5

Revenue and
Monetary
Assets
Part One: Financial Accounting

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 The Business Operating Cycle Slide 5-1

Collect cash from

Customer the customer
acknowledges
receipt of the item Purchase materials

Ship the product

Convert materials
and send the
into a finished
customer an
product
invoice

Receive an order Inspect the product

for the product
from a customer Store the product in
Irwin/McGraw-Hill a warehouse © The McGraw-Hill Companies, Inc., 1999
 Timing of Revenue Recognition Slide 5-2

Typical
Revenue Recognition Revenue Recognition
Event at This Time Method

1. Sales order received no none

2. Deposit or advance no none
payment received
3. Goods being produced For certain long- percentage of
term contracts completion
4. Production completed; For precious metals production
goods stored and certain agri-
cultural products
5. Goods shipped or usually delivery
6. Customer pays account collection is installment
receivable uncertain

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Consignment Shipments Slide 5-3

Goods
Goodscosting
costing$1,000
$1,000were
were
shipped
shippedout
outon
onconsignment.
consignment.

dr. Inventory on consignment 1,000

cr. Merchandise inventory 1,000

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Consignment Shipments Slide 5-4

These
Thesegoods
goodsare
aresold
soldby
bythe
the
consignee
consignee for
for$1,400.
$1,400.

dr. Cost of goods sold 1,000

cr. Inventory on consignment 1,000

dr. Accounts receivable 1,400

cr. Sales revenue 1,400

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Completed-Contract Method Slide 5-5

Customer Project Year-End

Payments Costs Percent
Year Received Incurred Complete Revenues Expenses Income
1 $120,000 $160,000 20 $ 0$ 0$ 0
2 410,000 400,000 70 0 0 0
3 370,000 240,000 100 900,000 800,000 100,000
Total $900,000 $800,000 $900,000 $800,000 $100,000

IfIfthe
theamount
amountofofincome
incometo tobe
beearned
earnedon
onthe
the
contract
contractcannot
cannotbebereliably
reliablyestimated,
estimated,then
then
revenue
revenueisisto
tobe
berecognized
recognizedonly
onlywhen
whenthe
theproject
project
has
hasbeen
beencompleted.
completed.

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Percentage-of-Completion Method Slide 5-6

Customer Project Year-End

Payments Costs Percent
Year Received Incurred Complete Revenues Expenses Income
1 $120,000 $160,000 20 $180,000 $160,000 $ 20,000
2 410,000 400,000 70 450,000 400,000 50,000
3 370,000 240,000 100 270,000 240,000 30,000
Total $900,000 $800,000 $900,000 $800,000 $100,000

GAAP
GAAPassumes
assumesthat
thatthe
thepercentage-of-
percentage-of-
completion
completionmethod
methodwill
willbe
beused
usedto
toaccount
accountfor
for
long-term
long-termcontracts.
contracts.

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Bad Debts Slide 5-7

The
Thefirm
firmexpects
expects Check
Checkout
outthe
theaging
aging
bad
baddebts
debtsof
of schedule
scheduleinin
$7,132
$7,132.. Illustration
Illustration5-4.
5-4.

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Bad Debts Slide 5-8

The adjusting entry would be:

dr. Bad Debts Expense 7,132
cr. Allowance for Doubtful 7,132

The accounts receivable section of the December 31, 1997 balance sheet
would appear as follows:
Accounts receivable $262,250 less: allowance
for doubtful accounts 7,132 accounts
receivable, net $255,118

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Bad Debts Slide 5-9

If sometime in 1998 the Essel Company decided that

James Johnson was never going to pay his bill of
$250, the following entry would be made:
dr. Allowance for Doubtful Accounts 250
cr. Accounts Receivable 250
Note
Note the
the the
the net
net
The accounts receivable section of the balance sheet immediately after the write-off entry would show--
Accounts receivable $262,000 amount
amount
less: allowance of
for doubtfulof accounts
accounts
accounts
6,882 accounts receivable, net $255,118
receivable
receivable isis unchanged. unchanged.

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Sales Discounts Slide 5-10

Sold $1,000 of merchandise on credit

terms of 2/10, net/30.

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Sales Discounts Slide 5-10

Sold $1,000 of merchandise on credit terms of 2/10,

net/30.
dr. Accounts Receivable 980
cr. Sales Revenue 980

If payment is made within the discount period:

dr. Cash 980
cr. Accounts Receivable 980

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Sales Discounts Slide 5-11

If payment is made after the discount period:

dr. Cash 1,000
cr. Discounts Not Taken 20
Accounts Receivable 980

The
The22percent
percentdiscount
discount
really
reallyamounts
amountsto toan
an
annual
annualrate
rateof
of32
32percent.
percent.

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Credit Card Sales Slide 5-12

Bank
Bank plan
plan (MasterCard
(MasterCard and
and Visa)
Visa)
dr. Cash 970
Sales Discounts (Credit Cards) 30
cr. Sales Revenue 1,000

Other
Other plans
plans (American
(American Express
Express and
and Discover)
Discover)
dr. Accounts Receivable 970
Sales Discounts (Credit Cards) 30
cr. Sales Revenue 1,000

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Interest Revenue Slide 5-13

On September 1, 1997, a bank loaned $10,000 for

one year at 9 percent interest, the interest and
principal to be paid on August 31, 1998. The bank’s
entry on September 1, 1997 is:
dr. Loan Receivable 10,000
cr. Cash 10,000
On December 31, 1997, an adjusting entry is made
to record the fact that interest for one-third of a year,
$300, was earned in 1997:
dr. Loan Receivable 300
cr. Interest Revenue 300

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Interest Revenue Slide 5-14

On September 1, 1997, a bank loaned $10,000 for

one year at 9 percent discounted.
dr. Loan Receivable 10,000
cr. Cash 9,100
Unearned Interest Revenue 900

On December 31, 1997, an adjusting entry is made

to record the fact that $300 of interest was earned in
1997.
dr. Unearned Interest Revenue 300
cr. Interest Revenue 300

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Interest Revenue Slide 5-15

On August 31, 1998, when the loan is repaid, the

entry is:
dr. Cash 10,000
cr. Loans Receivable 10,000

After repayment by the borrower, an adjusting entry

is also made by the bank to record the fact that $600
interest was earned in 1998.
dr. Unearned Interest Revenue 600
cr. Interest Revenue 600

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Current Ratio Slide 5-16

Current assets
Current Ratio =
Current liabilities
$1,245.1
Current Ratio =
$1,214.6

Current Ratio = 1.03

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Acid-Test Ratio Slide 5-17

Cash,
temporary
Acid-Test Monetary Current assets investments,
Ratio =
and accounts
Current liabilities receivable
(net)

Acid-Test $634.9
Ratio =
$1,214.6
Acid-Test
Ratio = 0.52

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Cash Cost Per Day Slide 5-18

Cash Cost Expenses (net of depreciation)

Per Day =
365

Cash Cost $5,348.0

Per Day = 365
Cash Cost
$14.65 per day
Per Day =

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Days’ Cash Slide 5-20

Cash
Days’ Cash =
Cash costs per day
$98.1
Days’ Cash =
$14.65

Days’ Cash = 7 days

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999

 Chapter 5

The End

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999