AC 310 1st Edition Exam 5 Study Guide Days 18 22 Day 18 March 10 Accounting for Accounts Receivable Trade Discounts percentage reduction from the list price way to change prices w o publishing new catalog disguises real price from competitors Cash Discounts intended to provide incentive for a quick payment Two ways to record cash discounts gross method and net method 1 Gross Method record first journal entry at normal full price Day of Sale DR Accounts Receivable 20 000 CR Sales Revenue 20 000 Day of Collection within discount period DR Cash 19 600 DR Sales Discount 400 CR Accounts Receivable 20 000 2 Net Method record first journal entry already assuming they took the discount Day of Sale DR Accounts Receivable 19 600 CR Sales Revenue 19 600 Day of Collection outside discount period DR Cash 20 000 CR Accounts Receivable 19 600 CR Interest Revenue 400 Difference between the two is the timing of the recognition of discounts not taken Net Realizable Value amount of cash the company expects to actually collect Accounts Receivable End Allowance for Uncollectible Accounts Bad Debt Expense cost of granting credit company faces the risk that customers may not be able to pay them back DR Bad Debt Expense XXX CR Allowance for Uncollectible Accounts XXXX Allowance for Uncollectible Accounts contra asset account to accounts receivable Two approaches to deciding bad debt expense 1 Income Statement Approach Bad debt expense estimated as a percentage of each period s net credit sales BD Exp 2 of 1 200 000 24 000 Journal Entry DR Bad Debt Expense 24 000 CR Allowance for Uncollectible Accounts 24 000 2 Balance Sheet Approach Composite Rate Aging of Receivables Determine BD Expense by estimating the net realizable value of accounts receivables Determine Ending balance of Allowance for uncollectible accounts then adjust allowance to solve for BD Expense Noninterest Bearing Note actually DOES bear interest interest is deducted from the face amount to determine the cash proceeds available to the borrower at the outset Discount is a contra account to the note receivable account Day 19 March 12 Accounting for Notes Receivable Using receivables to obtain immediate cash 1 Secured Borrowing Company A borrows 500 000 from Company B interest is 12 Company B assigns 620 000 of its own receivables as collateral for the loan Company B charges a finance fee of 1 5 of the receivable DR Cash difference 490 700 DR Finance charge expense 1 5 x 620 000 9 300 CR Liability financing arrangement 500 000 Company A still collects receivables for Company B but gives up the cash on a monthly basis When 400 000 of receivables are collected at month s end Company A records the following DR Cash 400 000 CR Accounts Receivable 400 000 DR Interest Expense 500 000 x 12 x 1 12 5 000 DR Liability financing arrangement 400 000 CR Cash 405 000 2 Sale of Receivables a Factoring a company sells its accounts receivable to a financial institution i Financial institution buys it for cash handles billing and collection of the receivables and charges a fee for this service b Securitization company creates a SPE usually a trust subsidiary SPE buys a pool of receivables loans from the company then sells related securities that are backed by the receivables Sale without Recourse Seller without Responsibility the buyer cannot ask the seller for more money if the receivables prove to be uncollectible DR Cash DR Loss on sale of receivables to balance DR Receivable from factor CR Accounts Receivable Sale with Recourse Seller with Responsibility the seller retains all of the risk of bad debts DR Cash DR Loss on sale of receivables DR Receivable from factor CR Recourse Liability CR Accounts Receivable Day 20 March 24 Inventory valuation with LIFO Reserve and LIFO Liquation Two types of inventory systems are used to record transactions involving inventory 1 Perpetual System inventory is continuously updated as purchases and returns are made think Wal Mart s checkout system 2 Periodic System inventory account is adjusted at the end of a reporting period done manually Beginning Inventory Net Purchases Cost of Goods Available for Sale Ending Inventory Cost of Goods Sold Inventory Cost Flow Assumptions 1 2 3 4 Specific identification high price low volume items jewelry store car dealerships Average Cost First in first out FIFO Last in last out LIFO Average Cost Cost of Available Goods Units Available for Sale FIFO assumes that items are sold in the chronological order of acquisition first items received are the first items sold last in remain in inventory at the end of the period COGS and Ending Inventory are the same under BOTH the periodic and perpetual methods With INCREASING prices FIFO will have a lower COGS expense than LIFO will and therefore a higher income LIFO assumes that the newest items are sold first leaving the older units in inventory COGS and Ending Inventory Cost will differ under the perpetual and periodic approaches Watch for the time of sale and updated inventory purchases Remember new is always accounted for first with LIFO With rising prices LIFO s COGS is more This means less income but fewer taxes CAN use multiple inventory costing systems for the same company Often companies use FIFO for their internal records and LIFO for their external reporting and income tax purposes Day 21 March 26 Inventories Valuation with Lower of Cost or Market and NRV Determining Market Value 1 Start with Replacement Cost will be given 2 Solve for the Ceiling Cost NRV a NRV Ceiling Selling Price minus disposal costs 3 Solve for the Floor Cost NRV NP a Take Ceiling Cost NRV and subtract away Normal Profit i Normal profit Selling price x gross profit ratio Middle Value will be your market value Compare Market Value to Original Cost and whichever is lower is the value of your inventory Day 22 March 31 Inventory Valuation with Gross Profit and Retail Inventory Methods Gross Profit as a of sales Gross profit as a of cost 1 gross profit as a of cost Cost Flow Methods 1 Average Cost includes net markdowns in the Cost to Retail 2 Conventional Retail Method LCM does NOT include net markdowns in Cost to Retail Treatment of Special Features BEFORE calculating cost to retail Freight in add to cost Purchase returns subtract from both Purchase discounts subtract from cost Abnormal shortages subtract from both AFTER calculating cost to retail Normal shortages subtract from retail Employee discounts add to net sales