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Chapter 7. Financial Assets. How Much Cash Should a Business Have?. Financial Assets. Receivables (net realizable). Cash (face amount). Short-term Investments (market value). Cash. Coins and paper money. Checks. Cash is defined as any deposit banks will accept.

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Financial Assets

how much cash should a business have
How Much Cash Should a Business Have?

Financial Assets


(net realizable)


(face amount)

Short-term Investments

(market value)


Coins and paper money


Cash is defined as any deposit banks will accept.

Bank credit card sales

Money orders

Travelers’ checks

reporting cash in the balance sheet

Cash Equivalents

Reporting Cash in the Balance Sheet

Combined with cash on balance sheet

Matures within 90 days of acquisition

Liquid short-term investments

Stable market values

reporting cash in the balance sheet1
Reporting Cash in the Balance Sheet

Not available for paying current liabilities

“Restricted” Cash

Not a current asset

Listed as an investment

reporting cash in the balance sheet2
Reporting Cash in the Balance Sheet

Bank agrees in advance to lend money.

Lines of Credit

Liability is incurred when line of credit is used.

Unused line of credit is disclosed in notes.

the statement of cash flows

Statement of Cash Flows

The Statement of Cash Flows

Summarizes cash transactions for an accounting period.

Includes cash and cash equivalents.

cash management
Accurately account for cash.

Prevent theft and fraud.

Assure the availability of adequate amounts of cash.

Prevent unnecessarily large amounts of idle cash.

Cash Management
using excess cash balances efficiently
Using Excess Cash Balances Efficiently

Cash available for long-term investment may be used to finance growth and expansion of the business, or to repay debt.

Cash not needed for business purposes may be distributed to the company’s stockholders.

internal control over cash
Segregate authorization, custody and recording of cash.

Prepare a cash budget (or forecast).

Prepare a control listing of cash receipts.

Require daily deposits.

Make all payments by check.

Verify every expenditure before payment.

Promptly reconcile bank statements.

Internal Control Over Cash
cash over and short
Cash Over and Short

On May 5, XBAR, Inc.’s cash drawerwas counted and found to be $10 over.

Cash Over and Short is debited for shortages and credited for overages.

bank statements

Bank Statement

Bank Statements

Shows the beginning bank balance, deposits made, checks paid, other debits and credits in the month, and the ending bank balance.

reconciling the bank statement
Reconciling the Bank Statement

Explains the difference between cash reported on bank statement and cash balance in depositor’s accounting records.

Provides information for reconciling journal entries.

reconciling the bank statement1
Reconciling the Bank Statement

Balance per Bank

Balance per Depositor

+ Deposits by Bank

(credit memos)

+ Deposits in Transit

- Service Charge

- NSF Checks

- Outstanding Checks

± Bank Adjustments

± Book Adjustments

= Adjusted Balance

= Adjusted Balance

reconciling the bank statement2
Reconciling the Bank Statement

All reconciling items on the book side require an adjusting entry to the cash account.

Balance per Depositor

+ Deposits by Bank

(credit memos)

- Service Charge

- NSF Checks

± Book Adjustments

= Adjusted Balance

reconciling the bank statement3
Reconciling the Bank Statement

Prepare a July 31 bank reconciliation statement and the resulting journal entries for the Simmons Company. The July 31 bank statement indicated a cash balance of $9,610, while the cash ledger account on that date shows a balance of $7,430. Additional information for the reconciliation is shown:

  • Outstanding checks totaled $2,417.
  • A $500 check mailed to the bank for deposit had not reached the bank at the statement date.
  • The bank returned a customer’s NSF check for $225 received as payment of an account receivable.
  • The bank statement showed $30 interest earned on the bank balance for the month of July.
  • Check 781 for supplies cleared the bank for $268 but was erroneously recorded in our books as $240.
  • A $486 deposit by Acme Company was erroneously credited to our account by the bank.
petty cash funds
Petty Cash Funds

Used for minor expenditures.

Petty Cash Funds

Has one custodian.

Replenished periodically.

short term investments
Short-Term Investments

Bond Investments

Capital Stock Investments

Marketable Securities are . . .

Readily Marketable

Current Assets

Almost As Liquid As Cash

accounting for marketable securities
Accounting for Marketable Securities

Most short-term investments in marketable securities are classified as available for sale and appear on the balance sheet at their current market value.

purchase of marketable securities
Foster Corporation purchases as a short-term investment 4,000 shares of The Coca-Cola Company on December 1. Foster paid $43.98 per share, plus a brokerage commission of $80.Purchase of Marketable Securities

Total Cost: (4,000 × $43.98) + $80 = $176,000

Cost per Share: $176,000 ÷ 4,000 = $44.00

recognition of investment revenue
On December 15, Foster Corporation receives a $0.30 per share dividend on its 4,000 shares of Coca-Cola. Recognition of Investment Revenue

4,000 × $0.30 = $1,200

sales of investments
On December 18, Foster Corporation sells 500 shares of its Coca-Cola stock for $46.04 per share, less a $20 brokerage commission. Sales of Investments

Sales Proceeds: (500 × $46.04) - $20 = $23,000

Cost Basis: 500 × $44 = $22,000

Gain on Sale: $23,000 - $22,000 = $1,000

adjusting marketable securities to market value
On December 31, Foster Corporation’s remaining shares of Coca-Cola capital stock have a current market value of $42,000. Prior to any adjustment, the company’s Marketable Securities account has a balance of $44,000 (1,000 × $44 per share). Adjusting Marketable Securities to Market Value

Unrealized Loss: $42,000 - $44,000 = ($2,000)

accounts receivable
If a company makes credit sales to customers, some accounts inevitably will turn out to be uncollectible.Accounts Receivable


reflecting uncollectible accounts in the financial statements
At the end of each period, record an estimate of the uncollectible accounts.

Selling expense

Contra-asset account

Reflecting Uncollectible Accounts in the Financial Statements
writing off an uncollectible account receivable2
Assume that before this entry, the Accounts Receivable balance was $10,000 and the Allowance for Doubtful Accounts balance was $2,500.

Let’s see what effect the write-off had on these accounts.

Writing Off an Uncollectible Account Receivable
writing off an uncollectible account receivable3
Writing Off an Uncollectible Account Receivable

Notice that the $500 write-off did not change the net realizable value nor did it affect any income statement accounts.

monthly estimates of credit losses
At the end of each month, management should estimate the probable amount of uncollectible accounts and adjust the Allowance for Doubtful Accounts to this new estimate.Monthly Estimates of Credit Losses
  • Two Approaches to Estimating Credit Losses:
  • Balance Sheet Approach
  • Income Statement Approach
estimating credit losses the balance sheet approach
Estimating Credit Losses — The Balance Sheet Approach
  • Year-end Accounts Receivable is broken down into age classifications.
  • Each age grouping has a different likelihood of being uncollectible.
  • Compute a separate allowance for each age grouping.
estimating credit losses the balance sheet approach1
Estimating Credit Losses — The Balance Sheet Approach

At December 31, the receivables for EastCo, Inc. were categorized as follows:

estimating credit losses the balance sheet approach2
Estimating Credit Losses — The Balance Sheet Approach

EastCo’s unadjusted balance in the allowance account is $500.

Per the previous computation, the desired balance is $1,350.

estimating credit losses the income statement approach
Estimating Credit Losses — The Income Statement Approach

Uncollectible accounts’ percentage is based on actual uncollectible accounts from prior years’ credit sales.

Focus is on determining the amount to record on the income statement as Uncollectible Accounts Expense.

estimating credit losses the income statement approach1
In 2007, EastCo had credit sales of $60,000. Historically, 1% of EastCo’s credit sales has been uncollectible. For 2007, the estimate of uncollectible accounts expense is $600. ($60,000 × .01 = $600)

Now, prepare the adjusting entry for December 31, 2007.

Estimating Credit Losses — The Income Statement Approach
uncollectible accounts summary

Aging of Receivables

% of Credit Sales

Emphasis on Realizable Value

Emphasis on Matching

Accts. Rec.


All. for Doubtful Accts.

Uncoll. Accts. Exp.

Balance Sheet Focus

Income Statement Focus

Uncollectible AccountsSummary
concentrations of credit risk
Concentrations of Credit Risk

Concentrations of credit risk occur if a significant portion of a company’s receivables are due from a few major customers or from customers operating in the same industry or geographic region.

The FASB requires disclosure of all significant concentrations of credit risk in the notes to the financial statements.

direct write off method
Direct Write-Off Method

This method makes no attempt to match revenues with the expense of uncollectible accounts.

internal controls for receivables
Maintenance of the accounts receivable subsidiary ledger.

Custody of cash receipts.

Authorization of accounts receivable write-offs.

Internal Controls for Receivables

Separate the following duties:

management of accounts receivable
Management of Accounts Receivable

Credit Terms

Extending credit encourages customers to buy from us . . .

Minimize Accounts Receivable

. . . but it ties up resources in accounts receivable.

notes receivable and interest revenue
Notes Receivable and Interest Revenue

A promissory note is an unconditional promise in writing to pay on demand or at a future date a definite sum of money.

Maker—the person who signs the note and thereby promises to pay.

Payee—the person to whom payment is to be made.

notes receivable and interest revenue1



after this date

promises to pay to the order of

the sum of with interest at the rate

of per annum.



Miami, Fl

Nov. 1, 2007

Ninety days

Porter Company

Hall Company



John Caldwell

CFO, Porter Company

Notes Receivable and Interest Revenue

Porter Company is replacing an existing Accounts Receivable with this Note Receivable with Hall Company.

notes receivable and interest revenue2
Notes Receivable and Interest Revenue

On November 1, 2007, Hall Companywould make the following entry.

  • Interest is a charge made for the use of money.
  • The borrower incurs interest expense.
  • The lender earns interest revenue.
notes receivable and interest revenue3
Notes Receivable and Interest Revenue

On December 31, Hall Company would make the following entry

Interest = Principal × Interest Rate × Time$10,00012% 60/360 = $200

notes receivable and interest revenue4
Notes Receivable and Interest Revenue

What entry would Hall Companymake on the maturity date?

$10,00012% 90/360 = $300

notes receivable and interest revenue5
Notes Receivable and Interest Revenue

If Porter Company defaulted on the note, Hall Company would make the following entry on the maturity date.

financial analysis and decision making
Financial Analysis and Decision Making

Accounts Receivable Turnover Rate

This ratio provides useful information for evaluating how efficient management has been in granting credit to produce revenue.

Net Sales

Average Accounts Receivable

financial analysis and decision making1
Avg. Number of Days to Collect A/R

This ratio helps judge the liquidity of a company’s accounts receivable.

Financial Analysis and Decision Making

Days in Year

Accounts Receivable Turnover Ratio