Investments and Receivables
LU 2Investments and Receivables
Key Concepts to be discussed What are the types of investments that companies make?How does a company account for accounts receivable, including estimating bad debt allowances?How can sales and receivables be used to evaluate the efficiency of collection? How does a company account for interest-bearing notes receivable?How can a company accelerate the inflow of cash?
Accounting for InvestmentsInvestments are made for a variety of reasons: excess cash available, gaining control over another company, and investing for future cash needs.Equity securities are investments in the common or preferred stock of another company. Equity securities do not have a maturity date.Debt securities are investments in the bonds issued by corporations and governmental agencies. Bond investments do have a maturity date.
Investments in Highly Liquid Financial InstrumentsInvesting Idle CashExcess cash is invested during slower months, used to build up inventory during busier months.CDCertificate of Depositclassified as cash equivalent if its original maturity to the investor is three months or less classified as short-term investment when purchased if it extends longer than three monthsinterest is calculated for the time invested, usually a fraction of a year I = P R Tadjusting entry for interest may be needed if year-end comes between purchase and maturity
Aero Motor Kalanki Consolidated Balance Sheets (Partial)ASSETS (in 000) Dec 25, 2009 Dec 27, 2008 Current assets:Cash and cash equivalents Rs. 2,969 Rs. 3,396Short-term investments 2,495 1,170Accounts receivable, less allowances of Rs. 47 and Rs. 49 774 766Inventories 101 56Deferred tax assets 231 190Other current assets 485 309Total current assets Rs. 7,055 Rs. 5,887Investment in a CD Purchase of investment: Short-Term InvestmentsCD 100,000Cash 100,000On October 2, Aero invests Rs. 100,000 in a 120-day CD. Principal plus interest @ 6% due upon investment maturity. LO1Year-end adjusting entry:Interest Receivable 1,500 Interest Revenue 1,500Investment in a CDInterest (I) = Principal (P) Rate (R) Time (T)Rs.1,500 Rs.100,000 6% 90/360October 29 daysNovember 30 daysDecember 31 days90 daysUpon investment maturity: Cash 102,000Short-Term InvestmentsCD 100,000Interest Receivable 1,500Interest Revenue* 500 Investment in a CD*Interest earned in January:$100,000 6% 30/360 = $500Reasons Companies Invest in Other CompaniesShort-term cash excessesLong-term investing for future cash needsExert influence over investeeObtain control of investee
Accounting for Bad Debts:Direct Write-off MethodJournal entry to record write-off in period determinedto be uncollectible:Bad Debts Expense XXXAccounts Receivable XXXPeriod of sale
Future period chargedwith expense of bad debtwrite-offAccounting for Bad Debts: Allowance MethodPeriod of sale
Estimated bad debt expense (and allowance account) recorded in the same period Accounting for Bad Debts:Allowance MethodJournal entry to record estimated bad debtexpense in period of sale:Bad Debts Expense XXXAllowance for Doubtful Accounts XXXPartial Balance Sheet
Accounts receivable Rs. 250,000Less: Allowance for doubtful accounts 6,000Net accounts receivable Rs. 244,000Balance Sheet Presentation Allowance Method 6Accounting for Bad Debts:Allowance MethodJournal entry to record bad debt write-off inperiod determined uncollectible:Allowance for Doubtful Accounts XXXAccounts Receivable XXX
Approaches to Allowance Method% of Net Credit Sales % of Accounts Receivable Aging MethodIncome Statement ApproachBalance Sheet ApproachExample:Percentage of Net Credit Sales MethodAssume prior years net credit sales and bad debtexpense is as follows:Year Net Credit Sales Bad Debts2002 Rs.1,250,000 Rs. 26,4002003 1,340,000 29,3502004 1,200,000 23,1002005 1,650,000 32,1502006 2,120,000 42,700 Rs.7,560,000Rs. 153,7003Example:Percentage of Net Credit Sales MethodDevelop bad debt percentage:
153,7007,560,000use 2%= 0.020333Percentage of Net Credit Sales Method2007 Net credit sales Rs.2,340,000 (given)Bad debt percentage 2% Bad debts expense Rs. 46,800Example:Journal entry:Bad Debts Expense 46,800 Allowance for Doubtful Accounts 46,800
4Aging Method Estimated Percent Estimated AmountCategory Amount Uncollectible Uncollectible Current Rs. 85,600 1% Rs. 856Past due: 130 days 31,200 4% 1,248 3160 days 24,500 10% 2,450 6190 days 18,000 30% 5,400 90+ days 9,200 50% 4,600 Totals Rs.168,500 Rs.14,554Aging MethodAssume the Allowance for Doubtful Accounts has a beginning credit balance of Rs.1,230:
Credit balance required in allowance account after adjustment Rs.14,554 Less: Credit balance in allowance account before adjustment 1,230Amount for bad debt expense entry Rs. 13,324
Aging MethodAssume the Allowance for Doubtful Accounts has a beginning credit balance of Rs.1,230:
Journal entry:Bad Debts Expense 13,324Allowance for Doubtful Accounts 13,324To record estimated bad debts.Aging MethodThe net realizable value of accounts receivable would be determined as follows:
Accounts receivable Rs.168,500Less: Allowance for doubtful accounts 14,554Net realizable value Rs.153,946Accounts Receivable TurnoverNet Credit SalesAverage Accounts Receivable
Indicates how quickly a company is collecting (i.e., turning over) its receivablesAccounts Receivable TurnoverToo fast
credit policies too stringent; may be losing salesToo slow
credit department not operating effectively; dissatisfied customersBaker Corporation promises to pay HighTec, Inc. Rs.15,000 plus 12% annual interest on March 13, 2008.
Date: December 13, 2007
Interest-Bearing Promissory NoteLO414Interest-Bearing Promissory Note Journal entry to record the receipt of the noteon December 13:Notes Receivable15,000Sales Revenue15,000Interest-Bearing Promissory NoteAdjusting entry to record interest:Interest Receivable90Interest Revenue 90*
*Interest = $15,000 12% 18/360
Interest-BearingPromissory NoteJournal entry to record the collection of the note on March 13, 2008:Cash 15,450Notes Receivable 15,000Interest Revenue 360* Interest Receivable 90*15,000 12% 72/360
Security Investment CategoriesHeld-to-maturity securitiesTrading securitiesAvailable-for-sale securitiesUse fair value method to acount for these investmentsHeld-to-Maturity SecuritiesBonds of other companiesIntent and ability to hold until maturity Rs.100,000, 9% bonddue 2019Held-to-Maturity SecuritiesOn 1/1/07, Aero Auto buys:Rs.100,000, 10% bonds @ face value Bonds mature in ten years Interest payable semiannually
Example: Record the purchase of the bonds and receipt of the first interest paymentRecording Bond PurchaseInvestment in Bonds 100,000Cash100,000To record purchase of ABC bonds. Rs.100,000, 10% bonddue 2017Recording Receipt of Interest Payment Cash (Rs. 100,000 10% 1/2) 5,000 Interest Income 5,000 To record interest income on ABC bonds.
Recording Bond Sale Cash 99,000Loss on Sale of Bonds 1,000 Investment in Bonds 100,000To record sale of ABC bonds.
Trading SecuritiesPurchased to generate profit from short-term appreciationIntend to sell in near term (classified as current assets)Trading SecuritiesIncomeStatementUnrealized gain or loss recognized on income statementAt end of each period, security is marked to marketTrading SecuritiesAero Auto Company. holds the following trading securities at 12/31/07: Total Fair Value onSecurity Total Cost December 31, 2007Menlo preferred stock Rs.25,000Rs. 27,500Canby common stock 40,000 39,000 Example: Record the unrealized gain or loss at 12/31/07Recording Unrealized Gain/ Loss on Trading SecuritiesInvestment in Menlo Preferred Stock 2,500Investment in Canby Common Stock 1,000Unrealized GainTrading Securities* 1,500To adjust trading securities to fair value.*income statement accountAvailable-for-Sale SecuritiesBalanceSheetUnrealized gain or loss accumulated in stockholders equity account
Securities not classified as either held-to-maturity or trading
Available-for-Sale SecuritiesSalt Trading Corp. holds the following available-for-salesecurities at 12/31/07: Total Fair Value onSecurity Total Cost December 31, 2007 Bishal Bazar preferred stock Rs.15,000Rs.16,000Bottlers Nepal common stock 35,000 32,500 Example: Record the unrealized gain or loss at 12/31/07Recording Unrealized Gain/ Loss on Available-for-Sale SecuritiesUnrealized Gain/LossAvailable-for-Sale Securities* 1,500Investment in Adair Preferred Stock 1,000Investment in Casey Common Stock 2,500To adjust available-for-sale securities to fair value.*part of Stockholders EquityAccounting for Investments without Significant InfluenceReportReportRecognizeon BalanceChanges inCategories as IncomeSheet atFair Value onHeld-to-maturityInterestCostN/ATradingInterest, dividendsFair valueIncome statementAvailable-for-SaleInterest, dividendsFair valueBalance sheet
