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Intermediate Accounting I > Chapter 7 > Flashcards

Chapter 7 Flashcards

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1
Q

cash

A

amounts readily available to pay off debt or to use in operations

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2
Q

examples of cash

A

currency, coins, balances in checking accounts

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3
Q

cash equivalents

A

short term, highly liquid investments, readily convertible to cash with little risk/loss

have a maturity date no longer than three months from the date of purchase

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4
Q

examples of cash equivalents

A

money market funds, treasury bills, commercial papers

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5
Q

purpose of internal control procedures

A

safeguard assets/prevent fraud/material misstatement

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6
Q

5 internal controls

A

control activities (separation of duties)

control environment

information and communication

risk assessment

monitoring

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7
Q

one of major internal control procedures for cash receipts

A

separation of duties in the cash receipts process

So

Employee A opens mail each day and prepares multicopy listing of call checks including the amount and payor’s name

Employee B takes the checks, along with one copy of the listing, to the person responsible for depositing the checks in the company’s bank acct

Employee C a second copy of check listing is sent to acct dpt where they enter receipt into the accounting records

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8
Q

what is the purpose of cash disbursements

A

to prevent unauthorized payments

to ensure that disbursements are recorded properly

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9
Q

important elements for cash disbursements

A

all disbursements should be made by check

all expenditures should be authorized

checks should be signed only by authorized individuals

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10
Q

restricted cash

A

cash that is restricted in some way and not available for current use

  • specific purpose: ex: future plant expansion
  • contractually imposed: ex: debt instruments require the borrow to set aside funds
  • if debt –> noncurrent –> then restricted cash –> noncurrent
  • if debt –> current –> then restricted cash –> current
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11
Q

compensating balances

A

an amount that compensates the bank for granting the loan/extending the line of credit

1) borrow is asked to maintain a specified balance in a low interest or noninterest-bearing acct at the bank

2) required balance equals some percetnage of committed amount

3) borrow pays effective interest rate higher than the stated rate on the debt

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12
Q

does the compensating balance make the effective interest rate higher? If so, higher than what?

A

Yes, EIR > stated rate

example: company borrows 10,000,000 from bank, interest rate 12%

bank requires a compensating balance of $2,000,000 to be held in a noninterest-bearing checking acct

Total borrowing from bank is 10,000,000

interest is 10,000,000 x .12 = 1,200,000

actual borrowing (10,000,000-2,000,000) = 8,000,000

EIR: 1,200,000/8,000,000 = 15%

So EIR of 15% > stated rate of 12%

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13
Q

AR

A

created when sellers recognize rev associated with a credit sale

performance obligation is satisfied at point of delivery

revenue and related receivable are recognized at that time

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14
Q

most businesses provide credit to their customers

A

AR are informal credit arrangements supported by an invoice and normally are due in 30 to 60 days after the sale

classified as current assets because their normal collection period is part of the operating cycle of the business

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15
Q

trade discounts

A

% reduction from list price

usually dealing with buying in bulk

quantity discounts to large customers

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16
Q

sale discounts

A

reductions in the amount to be paid by a credit customer if paid within a specified period of time

intended to provide incentive for quick payment

2/10, n/30 - 2% discount if paid within 10 days, otherwise full payment within 30 days

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17
Q

gross method vs net method (1):
co offers a 2% sales discount if sales price is paid within 10 days; any amounts not paid within 10 days are due in 30 days (2/10,n/30). Co sold merchandise at 20,000 on Oct 5th

A

Gross method: given
Debit: AR (20,000)
Credit: Sales Rev (20,000)

Net Method: deducting
Debit: AR (19,600)
Credit: SR (19,600)

19,600 = 20,000 x .98

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18
Q

gross method vs net method (2): on Oct 14th, customer paid 13,720 (14,000 - 2% sales discount)

A

Gross method:
Debit: Cash (13,720)
Debit: Sales Discounts (280)
Credit: AR (14,000)

Net Method:
Debit: Cash (13,720)
Credit: AR (13,720)

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19
Q

gross method

A

buyer views a discount not taken as part of the cost of inventory

seller views a discount not taken by the customer as part of sales of rev

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20
Q

Gross method vs net method (3): on Nov 4th, customer paid remaining balance of 6,000 –> did not pay within period

A

Gross method:
Debit: Cash (6000)
Credit: AR (6,000)

Net Method:
Debit: Cash (6,000)
Credit: AR (5880)
Credit: Sales discounts forfeited (120)

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21
Q

example for net method (3) if paid within the period

A

Debit: Cash 5880
Credit: AR 5880

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22
Q

major difference between gross method and net method example

A

for gross, subtracting sales discount of 280 from 20,000

for net, adding sales discount forfeited of 120 to 19,600

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23
Q

NOTE: for example 3 gross method if customer paid within the period

A

if customer paid within the discount period”

Debit: Cash (5880)
Debit: Sales Disct (120)
Credit: AR (6000)

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24
Q

NOTE: if customer paid within discount period for net method

A

Debit: Cash (5880)
Credit: AR (5880)

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25
sales discount fortefied
records amount of discount customer could have taken but did not because paid after discount period expired only used under net method at the beginning of the sale, co initially assumes customer will take the disct and records revenue net of discount at the time of sale then comes back later, factoring in they did not get discount because did not pay within the discount period
26
gross method vs net method - which is correct
net method is typically better b/c reflects that amount --> disct is a savings that prudent customers are unwilling to forgo sales revenue and corresponding accts receivable should be stated at the amount of consideration the seller expects to be entitled to receive save $2, customer must pay $98 twenty days earlier than due investing $98 to earn $2 so 2/98 = 2.04% return for a twenty day period 2.04% x 365/20 = 37.23% annual effective rate
27
sales returns
merchandise returned for a refund/credit to be applied to other purchases special price reduction (allowance) may be given as incentive for customer to keep merchandise rather than returning it accrue sales returns and allowances at the time of sale
28
what happens if do not accrue sales returns and allowances at the time of sale
recognizing sales returns when they occur could result in overstated income in period of sale of understated income in return period example: sell merchandise 10,000, cost is 6,000 (in 2024) so you would recognize as co. GP of 4,000 but in 2025, all merchandise is returned so GP is overstated by 4,000 in 2024 and GP is understated in 2025 assets overstated by 4,000
29
accounting for sales return example: co sold merchandise 2,000,000 cash; merchandise cost 1,200,000 (60% of selling price); experiences 10% of all sales returned which equals 200,000 (2,000,000 x .10); customers returned 130,000 of sales during 2024
Selling Goods: Debit: Cash (2,000,000) Credit Sales Revenue (2,000,000) Debit: COGS (1,200,000) Credit: Inventory (1,200,000) NOTE: maintaining to calculate GP from SR and COGS _____________ Returning Inventory: actual sales return Debit: Sales Returns (130,000) Credit: Cash (130,000) Debit: Inventory (78,000) Credit: COGS (78,000) --> 130,000 x 60%
30
example relating to sales return: "an additional 70,000 of sales returns are expected. the cost of inventory expected to be returned is 42,000 (70,000 x.60) --> at the end of 2024
Debit: Sales returns (70,000) Credit: Refund liability (70,000) Debit: Inventory-est returns (42,000) Credit: COGS (42,000)
31
what is refund liability
because estimating, you are still expecting and may not get back --> liability
32
example relating to sales return: "an additional 70,000 of sales returns are expected. the cost of inventory expected to be returned is 42,000 (70,000 x.60) --> at the end of 2024
sales returns of 70,000; cost of inventory is 42,000 Debit: refund liability (70,000) Credit: Cash (70,000) Debit: Inventory (42,000) Credit: Inventoy-est. returns (42,000)
33
correcting estimates for sales returns
if the estimate of future sales returns turns out to be wrong, new estimate is incorporated into accounting determinations in the next period --> so say 2025 was actual returns from 2024 sales are 60,000 instead of 70,000 (originally estimated) DECREASING: Debit: Refund liability (10,000) Credit: Sales Returns (10000) Debit: COGS (6000) Credit: Inventory-estimated returns (6000) NOTE: This 6,000 is 60% of 10,000 NOTE: if it was in reverse and we had to INCREASE: Debit: sales return Credit: Refund liability Debit: inventory: Credit: COGS
34
subsequent valuation of AR
being entitled to receive payment does not mean the seller will be paid credit losses (bad debts) are an inherent cost of granting credit how to acct: direct method or allowance (GAAP)
35
direct method
waiting until particular acct is deemed uncollectible and write it off at that time not allowed by GAAP required for income tax purposes for most companies Debit: Bad Debt Exp credit: AR
36
two shortcomings of direct write off method
overstates the balance in AR in the periods prior to the write-off distorts net income by postponing recognition of any bad debt exp until the period in which the customer actually fails to pay
37
allowance method
required by GAAP whenever amount of bad debts is material companies use contra asset acct "allowance for uncollectible accts" --> reduces carrying value of AR to the amount of cash they expect to collect both the CV and the amount of allowance typically show on BS estimating uncollectible AR at end of period, record bad debts on basis of estimates
38
bad debt expense for the allowance method
not recognized when specific amounts are written off, it is recognized earlier when accts are estimated to be uncollectible and the allowance is created when specific AR is deemed actually uncollectible, both allowance and specific AR are reduced to write off the receivable
39
allowance method when recognizing AUA
expects to collect 280,000 of its AR, and AR begins with 305,000 so --> Debit: Bad debt expense (25000) Credit: AUA (25000)
40
writing off acct using allowance method
Debit: AUA (15,000) Credit: AR (15,000)
41
when reinstating a receivable previously written off
Debit: AR Credit: AUA If needing to reduce AR: Debit: Cash Credit: AR
42
estimating AUA accounts:
balance sheet approach or CECL
43
balance sheet approach for estimating AUA
basing bad debt expense on appropriate CV of AR Company estimates what the ending balance of the AUA should be, and then records the amount of bad debt expense necessary to adjust the allowance that is desired
44
CECL method for estimating the AUA
should consider all receivables and be based on all relevant info, historical experience, current conditions, reasonable and supportable forecasts required starting 2020 1) analyzing each customer acct 2) applying an estimate of the % of bad debts to the entire outstanding receivable balance 3) applying different %'s to accounts receivable balances depending on the length of time outstanding
45
example to AR aging schedule
AUA: begins with credit of 11,200 gross acct receivable balance of 400,000 but believes will only collect 360,000 400,000-360,000 = 40,000 so the post adjustment balance for AUA is 40,000 so 40,000-11,200 is a credit of 28,200 JE: Debit: Bad Debt Exp: (28200) Credit: AUA (28200)
46
AR aging schedule example 2: pre adjustment AUA of 2,000; need to reach necessary 40,000 of AUA post adjustment
requires a 42,000 credit JE: Debit: bad Dept Exp 42,000 Credit: AUA 42,000
47
AR Aging schedule: AUA credit of 11,200; post adjustment balance should be 5,000
11,2000 - 5,000 = 6200 Debit: AUA (6200) Credit: Bad Debt Exp (6200)
48
income statement approach
estimate bad debt expense directly as a % of each periods net credit sales % is usually determined by reviewing the company's recent history of the relationship between credit sales and actual bad debts if co had sales of 1,200,000 in 2024, estimated that 2% of sales would prove uncollectible, would debit bad debts expense and credit AUA for 24,000 JE: Debit: Bad Debt Exp: 24,000 Credit: AUA 24,000 24,000 = 1,200,000 x 2%
49
combined approaches for estimating
estimate bad debts on quarterly basis using income statement approach; and refine estimate using balance sheet approach at year-end
50
notes receivable
deals with creditor (lender) and debtor (borrower) --> formal agreements classified as current or non-current depending on expected collection date
51
short term interest bearing notes
deal with payments of both principal and interest
52
how to calculate interest on notes for short term interest bearing notes
face amount x annual rate x fraction of the annual period
53
journal entries for interest bearing notes
May 1, 2024: sold Debit: NR Credit: Sales Revenue November 1, 2024: collection with interest Debit: Cash Credit: Interest Revenue Credit: notes receivable Dec 31, 2024: accrued interest: Debit: interest receivable Credit: interest revenue Feb 1 collection Debit: cash Credit: Interest rev credit: interest receivable credit: NR
54
short term NON interest bearing notes
really do have interest interest is discounted from the face amount to determine the cash proceeds made available to the borrower at the outset
55
for short-term noninterest bearing notes, what is the discount on NR
discount on NR: - represents future interest revenue that will be recognized over time - is a contra account to the NR account
56
journal entries for short term NON interest bearing notes
May 1, 2024: sold Debit: NR (face amount) Credit: Discount on NR Credit: Sales revenue nov 1, 2024: payment of NR Debit: Discount on NR Credit: Interest Rev Debit: Cash Credit: NR
57
calculating effective interest rate for a noninterest bearing note
42,000 (interest for 6 months) /658,000 (sales price) = 6.383% (rate for 6 months) x 2 (annualize the rate) =12.766% (effective interest rate)
58
accrued interest for a non interest bearing note
Debit: Discount on NR Credit: interest rev
59
collection of cash on Feb 1st for non interest bearing note
Debit: discount on NR Credit: interest rev Debit: cash credit: NR
60
known journal entry for long term NR
deals with time value of money
61
note received solely for cash
debit: NR Credit: cash
62
subsequent valuation of NR
anticipates bad debts, use an allowance account to reduce the receivable to approproiate CV
63
financing with receivables can be done two ways
1) secured borrowing 2) sales of receivables
64
secured borrowing
- is pledging accounts receivable as collateral for a loan (borrower is using expected payments from customer - on AR - to secure financing) - if borrower fails to repay the loan, lender has right to collect AR directly from customers - entire receivables balance serves as collateral - responsibility for collection of the reeceivables remains solely with company - arrangement should be described in a disclosure note - no special accounting treatment is needed
65
sales of receivables
can be sold at a gain or a loss like other assets accounting treatment is similar to that of the sale of other assets
66
pledging with secured borrowing
pledging AR as collateral for loan no particular receivables are associated with the loan --> the entire AR balance serves as collateral responsbility for collection of AR remains solely with the COMPANY no special acct treatment is needed, but arrangement should be described in a disclosure note
67
secured borrwing - assigning
companies can assign particular AR to serve as collateral for loans usually the lender lends an amount of money that is less than the amount of AR assigned by the borrower (difference provides some protection for the lender to allow for possible uncollectible accounts) lender usually charges the borrower an up front finance charge in addition to stated interest on loan receivables might be collected either by the lender of the borrower, depending on details of arrangement
68

Intermediate Accounting I (15 decks)

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