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7-1
Prepared by Prepared by Coby Harmon Prepared by Coby Harmon Harmon University of California Santa Barbara University of California, Santa Coby Barbara University of California, Santa Barbara Westmont College Westmont College
PREVIEW OF CHAPTER
7
1.
LEARNING OBJECTIVES
After studying this chapter, you should be able to: Identify items considered cash. 6. Explain accounting issues related to recognition and valuation of notes receivable. Explain the fair value option. Explain accounting issues related to disposition of accounts and notes receivable. Describe how to report and analyze receivables.
2.
3. 4. 5.
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Cash
What is Cash?
Most liquid asset. Standard medium of exchange. Basis for measuring and accounting for all items. Current asset. Examples: coin, currency, available funds on deposit at the bank, money orders, certified checks, cashiers checks, personal checks, bank drafts and savings accounts.
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7
1.
LEARNING OBJECTIVES
After studying this chapter, you should be able to: Identify items considered cash. 6. Explain accounting issues related to recognition and valuation of notes receivable. Explain the fair value option. Explain accounting issues related to disposition of accounts and notes receivable. Describe how to report and analyze receivables.
2.
3. 4. 5.
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Cash
Reporting Cash
Cash Equivalents
Short-term, highly liquid investments that are both
a) readily convertible to cash, and b) so near their maturity that they present insignificant risk of changes in value.
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Reporting Cash
Restricted Cash
Companies segregate restricted cash from regular cash.
Examples, restricted for:
(1) plant expansion, (2) retirement of long-term debt, and (3) compensating balances.
Illustration 7-1
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LO 2
Reporting Cash
Bank Overdrafts
Company writes a check for more than the amount in its cash account.
Generally reported as a current liability. Offset against other cash accounts only when accounts are with the same bank.
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Cash-Related Items
Illustration 7-2
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LO 2
7
1.
LEARNING OBJECTIVES
After studying this chapter, you should be able to: Identify items considered cash. 6. Explain accounting issues related to recognition and valuation of notes receivable. Explain the fair value option. Explain accounting issues related to disposition of accounts and notes receivable. Describe how to report and analyze receivables.
2.
3. 4. 5.
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Accounts Receivable
Receivables - Claims held against customers and others for money, goods, or services.
Oral promises of the purchaser to pay for goods and services sold.
Accounts Receivable
Notes Receivable
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Accounts Receivable
Nontrade Receivables
1. Advances to officers and employees. 2. Advances to subsidiaries. 3. Deposits paid to cover potential damages or losses. 4. Deposits paid as a guarantee of performance or payment. 5. Dividends and interest receivable. 6. Claims against: Insurance companies for casualties sustained;
defendants under suit; governmental bodies for tax refunds; common carriers for damaged or lost goods; creditors for returned, damaged, or lost goods; customers for returnable items (crates, containers, etc.).
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Accounts Receivable
Nontrade Receivables
Illustration 7-3 Receivables Balance Sheet Presentations
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7
1.
LEARNING OBJECTIVES
After studying this chapter, you should be able to: Identify items considered cash. 6. Explain accounting issues related to recognition and valuation of notes receivable. Explain the fair value option. Explain accounting issues related to disposition of accounts and notes receivable. Describe how to report and analyze receivables.
2.
3. 4. 5.
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Reductions from the list price. Not recognized in the accounting records. Customers are billed net of discounts.
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June 3
June 12
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Accounts Receivables
How are these accounts presented on the Balance Sheet?
End.
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500
25
End.
Accounts Receivables
ABC Corporation Balance Sheet (partial) Current Assets: Cash Accounts receivable Less: Allowance for doubtful accounts Inventory Prepaid expense Total current assets 500 (25) 475 812 40 1,657 $ 330
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Accounts Receivables
ABC Corporation Balance Sheet (partial) Current Assets: Cash Accounts receivable, net of $25 allowance Inventory Prepaid expense Total current assets $ 330 475 812 40 1,657
Alternate Presentation
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Accounts Receivables
Journal entry for credit sale of $100?
Accounts Receivable Sales 100 100
End.
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500
25
End.
Accounts Receivables
Journal entry for credit sale of $100?
Accounts Receivable Sales 100 100
End.
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600
25
End.
Accounts Receivables
Collected $333 on account?
Cash Accounts Receivable 333 333
End.
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600
25
End.
Accounts Receivables
Collected $333 on account?
Cash Accounts Receivable 333 333
End.
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267
25
End.
Accounts Receivables
Adjustment of $15 for estimated bad debts?
Bad Debt Expense Allowance for Doubtful Accounts 15 15
End.
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267
25
End.
Accounts Receivables
Adjustment of $15 for estimated bad debts?
Bad Debt Expense Allowance for Doubtful Accounts 15 15
End.
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267
40
End.
Accounts Receivables
Write-off of uncollectible accounts for $10?
Allowance for Doubtful accounts Accounts Receivable 10 10
End.
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267
40
End.
Accounts Receivables
Write-off of uncollectible accounts for $10?
Allowance for Doubtful accounts Accounts Receivable 10 10
10
End.
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W/O
W/O
10
30 End.
257
Accounts Receivables
ABC Corporation Balance Sheet (partial) Current Assets: Cash Accounts receivable, net of $30 allowance Merchandise inventory Prepaid expense Total current assets $ 330 227 812 40 1,409
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7
1.
LEARNING OBJECTIVES
After studying this chapter, you should be able to: Identify items considered cash. 6. Explain accounting issues related to recognition and valuation of notes receivable. Explain the fair value option. Explain accounting issues related to disposition of accounts and notes receivable. Describe how to report and analyze receivables.
2.
3. 4. 5.
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Accounts Receivable
Valuation of Accounts Receivable
Classification involves determining the length of time each receivable will be outstanding.
Value and report short-term receivables at net realizable value.
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Record credit losses as debits to Bad Debt Expense (or Uncollectible Accounts Expense).
Normal and necessary risk of doing business on credit.
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Direct Write-Off
Theoretically deficient:
Allowance Method
Losses are estimated:
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The percentage-of-receivables basis produces the better estimate of net realizable value
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LO 5
Not matching.
Reports estimate of receivables at realizable value.
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What entry would Wilson make assuming that the allowance account had a zero balance?
37,650 37,650
What entry would Wilson make assuming the allowance account had a credit balance of $800 before adjustment?
36,850 36,850
Instructions: Prepare the journal entry to record bad debt expense assuming Sandel Company estimates bad debts at (a) 1% of net sales and (b) 5% of accounts receivable.
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Instructions: Prepare the journal entry assuming Sandel estimates bad debts at (b) 1% of net sales.
Bad Debt Expense Allowance for Doubtful Accounts
($800,000 $50,000) x 1% = $7,500
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7,500 7,500
LO 5
Instructions: Prepare the journal entry assuming Sandel estimates bad debts at (b) 5% of accounts receivable.
Bad Debt Expense Allowance for Doubtful Accounts
($160,000 x 5%) $2,000) = $6,000
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6,000 6,000
LO 5
Assume that on July 1, Randall Co. pays the $1,000 amount that Brown had written off on March 1. These are the entries:
Accounts Receivable Allowance for Doubtful Accounts Cash Accounts Receivable
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7
1.
LEARNING OBJECTIVES
After studying this chapter, you should be able to: Identify items considered cash. 6. Explain accounting issues related to recognition and valuation of notes receivable. Explain the fair value option. Explain accounting issues related to disposition of accounts and notes receivable. Describe how to report and analyze receivables.
2.
3. 4. 5.
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Notes Receivable
Supported by a formal promissory note.
Written promise to pay a certain sum of money at a specific future date. A negotiable instrument. Maker signs in favor of a Payee. Interest-bearing (has a stated rate of interest) OR Zero-interest-bearing (interest included in face amount).
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Notes Receivable
Generally originate from:
Customers who need to extend payment period of an outstanding receivable. High-risk or new customers. Loans to employees and subsidiaries. Sales of property, plant, and equipment. Lending transactions (majority of notes).
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Long-Term
Record at Present Value of cash expected to be collected
Note Issued at Face Value
Interest Rates Stated rate = Market rate Stated rate > Market rate Stated rate < Market rate
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Premium
Discount
LO 6
$1,000
1,000
1,000 Interest
1
n=3
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$1,000
2.48685
Factor
$2,487
Present Value
Interest Received
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$10,000
Principal
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.75132
Factor
$7,513
Present Value
$10,000
Dec. yr. 1
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Zero-Interest-Bearing Note
Illustration: Jeremiah Company receives a three-year, $10,000 zero-interest-bearing note. The market rate of interest for a note of similar risk is 9 percent. How does Jeremiah record the receipt of the note?
i = 9%
$10,000 Principal
$0
$0
$0 Interest
1
n=3
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Zero-Interest-Bearing Note
PV of Principal
$10,000
Principal
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.77218
Factor
$7,721.80
Present Value
Zero-Interest-Bearing Note
Illustration 7-12
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Zero-Interest-Bearing Note
Illustration 7-12
Zero-Interest-Bearing Note
Illustration 7-12
Prepare the journal entry to record interest revenue at the end of the first year.
694.96 694.96
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Interest-Bearing Note
Illustration: Morgan Corp. makes a loan to Marie Co. and receives in exchange a three-year, $10,000 note bearing interest at 10 percent annually. The market rate of interest for a note of similar risk is 12 percent. Prepare the journal entry to record the receipt of the note?
i = 12%
$10,000 Principal
$1,000
1,000
1,000 Interest
1
n=3
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Interest-Bearing Note
PV of Interest
$1,000
2.40183
Factor
$2,402
Present Value
Interest Received
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Interest-Bearing Note
PV of Principal
$10,000
Principal
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.71178
Factor
$7,118
Present Value
Interest-Bearing Note
Illustration: Record the receipt of the note?
Illustration 7-14
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Interest-Bearing Note
Illustration 7-15
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Zero-Interest-Bearing Note
Illustration 7-15
Prepare the journal entry to record interest revenue at the end of the first year.
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Notes Receivable
Valuation of Notes Receivable
only their cost but also their fair value in the notes to the
financial statements.
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7
1.
LEARNING OBJECTIVES
After studying this chapter, you should be able to: Identify items considered cash. 6. Explain accounting issues related to recognition and valuation of notes receivable. Explain the fair value option. Explain accounting issues related to disposition of accounts and notes receivable. Describe how to report and analyze receivables.
2.
3. 4. 5.
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Special Issues
Fair Value Option
Companies have the option to use fair value as the basis of measurement in the financial statements.
If companies choose the fair value option
Receivables are recorded at fair value. Unrealized holding gains or losses reported as part of net income.
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Special Issues
Fair Value Option
Must continue to use fair value measurement for the specific instrument until the company no longer owns this instrument.
If not elected at date of recognition, company may never use fair value option on that specific instrument.
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190,000
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7
1.
LEARNING OBJECTIVES
After studying this chapter, you should be able to: Identify items considered cash. 6. Explain accounting issues related to recognition and valuation of notes receivable. Explain the fair value option. Explain accounting issues related to disposition of accounts and notes receivable. Describe how to report and analyze receivables.
2.
3. 4. 5.
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Competition. Sell receivables because money is tight. Billing and collection are time-consuming and costly.
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Secured Borrowing
Illustration 7-16
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LO 8
Secured Borrowing
Illustration: On April 1, 2014, Prince Company assigns $500,000 of its accounts receivable to the Third National Bank as collateral for a $300,000 loan due July 1, 2014. The assignment agreement calls for Prince Company to continue to collect the receivables. Third National Bank assesses a finance charge of 2% of the accounts receivable, and interest on the loan is 10% (a realistic rate of interest for a note of this type). Instructions: a) b) Prepare the April 1, 2014, journal entry for Prince Company. Prepare the journal entry for Princes collection of $350,000 of the accounts receivable during the period from April 1, 2014, through June 30, 2014. On July 1, 2014, Prince paid Third National all that was due from the loan it secured on April 1, 2014.
LO 8 Explain accounting issues related to disposition of accounts and notes receivable.
c)
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Secured Borrowing
Instructions: a) b) Prepare the April 1, 2014, journal entry for Prince Company. Prepare the journal entry for Princes collection of $350,000.
c)
a)
10,000
300,000 350,000 350,000 300,000 7,500 307,500
LO 8
Purchaser assumes risk of collection. Transfer is outright sale of receivable. Seller records loss on sale.
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Sales of Receivables
Factors are finance companies or banks that buy receivables from businesses for a fee.
Illustration 7-17
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LO 8
Sales of Receivables
Illustration: Crest Textiles, Inc. factors $500,000 of accounts receivable with Commercial Factors, Inc., on a without recourse basis. Commercial Factors assesses a finance charge of 3 percent of the amount of accounts receivable and retains an amount equal to 5 percent of the accounts receivable (for probable adjustments). Crest Textiles and Commercial Factors make the following journal entries for the receivables transferred without recourse.
Illustration 7-18
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Sales of Receivables
Illustration: Assume Crest Textiles sold the receivables on a with recourse basis. Crest Textiles determines that this recourse obligation has a fair value of $6,000. To determine the loss on the sale of the receivables, Crest Textiles computes the net proceeds from the sale as follows.
Illustration 7-19 Net Proceeds Computation
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LO 8
Sales of Receivables
Illustration: Prepare the journal entries for both Crest Textiles and Commercial Factors for the receivables sold with recourse. Crest Textiles, Inc. Cash Due from Factor Loss on Sale of Receivables Accounts (Notes) Receivable Recourse Liability 460,000 25,000 21,000 500,000 6,000
Accounts Receivable 500,000 Due to Customer (Crest Textiles) Interest Revenue Cash
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The FASB concluded that a sale occurs only if the seller surrenders control of the receivables to the
buyer.
Three conditions must be met.
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LO 8
7
1.
LEARNING OBJECTIVES
After studying this chapter, you should be able to: Identify items considered cash. 6. Explain accounting issues related to recognition and valuation of notes receivable. Explain the fair value option. Explain accounting issues related to disposition of accounts and notes receivable. Describe how to report and analyze receivables.
2.
3. 4. 5.
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3.
Determine that receivables classified in the current assets section will be converted into cash within the year or the operating cycle, whichever is longer.
Disclose any loss contingencies that exist on the receivables. Disclose any receivables designated or pledged as collateral. Disclose the nature of credit risk inherent in the receivables.
LO 9 Describe how to report and analyze receivables.
4. 5. 6.
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Use to evaluate the liquidity of accounts receivable. Measures the number of times, on average, a company collects receivables during the period.
Illustration 7-24
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APPENDIX
7A
CASH CONTROLS
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APPENDIX
7A
CASH CONTROLS
General checking account Collection float. Lockbox accounts Imprest bank accounts
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APPENDIX
7A
CASH CONTROLS
Steps:
1. Record $300 transfer of funds to petty cash: Petty Cash Cash 300 300
2. The petty cash custodian obtains signed receipts from each individual to whom he or she pays cash.
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APPENDIX
7A
CASH CONTROLS
2
173
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APPENDIX
7A
CASH CONTROLS
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APPENDIX
7A
CASH CONTROLS
Minimize the cash on hand. Only have on hand petty cash and current days receipts.
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APPENDIX
7A
CASH CONTROLS
Time Lags
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APPENDIX
7A
CASH CONTROLS
Illustration 7A-1 Bank Reconciliation Form and Content
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APPENDIX
7A
CASH CONTROLS
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LO 10
APPENDIX
7A
CASH CONTROLS
Illustration 7A-2
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APPENDIX
7A
CASH CONTROLS
Illustration: Journalize the adjusting entry on the books of Nugget Mining Company. Nov. 30
Cash
Office Expense Accounts Receivable Accounts Payable Interest Revenue
542
18 220 180 600
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APPENDIX
7A
CASH CONTROLS
Question
The reconciling item in a bank reconciliation that will result in an adjusting entry by the depositor is: a. outstanding checks. b. deposit in transit. c. a bank error. d. bank service charges.
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APPENDIX
7B
IMPAIRMENT OF RECEIVABLES
Companies evaluate their receivables to determine their ultimate collectibility. Allowance method is appropriate when:
probable that an asset has been impaired and amount of the loss can be reasonably estimated.
Long-term receivables such as loans that are identified as impaired, companies perform an additional impairment evaluation.
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APPENDIX
7B
IMPAIRMENT OF RECEIVABLES
the investment in the loan (generally the principal plus accrued interest) and
the expected future cash flows discounted at the loans historical effective-interest rate.
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APPENDIX
7B
IMPAIRMENT OF RECEIVABLES
Illustration: At December 31, 2013, Ogden Bank recorded an investment of $100,000 in a loan to Carl King. The loan has an historical effective-interest rate of 10 percent, the principal is due in full at maturity in three years, and interest is due annually. The loan officer performs a review of the loans expected future cash flow and utilizes the present value method for measuring the required impairment loss.
Illustration 7B-1
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APPENDIX
7B
IMPAIRMENT OF RECEIVABLES
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Translation: The U.S. has caused a financial crisis as a result of poor lending practices, and many financial institutions are fighting to survive. Im glad that this time we did not cause it. Translation: Other countries realized they had caused financial crises in the past but were not to blame for the current U.S. financial situation. What you see is what you get. If you dont see it, it will get you. Translation: A large number of financial institutions have to take losses on assets that are not reported on their balance sheet. Their continuing interest in some of the loans that they supposedly sold is now coming back to them and they will have to report losses. Source: Floyd Norris blog, http://www.norris.blogs.nytimes.com/ (accessed June 2008).
LO 11
The accounting and reporting related to cash is essentially the same under both IFRS and GAAP. In addition, the definition used for cash equivalents is the same. Like GAAP, cash and receivables are generally reported in the current assets section of the balance sheet under IFRS. Similar to GAAP, IFRS requires that loans and receivables be accounted for at amortized cost, adjusted for allowances for doubtful accounts.
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LO 12 Compare the accounting procedures for cash and receivables under GAAP and IFRS.
Under IFRS, companies may report cash and receivables as the last items in current assets under IFRS. Under GAAP, these items are reported in order of liquidity. While IFRS implies that receivables with different characteristics should be reported separately, there is no standard that mandates this segregation. GAAP has explicit guidance in the area. The fair value option is similar under GAAP and IFRS but not identical. The international standard related to the fair value option is subject to certain qualifying criteria not in the U.S. standard. In addition, there is some difference in the financial instruments covered.
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LO 12 Compare the accounting procedures for cash and receivables under GAAP and IFRS.
Under IFRS, bank overdrafts are generally reported as cash. Under GAAP, such balances are reported as liabilities. IFRS and GAAP differ in the criteria used to account for transfers of receivables. IFRS is a combination of an approach focused on risks and rewards and loss of control. GAAP uses loss of control as the primary criterion. In addition, IFRS generally permits partial transfers; GAAP does not.
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LO 12 Compare the accounting procedures for cash and receivables under GAAP and IFRS.
ON THE HORIZON
Both the IASB and the FASB have indicated that they believe that financial statements would be more transparent and understandable if companies recorded and reported all financial instruments at fair value. That said, in IFRS 9, which was issued in 2009, the IASB created a split model, where some financial instruments are recorded at fair value but other financial assets, such as loans and receivables, can be accounted for at amortized cost if certain criteria are met. Critics say that this can result in two companies with identical securities accounting for those securities in different ways. A proposal by the FASB would require that nearly all financial instruments, including loans and receivables, be accounted for at fair value. It has been suggested that IFRS 9 will likely be changed or replaced as the FASB and IASB continue to deliberate the best treatment for financial instruments. In fact, one member of the IASB said that companies should ignore IFRS 9 and continue to report under the old standard, because in his opinion, it is extremely likely that it would be changed before the mandatory adoption date of this standard in 2013.
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LO 12
d. replacement cost.
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LO 12 Compare the accounting procedures for cash and receivables under GAAP and IFRS.
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LO 12 Compare the accounting procedures for cash and receivables under GAAP and IFRS.
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LO 12 Compare the accounting procedures for cash and receivables under GAAP and IFRS.
Copyright
Copyright 2013 John Wiley & Sons, Inc. All rights reserved.
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