Chapter 7 Notes Cash What is Cash cash the standard medium of exchange and the basis for measuring and accounting for all other items o most liquid asset generally classified as a current asset o consists of coin currency and available funds on deposit at the bank negotiable instruments are also included money orders certified checks cashier s checks personal checks bank drafts o savings accounts o petty cash change funds some negotiable instruments provide investors with interest o money market funds o money market savings certificates o certificates of deposit CDs o short term paper should be classified as temporary investments usually have restrictions or penalties on their conversion to cash receivables o postdated checks and I O U s o travel advances if collected from employees deducted from their salaries office supplies inventory prepaid expenses o postage stamps on hand Reporting Cash issues involved in the reporting of cash mainly relate to 3 things o 1 cash equivalents o 2 restricted cash o 3 bank overdrafts Cash Equivalents cash equivalents short term highly liquid investments that are both o a readily convertible to known amounts of cash o b so near their maturity that they present insignificant risk of changes in value because of changes in interest rates only investments with original maturities of 3 months or less qualify examples o treasury bills o commercial paper o money market funds if combined with cash on balance sheet the amount of temporary investments must be described in a parenthetical or the notes Restricted Cash restricted cash a material amount segregated from regular cash for reporting purposes o balances in these funds are often not material i e payroll and dividend funds classified as either a current asset or long term asset depending on the date of availability or disbursement o current if the cash is used for payment of existing or maturing obligations w in a year or operating cycle whichever is longer o noncurrent if the company is planning on holding onto the cash for a longer period of time usually set aside for plant expansion retirement of long term debt or entry free deposits compensating balances minimum balances that customers are required by the SEC to maintain in checking and savings accounts o SEC recommends that companies separately state legally restricted deposits held against compensating balances against short term borrowing agreements avoids misleading investors about the amount of cash available to meet current obligations Bank Overdrafts bank overdrafts when a company writes a check for more than the amount in its cash account o should be reported in the liabilities section added to the amount reported as accounts payable Accounts Receivable receivables claims held against customers and others for money goods or services o classified as either short term or long term current receivables expected to be collected within a year or during the current operating cycle o further classified as either trade or nontrade receivables trade receivables money owed by customers for goods bought or services rendered most significant item possessed by the company can be subclassified into accounts receivable and notes receivable o accounts receivable oral promises of the purchaser to pay for goods and services sold normally collected within 30 60 days o notes receivable written promises to pay a certain sum of money on a specified future date can be short term or long term nontrade receivables can arise from a variety of transactions advances to officers employees and subsidiaries deposits paid to cover potential damages or losses deposits paid as a guarantee of performance or payment dividends and interest receivable claims against o insurance companies for casualties or losses o defendants under suit o government bodies for tax refunds o common carriers for damaged or lost goods o creditors for returned damaged or lost goods o customers for returnable items crates containers etc 3 basic issues in accounting for accounts notes receivable o 1 recognition o 2 valuation o 3 disposition Recognition of Accounts Receivable exchange price amount due from the debtor o 2 complicating factors in measuring the exchange price 1 availability of discounts trade and cash discounts 2 the length of time between the sale and the due date of payments the interest element Trade Discounts trade discounts used to avoid frequent changes in catalogs to alter prices for different quantities purchased or to hid the true invoice price from competitors o commonly quoted in percentages Cash Discounts Sales Discounts cash discounts sales discounts offered to induce prompt payment o 2 10 n 30 2 percent if paid within 10 days gross amount due in 30 days usually taken by companies unless their cash is limited two recording methods o gross more common o net Nonrecognition of Interest Element in practice companies ignore interest revenue related to accounts receivable because the amount of the discount is not usually material in relation to the net income for the period Valuation of Accounts Receivable reporting of A R involves o 1 classification on the balance sheet determining the length of time each receivable will be outstanding o 2 valuation on the balance sheet short term receivables valued and reported at net realizable value the net amount they expect to receive in cash determining net realizable value requires estimation of 2 things o 1 uncollectible receivables o 2 any returns or allowances to be granted Uncollectible Accounts Receivable companies record credit losses as debits to Bad Debt Expense 2 methods used in accounting for uncollectible accounts o 1 direct write off method o 2 allowance method Direct Write Off Method for Uncollectible Accounts direct write off method company charges a loss to Bad Debt Expense when they determine an account to be uncollectible o Bad Debt Expense shows only actual losses from uncollectibles o A R is reported at its gross amount supporters say it reports facts not estimates assumes that a good account receivable results from each sale o latter events result in certain accounts being uncollectible fails to record expenses in the same period as revenues does not result in receivables being stated at net realizable value on the balance sheet not considered appropriate except when the amount uncollectible is immaterial Allowance Method for Uncollectible Accounts allowance method involves estimating uncollectible accounts at the end