Ch 6 Cash and Accounts Receivable

Question 1

Cash equivalents

Answer 1

Amounts that can be easily (and without a doubt) converts into known amounts of cash
- Maturity dates no longer than 3 months
- Government treasury bills
- Guaranteed investments certificates (GICs)

Question 2

An internal control system includes

Answer 2

• physical controls
• assignmnet of responsibilities
• separation of duties
• independent verification
• documentation

Question 3

when possible the following duties should be separated:

Answer 3

• transaction authorization
• recording of transactions
• asset custody

Question 4

Limitations of Internal Controls

Answer 4

• cost/benefit considerations
• human error
• collusion
• management override
• changing circumstances

Question 5

Bank reconciliation

Answer 5

comparing accounting records of the company and its bank and ensuring that those match

Question 6

why do companies sell on account?

Answer 6

• to increase sales
• to remain comprtitive
• to generate additional income (interest)

Question 7

When selling on account, companies incur costs such as:

Answer 7

• wages for the credit-granting function
• wages for the collections function
• credit losses (or bad debt expense)

Question 8

what is the carrying amount

Answer 8

the amount that the customers owes the company (A/R) less the allowance for expected credit losses
so the net A/R that is actually presented on the balance sheet

Question 9

Allowance for expected credit losses are also known as

Answer 9

allowance for doubtful accounts or the expected credit loss provision

Question 10

allowance for expected credit losses are recorded on the balance sheet as _______ which means that it has a ______

Answer 10

1) a contra asset
2) credit

It represents management’s best estimate of the total accounts receivable that it does not expect to be able to collect.

Question 11

The allowance method

Answer 11

• at the end of every month the management of the company estimates the amount that they do not expect to collect and record it as an allowance on the balance sheet
• it is does before an actual credit loss happens
• credit losses are a.k.a. bad debts and impairment losses

Question 12

Control accounts

Answer 12

it means that there is a sub ledger where the details of the account are recorded

Question 13

A/R is a _______ account. In the case of A/R a _________ is used to manage the details of individual accounts of each of the company’s customers

Answer 13

1) control
2) sub ledger (subsidiary ledger)

Question 14

No entry can be made to the A/R account if ______________________

Answer 14

an entry cannot also be made to the A/R sub ledger. That is, you must know which customer’s account os affected

Total A/R = Total in A/R Sub ledger

Question 15

3 key transactions that may occur under the allowance method

Answer 15

1) The allowance entry
2) The write-off entry
3) The recovery entry

Question 16

The allowance entry

Answer 16

Establishing the allowance and recording the credit losses
Journal Entry:

Credit Losses XXX
Allowance for Expected Credit Losses XXX

Question 17

Since we don’t know which exact customer is not gonna pay we can’t _________. Instead we _________

Answer 17

1) record the credit loss on the A/R sub ledger. That means we also cannot record it on the A/R control account
2) would record an allowance for expected credit losses as a contra asset.

Question 18

The allowance entry affects both _______ by ________ losses and ____________ by ________ the carrying amount of A/R

Answer 18

1) the statement of income
2) increasing
3) the statement of financial position
4) reducing

Question 19

The write-off entry

Answer 19

writing off a specific entry - after some time we see that a specific customer is not gonna pay so we write it off

Journal Entry:
Allowance for Expected Credit Losses XXX
A/R XXX

Question 20

The recovery entry

Answer 20

recovery of a specific A/R that has previously been written off
Journal Entry:
A/R XXX
Allowance for Expected Credit Losses XXX
Cash XXX
A/R XXX

Question 21

The recovery entry has no effect on ____________. But it has an effect on ____________ by ________ cash and _____________ the carrying amount of A/R. The mix of __________ changes but ________________ remain the same.

Answer 21

1) the statement of income
2) the statement of financial position
3) increasing
4) decreasing
5) assets
6) total assets

Question 22

Steps in the process of determining the allowance for expected credit losses

Answer 22

1) group the receivables by credit risk
2) determine the historic loss rates for each group
3) update historic loss rates to reflect future forecasts
4) determine the total expected credit losses
5) determine the amount of the adjustment required to the Allowance Expected Credit Losses account

Question 23

credit losses is a ___________ account and therefore has a ________ balance at the beginning of the accounting period

Answer 23

1) temporary
2) 0

Question 24

forecasted economic conditions that could negatively impact a company;s expected credit losses

Answer 24

economic downturns, increased interest rates, increased unemployment rates

Question 25

Direct Write off Method

Answer 25

There is no allowance for expected credit losses when the sale happens, instead the credit losses are recorded when they actually happen (when a customer declares bankruptcy or didn’t pay for a set amount of time)

Question 26

Journal Entry for Direct Write off Method

Answer 26

Credit Losses XXX
A/R XXX

Question 27

There are 2 main methods to deal with credit losses. The allowance method should always be used unless the losses are __________

Answer 27

insignificant

Question 28

credit card discount

Answer 28

a.k.a swipe fee or processing fee, it’s a fee that credit card companies charge the merchants for the costs of dealing with credit collection, credit losses and credit granting

Question 29

Journal Entry for a Credit card transaction with a related fee

Answer 29

Let’s look at an example of how a company would record a credit card transaction, including the related fee. If a company made a $3,500 credit card sale, and the credit card discount was 3%, the journal entry would be as follows:

A/R—Credit Card Company 3,395
Credit Card Expense 105
Sales Revenue 3,500

Question 30

Factoring

Answer 30

A company selling its A/R to another company typically a financial institution (known as the factor) for less than the face value of the A/R

Question 31

Factoring with and without recourse

Answer 31

factoring with recourse costs more but the factor can come back to the seller for payment of any A/R it couldn’t collect
factoring without recourse costs less but doesn’t provide this option

Question 32

2 ways to assess a company’s liquidity

Answer 32

1) the current ratio a.k.a the working capital ratio
2) the quick ratio a.k.a the acid test ratio

Question 33

current ratio

Answer 33

(current assets)
_________________
(current liabilities)

Question 34

quick ratio

Answer 34

(Current assets - inventory - prepaid expenses)
_________________________________________________
(current liabilities)

Question 35

Covenants

Answer 35

Conditions or restrictions placed on a company that borrows money. The covenants usually require the company to maintain certain minimum ratios and may restrict its ability to pay dividends.

minimum conditions set by the lender that, if not met, can trigger immediate repayment of the loan

Question 36

A/R Turnover Ratio

Answer 36

(credit sales)
______________
(Average A/R)

Average A/R = (A/R at the beginning of the year + A/R at the end of the year) /2

Question 37

ways to shorten the cash to cash cycle

Answer 37

• allow purchases using credit cards (credit card fee)
• selling off A/R (factoring)
• instalment purchases (some money lost to instalment companies)