounts
1. Moral hazard
– Credit policy is integral to making sales
2. Timeliness
– Bad debt loss match to revenue generated
3. Neutrality and faithful representation
– Should not overstate amount to be collected

Allowance for Doubtful Accounts (ADA)
(1 of 2)
• ADA is a contra account relating to accounts

receivable; the balance in the allowance for doubtful
accounts is management’s estimate of the amount
that will not be collected from customers.
• Gross accounts receivable – ADA = Net accounts
receivable
• Contra account tracks amount allowed for bad debts
expense (BDE)
• Allows the sub-ledger and general ledger to agree
• Reflects doubtful vs. specific uncollectible amounts
Allowance for Doubtful Accounts (ADA)
(2 of 2)
Journal entry to record bad debts expense and to adjust

accounts receivable to NRV:
Dr. Bad debt expense 100 Blank
Cr. Allowance for doubtful accounts Blank 100

1. Percentage of Sales Method (Income
Statement Approach) (1 of 2)
• Match the bad debt to sales – use a percentage of
credit sales to be bad debts expense
• Emphasis on the income instatement vs. balance
sheet

1. Percentage of Sales Method (Income
Statement Approach) (2 of 2)
• Procedure involves:
i. Estimate a percentage factor and apply to net credit
sales
ii. Adjust previous amount to agree with new estimate
iii. Other side of entry (usually a credit) adds to ADA

2. Aging of Accounts Method (Balance
Sheet Approach) (1 of 3)
• Aging of accounts method focuses on the net
accounts receivable – the balance sheet
• Aging (of accounts receivable): A process of
categorizing accounts receivable according to the
length of time that has passed since the invoice date.
• Balance sheet approach: an approach to accounting
and standard setting that emphasizes the values of
the balance sheet over the income statement

• To estimate the allowance:
1. Categorize individual receivables based on how long
each invoice has been outstanding (1-30 days, 31-60
days, etc.)
2. For each age category, apply a percentage factor to
estimate the amount uncollectible.
3. Determine the existing balance in ADA
4. The other side of the entry affects BDE

Exhibit 5-7 Aging of accounts receivable for Safeco
Accounts receivable Estimate of % Estimated amount
Days outstanding balance uncollectible uncollectible
0–30 $210,100 0.2% $ 420
31–60 84,500 0.6 507
61–90 26,900 2.0 538
>90 7,460 10.0 746
Total Blank Blank $2,211
Journal entry to record bad debts expense for Safeco:

Dr. Bad debts expense 1,701 Blank
Cr. Allowance for doubtful accounts Blank 1,701

Income Statement or Balance Sheet?
• Companies often use a combination
• Percentage of sales method easy to apply – may use
for interim reporting (i.e. quarterly reporting)
• Aging of accounts method – use at year-end
• Both methods involve predictions and therefore they
are subject to possible revisions
• Changes in estimate are reflected prospectively

Derecognition of Receivables: Collection,
Write-Offs, and Disposals (L.O. 5-3)
• Remove receivables in one of three ways:
– As part of normal collections
– Through write-offs when determined uncollectible
– By selling receivables

1. Collection
• Vast majority of receivables will be collected without
much trouble
Journal entry for cash collection:
Dr. Cash 100 Blank
Cr. Accounts receivable (customer name) Blank 100

2. Write-offs
• Management determines receivable is uncollectible
Journal entry to write off an account:
Dr. Allowance for doubtful accounts 100 Blank
• If collecting an amount previously written off

– Re-establish the account
– Record the cash collection

Collecting an Amount Previously
Written Off
• If collecting an amount previously written off:
For example, if the recovery amount is 60% of the
original $100 receivable, the journal entry would be:
Dr. Accounts receivable (customer name) 60 Blank
Cr. Allowance for doubtful accounts Blank 60
Dr. Cash 60 Blank


3. Transfer of Receivables (Factoring)
(1 of 3)
• Transfer to a financing company – to a factor

• Accounting treatment depends on transfer of risk and
rewards of ownership
a. Transfer without recourse
– Risk and rewards of ownership transferred
– Transaction considered a sale of receivables and remove
this asset off the books

(2 of 3)
Journal entry for factoring accounts receivable without

recourse:
($ millions) Blank Blank
Dr. Cash 90 Blank
Dr. Interest expense 10 Blank
Cr. Accounts receivable Blank 100

(3 of 3)
b. Transfer with recourse

– Risk of bad debt retained
– Transaction considered a form of borrowing with a holdback
Journal entry for factoring accounts receivable with
recourse ($ millions):
Dr. Cash 95 Blank
Dr. Due from factor (for holdback amount) 3 Blank
Cr. Short-term debt – asset-backed financing Blank 98
c. If the entity neither transfers nor retains substantially all the risks
and rewards of ownership of the financial asset, the entity shall
determine whether it has retained control of the financial asset
Summary of Factoring With and
Without Recourse
Exhibit 5-16 Summary of consequences for factoring
transactions with and without recourse
Blank Factor without recourse Factor with recourse
Expected cash flow Lower Higher
Financial reporting Treat as a sale of Treat as a borrowing
receivables transaction
Outcome (↑ cash, ↓ receivables) (↑ cash, ↑ liabilities)

4. Transfer of Receivables
(Securitization)
• Securitization – the process of transforming a financial
asset into a security
• May be completed using a special purpose entity (SPE)
– An entity that is created for limited purposes; such
purposes are specified in the legal documents that
create the entity.
Exhibit 5-18 Summary of securitization transaction using a special purpose entity (SPE)

Comprehensive Illustration of Initial
Recognition, Subsequent Measurement, and
Derecognition of Accounts Receivable
• Tough Sell Corporation
• Illustrates impact of various transactions and entries
related to accounts receivable

Non-Trade Receivables (L.O. 5-4)
• Generally have written contracts – promissory note (a
written contract that specifies the amount and date on
which one party repays another)
• Usually infrequent and outstanding for longer periods
• Should record using present value techniques

Accounting for Restructured Loans
(From the Lender’s Perspective)
• Evidence that debtor will not pay original amount
• Loan/note needs to be marked down to reflect the
present value of the new payment stream.
Journal entry for a restructured loan receivable:
Dr. Restructured loan receivable ($100,000 ÷ 1.05) 95,238 Blank
Dr. Loss on note restructuring 4,762 Blank
Cr. Loan receivable Blank 100,000

Potential Earnings Management Using
Receivables
• Users need to be aware how accounts receivable can
be used
– To manage earnings
– To manipulate the amount of revenues reported

1. Revenue Recognition Policy
• A company can boost earnings by accelerating
revenue recognition policy
• Be alert to
– Increases in days of receivables that are out of
proportion to any increases in sales
– A decline in credit quality of the customers base
– An active change in credit policy

2. Change in Credit Policy without
Change in Allowance
• Increase sales by relaxing the credit policy.
• Sell to less creditworthy clients
• Allow longer payment terms.
• Increase current earnings without adjusting the ADA
and BDE for these changes
– Result: it will increase current earnings and decrease
future earnings

3. Channel Stuffing
• Temporarily increase revenues through “channel
stuffing” – filling the distribution channel by selling on
favourable terms not usually offered by the
company.
• Terms are unusual for the seller
– Unlimited right of return
• Results in higher sales

4. Change in the Calculation of Net
Realizable Value
• Changes in estimates for BDE and ADA
• Investors cannot determine the change in estimates
• Changes may result in lower BDE and ADA and
higher net income

5. Sale of Receivables
• Sale of receivables without recourse lowers
receivables
• Reasons for growth in receivables may result from
management policies
• Growth is hidden and offset by selling receivables

Practical Illustration: Canadian Tire
Corporation, Limited
• Refer to the 2019 financial statements for Canadian
Tire Corporation, Limited

Summary
L.O. 5-1. Apply the standards and procedures for recording,
reconciling, and reporting cash and cash equivalents.
L.O. 5-2. Explain the need for internal controls for cash
specifically and other assets more generally, and evaluate
the adequacy of cash controls in different situations.
L.O. 5-3. Apply the standards and procedures for the initial
recognition, subsequent measurement at the balance sheet
date, and derecognition of trade receivables.
L.O. 5-4. Apply the standards to account for non-trade
receivables.

05 Fisher Account 5e v1 PPT ch05

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

05 Fisher Account 5e v1 PPT ch05

Uploaded by

Copyright:

Available Formats

Intermediate Accounting

Fifth Edition, Volume One

Copyright © 2023 Pearson Canada Inc. 5-1

Copyright © 2023 Pearson Canada Inc. 5-2

Copyright © 2023 Pearson Canada Inc. 5-3

Copyright © 2023 Pearson Canada Inc. 5-5

Copyright © 2023 Pearson Canada Inc. 5-6

Copyright © 2023 Pearson Canada Inc. 5-7

Copyright © 2023 Pearson Canada Inc. 5-8

Copyright © 2023 Pearson Canada Inc. 5-9

Copyright © 2023 Pearson Canada Inc. 5 - 10

Copyright © 2023 Pearson Canada Inc. 5 - 11

Copyright © 2023 Pearson Canada Inc. 5 - 12

Step 1: Blank Blank Blank

Copyright © 2023 Pearson Canada Inc. 5 - 13

Step 2: Blank Blank Blank

Copyright © 2023 Pearson Canada Inc. 5 - 14

Copyright © 2023 Pearson Canada Inc. 5 - 15

Copyright © 2023 Pearson Canada Inc. 5 - 17

Copyright © 2023 Pearson Canada Inc. 5 - 18

Copyright © 2023 Pearson Canada Inc. 5 - 19

Copyright © 2023 Pearson Canada Inc. 5 - 20

Copyright © 2023 Pearson Canada Inc. 5 - 21

Copyright © 2023 Pearson Canada Inc. 5 - 22

Copyright © 2023 Pearson Canada Inc. 5 - 23

Copyright © 2023 Pearson Canada Inc. 5 - 24

Copyright © 2023 Pearson Canada Inc. 5 - 25

Copyright © 2023 Pearson Canada Inc. 5 - 26

Copyright © 2023 Pearson Canada Inc. 5 - 27

Expanded entry to show advance to customer followed

Copyright © 2023 Pearson Canada Inc. 5 - 28

Copyright © 2023 Pearson Canada Inc. 5 - 29

Copyright © 2023 Pearson Canada Inc. 5 - 30

Copyright © 2023 Pearson Canada Inc. 5 - 31

Copyright © 2023 Pearson Canada Inc. 5 - 32

• ADA is a contra account relating to accounts

Journal entry to record bad debts expense and to adjust

Copyright © 2023 Pearson Canada Inc. 5 - 34

Copyright © 2023 Pearson Canada Inc. 5 - 35

Copyright © 2023 Pearson Canada Inc. 5 - 36

Copyright © 2023 Pearson Canada Inc. 5 - 37

Copyright © 2023 Pearson Canada Inc. 5 - 38

Journal entry to record bad debts expense for Safeco:

Cr. Allowance for doubtful accounts Blank 1,701

Copyright © 2023 Pearson Canada Inc. 5 - 39

Copyright © 2023 Pearson Canada Inc. 5 - 40

Copyright © 2023 Pearson Canada Inc. 5 - 41

Copyright © 2023 Pearson Canada Inc. 5 - 42

• If collecting an amount previously written off

Copyright © 2023 Pearson Canada Inc. 5 - 43

Dr. Cash 60 Blank

Copyright © 2023 Pearson Canada Inc. 5 - 44

• Transfer to a financing company – to a factor

Copyright © 2023 Pearson Canada Inc. 5 - 45

Journal entry for factoring accounts receivable without

Copyright © 2023 Pearson Canada Inc. 5 - 46

b. Transfer with recourse

Copyright © 2023 Pearson Canada Inc. 5 - 48

Copyright © 2023 Pearson Canada Inc. 5 - 49

Copyright © 2023 Pearson Canada Inc. 5 - 50

Copyright © 2023 Pearson Canada Inc. 5 - 51

Copyright © 2023 Pearson Canada Inc. 5 - 52

Copyright © 2023 Pearson Canada Inc. 5 - 53