Chapter 7 Cash and Receivables Self-Study Questions Brief Exercises (BE): 7-4 to 7-7, 7-10, 7-11, 7-13, 7-14, 7-17 Exercises (E): 7-1, 7-6, 7-11, 7-15, 7-19, Problems (P): 7-3, 7-9, 7-11 BRIEF EXERCISE 7-4 Accounts Receivable 45,000 Sales 45,000 Cash 44,550 Sales Discounts 450 Accounts Receivable 45,000 BRIEF EXERCISE 7-5 Accounts Receivable 44,550 Sales 44,550 ($45,000 X.99) Cash 44,550 Accounts Receivable 44,550 BRIEF EXERCISE 7-6 Bad Debt Expense 27,200 Allowance for Doubtful Accounts 27,200 ($30,000 $2,800) BRIEF EXERCISE 7-7 Bad Debt Expense 33,000 Allowance for Doubtful Accounts 33,000 ($30,000 + $3,000) BRIEF EXERCISE 7-10 (a) Notes Receivable 30,053 Cash 30,053 Notes Receivable 3,005 Interest Revenue 3,005 ($30,053 X 10%) Notes Receivable 3,306
Interest Revenue 3,306 ([$30,053 + $3,005] X 10%) Notes Receivable 3,636 Interest Revenue 3,636 ([$30,053 + $3,005 + $3,306] X 10%) Cash 40,000 Notes Receivable 40,000 Take the present value of the cash flows and divide by the face value of the note ($30,053 / $40,000) gives a factor of.75132. Under the table for the present value of a single payment, for three years, the factor.75132 appears under the column for 10%. Taking a financial calculator. Using a financial calculator: PV $ (30,053) I? Yields 10.0% N 3 PMT 0 FV 40,000 Type 0 Excel formula: =RATE(nper,pmt,pv,fv,type) BRIEF EXERCISE 7-11 (a) Note Receivable 3,861 Accumulated Depreciation ($15,000 $2,500) 12,500 Equipment 15,000 Gain on Sale of Equipment 1,361 Using a financial calculator: PV? Yield $(3,861) I 9% N 3 PMT 0 FV $5,000 Type 0 Excel formula: =PV(rate,nper,pmt,fv,type) * Present value of the note: $5,000 X PVF 3, 9% = $5,000 X 0.77218 = $3,861 Discount on Note Receivable = $5,000 - $3,861 = $1,139 Fair Value of Equipment (present value of note) $3,861 Carrying Amount 2,500 Gain on Sale of Equipment $1,361
(b) Interest for Year 1: Note Receivable 347 Interest Revenue 347 ($3,861 X 9% = $347) Interest for Year 2: Note Receivable 379 Interest Revenue 379 ([$3,861 + $347] X 9% = $379) (b) Continued: Interest for Year 3: Note Receivable 413 Interest Revenue 413 ([$3,861 + $347 + $379] X 9% = $413) (c) Collection of Note at Maturity: Cash 5,000 Note Receivable 5,000 BRIEF EXERCISE 7-13 Landstalker Cash 682,500 Due from Leander 37,500 Loss on Sale of Accounts Receivable 30,000 Accounts Receivable 750,000 Leander Accounts Receivable 750,000 Due to Landstalker 37,500 Financing Revenue 30,000 Cash 682,500 BRIEF EXERCISE 7-14 Cash 682,500 Due from Leander 37,500 Loss on Sale of Accounts Receivable 39,000 Accounts Receivable 750,000 Recourse Liability 9,000 BRIEF EXERCISE 7-17 2007: The accounts receivable turnover ratio is calculated as follows: Net Sales Average Trade Receivables (net) $17,752 = 9.43 times $1,864 + $1,902 2
The average collection period for accounts receivable in days is 365 days = 365 Accounts Receivable Turnover 9.43 = 38.71 days 2008: The accounts receivable turnover ratio is calculated as follows: Net Sales Average Trade Receivables (net) $17,698 = 9.47 times $1,902 + $1,837 2 The average collection period for accounts receivable in days is 365 days = 365 Accounts Receivable Turnover 9.47 = 38.54 days As indicated from these ratios, BCE Inc. s accounts receivable turnover ratio has improved slightly in 2008 over 2007 (38.54 days from 38.71 days in 2007) or 9.47 turnover rate from 9.43 times in 2007. EXERCISE 7-1 (10-15 minutes) Cash includes the following: 1. Commercial savings account First National Bank $ 600,000 1. Commercial chequing account First National Bank 900,000 3. Money market fund Commercial Bank of Montreal 5,000,000 6. Petty cash 3,000 8. Cash floats (8 X $75 + 12 X $100) 1,800 12. Currency and coin on hand 7,700 Cash reported on December 31, 2008, $6,512,500 balance sheet Other items classified as follows: The bank overdraft at the Royal Scotia Bank of $35,000 should be reported as a current liability as there are no other accounts available to offset. The balance (at First National Bank of $100,000) requirement does not affect the balance in cash. A note disclosure indicating the arrangement and the amounts involved should be described in the notes. Travel advances (to be reimbursed by employees) should be reported as prepaid travel in the amount of $18,000. Cash restricted in the amount of $1,500,000 for the retirement of long-term debt should be reported as a noncurrent asset identified as Cash restricted for retirement of long-term debt. An IOU from Marianne Koch should be reported as a receivable from officer in the amount of $1,900. Certificates of deposits of $500,000 each should be classified as temporary investments (probably using the cost/amortized cost model or the fair value through net income model). They cannot be cash equivalents as the terms exceed 90 days. The first postdated cheque of $25,000 should be reported as an accounts receivable. The second postdated cheque of $11,500 is for unearned revenue, or customer deposits and should not be recognized until the cheque is deposited. Commercial paper should be reported as temporary investments (probably using the cost/amortized cost model or the fair value through net income model) or as a cash equivalent. Investments in shares of Sortel should be classified with Trading Securities at the fair value of 4,100.
EXERCISE 7-6 (15-20 minutes) Sales recorded at gross: (a) 1. June 3 Accounts Receivable Chester Arthur 3,000 Sales 3,000 June 5 Sales Returns and Allowances 500 Accounts Receivable Chester Arthur 500 June 7 Transportation-Out 25 Cash 25 June 12 Cash 2,425 Sales Discounts ($2,500 X 3%) 75 Accounts Receivable Chester Arthur ($3,000 $500) 2,500 Sales recorded at net: 2. June 3 Accounts Receivable Chester Arthur 2,910 Sales ($3,000 X 97%) 2,910 June 5 Sales Returns and Allowances 485 Accounts Receivable Chester Arthur ($500 X 97%) 485 June 7 Transportation-Out 25 Cash 25 June 12 Cash 2,425 Accounts Receivable Chester Arthur ($2,910 $485) 2,425 (b) July 29 Cash 2,500 Accounts Receivable Chester Arthur 2,425 Sales Discounts Forfeited 75 (Note to instructor: Sales discounts forfeited could have been recognized at the time the discount period lapsed. The company, however, would probably not record this forfeiture until final cash settlement.) EXERCISE 7-11 (10-15 minutes) The direct write-off approach is not theoretically justifiable. Direct write-off does not match expenses with revenues of the period, nor does it result in receivables being stated at estimated realizable value on the balance sheet. Bad Debt Expense 2% of Sales = $64,000 ($3,200,000 X 2%) Bad Debt Expense Direct Write-Off = $33,330 ($7,700 + $6,800 + $12,000 + $6,830) Net income would be $30,670 ($64,000 $33,330) lower under the allowance method and percentage-of-sales approach. (c) The direct write-off method is not considered appropriate, except when the amount uncollectible is not material.
EXERCISE 7-15 (30-35 minutes) 1. Notes Receivable 700,000 Land 590,000 Gain on Sale of Land 110,000 ($700,000 $590,000) $1,101,460 Face value of note.63552 Present value of 1 for 4 periods at 12% 700,000 Present value of note 1,101,460 Face value of note $ 401,460 Discount on note receivable Using a financial calculator: PV? yields $(699,998) I 12% N 4 PMT - FV $ 1,101,460 Type 0 Excel formula: =PV(rate,nper,pmt,fv,type) 2. Notes Receivable 221,164 Service Revenue 221,164 Calculation of the present value of the note: Maturity value 400,000 Present value of $400,000 due in 8 years at 12% $400,000 X.40388 $161,552 Present value of $12,000 payable annually for 8 years at 12% annually $12,000 X 4.96764 59,612 Present value of the note and and interest 221,164 Discount $178,836 Using a financial calculator:
PV? Yields $ (221,165) I 12% N 8 PMT $ 12,000 FV $ 400,000 Type 0 Excel formula: =PV(rate,nper,pmt,fv,type) 3. Using a financial calculator: PV? Yield $(63,397) I 10% N 4 PMT $20,000 FV - Type 0 Excel formula: =PV(rate,nper,pmt,fv,type) (b) Notes Receivable 63,397 Accounts Receivable 63,397 Effective Interest Table Instalment Note Receivable Debit Cash Credit Interest Revenue Debit Notes Credit Notes Receivable Receivable $20,000 $6,340 49,737 20,000 4,974 34,711 20,000 3,471 18,182 20,000 1,818 Carrying Amount of Note $63,397 From the perspective of Agincourt, an instalment note reduces the risk of non-collection when compared to a non-interest-bearing note. In the case of the non-interest-bearing note, the principal amount is due at the maturity of the note. The instalment note provides a regular reduction of the principal balance in every payment received annually. This is demonstrated in the effective interest table illustrated above for the instalment note. EXERCISE 7-19 (15-20 minutes) (a) To be recorded as a sale, all of the following conditions would be met: 1. The transferred asset has been isolated from the transferor (put beyond reach of the transferor and its creditors even in bankruptcy or receivership). 2. The transferees have obtained the right to pledge or to exchange either the transferred assets or beneficial interests in the transferred assets.
3. The transferor does not maintain effective control over the transferred assets through an agreement to repurchase or redeem them before their maturity. (b) Calculation of net proceeds: Cash received ($600,000 X 92.25%) $553,500 Due from factor ($600,000 X 5.25%) 31,500 $585,000 Less: Recourse obligation 6,000 Net proceeds $579,000 Calculation of gain or loss: Carrying amount $600,000 Net proceeds 579,000 Loss on sale of receivables $ 21,000 Note: Loss on sale of receivables can also be calculated as the financing charge assessed plus the fair value of the recourse obligation (in this case, [$600,000 X 2.5%] + $6,000 = $21,000). The following journal entry would be made: Cash 553,500 Due from Factor 31,500 Loss on Sale of Receivables 21,000 Recourse Liability 6,000 Accounts Receivable 600,000 (c) Factoring the accounts receivable will improve the account receivable turnover ratio, if it were calculated on August 15, 2010, immediately after recording the entry in (b) above. The balance of accounts receivable, used in the denominator will have reduced by $600,000, thereby making the ratio higher. If, on the other hand, the calculation is made well after the factoring transaction, for example, at the fiscal year end, the balances of sales and average accounts receivable would be unaffected by this transaction and therefore the receivable turnover ratio would not be affected.
PROBLEM 7-3 The Allowance for Doubtful Accounts should have a balance of $54,860 at year-end. The supporting calculations are shown below: Expected Percentage Uncollectible Days Account Outstanding Amount 0-15 days $270,000.03 $8,100 16-30 days 117,000.08 9,360 31-45 days 80,000.20 16,000 46-60 days 38,000.30 11,400 61-75 days 20,000.50 10,000 Estimated Uncollectible Balance for Allowance for Doubtful Accounts $54,860 The accounts which have been outstanding over 75 days ($25,000) and have zero probability of collection would be written off immediately and not be considered when determining the proper amount for the Allowance for Doubtful Accounts. (b) Accounts Receivable ($550,000 - $25,000) $525,000 Less allowance for doubtful accounts 54,860 Accounts receivable (net) $470,140 (c) The year-end bad debt adjustment would decrease before-tax income $44,985 as calculated below: Estimated amount required in the Allowance for Doubtful Accounts $54,860 Balance in the account after write-off of bad accounts but before adjustment ($33,000 + $33,375 - $35,500 + $4,000 $25,000) 9,875 Required charge to expense $44,985 PROBLEM 7-9 (a) 1. Cash inflows from notes: 2010 2011 2012 2013 2014 9% Note receivable Principal $600,000 $600,000 $600,000 Interest* 162,000 108,000 54,000 8% Note receivable Principal 400,000 Interest 32,000 32,000 32,000 Non-interest-bearing note receivable Payment $200,000 Instalment contract receivable Downpayment 60,000 Payments 45,125 45,125 45,125 45,125 $854,000 $785,125 $1,331,125 $45,125 $45,125 * 9% Note receivable interest payment calculations: 2010: $1,800,000 X 9% = $162,000 2011: ($1,800,000 - $600,000) X 9% = $108,000 2012: ($1,800,000 - $600,000 - $600,000) X 9% = $54,000
PROBLEM 7-9 (Continued) 2. Interest revenue reported in 2010: Note Receivable Sale of Division Interest earned 1/1 to 5/1/2010 ($1,800,000 X 9% X 4/12) $ 54,000 Interest earned 5/1 to 12/31/2010 ($1,200,000 X 9% X 8/12) 72,000 $ 126,000 Note Receivable Officer Interest earned 1/1 to 12/31/2010 ($400,000 X 8%) 32,000 Zero-interest-bearing Note Patent Face amount 4/1/10 $200,000 Less imputed interest [$200,000 ($200,000 X 0.79719)] 40,562 Balance, 4/1/2010 159,438 Interest earned to 12/31/2010 ($159,438 X 12% X 9/12) 14,349 Instalment Contract Sale of Land Interest accrued from 7/1 to 12/31/2010 ($140,000 X 11% X 1/2) 7,700 Total interest revenue reported in 2010 $180,049 3. Notes and interest reported as current assets: Current portion of note receivable Sale of Division $600,000 (1) Accrued interest on note Sale of Division, from 5/1 to 12/31/2010 ($1,200,000 X 9% X 8/12) 72,000 672,000 Current portion of instalment contract 29,725 (3) Accrued interest Instalment contract 7,700 37,425 Total current notes and interest $709,425 4. Notes and interest reported as long-term investments: Note receivable Sale of Division $600,000 (1) Note receivable Officer 400,000 Zero-interest-bearing Note Patent 173,787 (2) Instalment Contract Sale of Land 110,275 (3) Total current notes and interest $1,284,062 (b) Desrosiers Ltd. Long-Term Receivables Section of Balance Sheet December 31, 2010 9% note receivable from sale of division, due in annual instalments of $600,000 to May 1, 2012, less current instalment $600,000 (1) 8% note receivable from officer, due Dec. 31, 2012, collateralized by 10,000 shares of Desrosiers Ltd., common shares with a fair value of $450,000 400,000 Zero-interest-bearing note from sale of patent, net of 12% imputed
interest, due April 1, 2012 173,787 (2) Instalment contract receivable, due in annual instalments of $45,125 to July 1, 2014, less current instalment 110,275 (3) Total long-term receivables $1,284,062 (c) Desrosiers Ltd. Selected Balance Sheet Balances December 31, 2010 Current portion of long-term receivables: Note receivable from sale of division $600,000 (1) Instalment contract receivable 29,725 (3) Total current portion of long-term receivables $629,725 Accrued interest receivable: Note receivable from sale of division $72,000 (4) Instalment contract receivable 7,700 Total accrued interest receivable $79,700 (d) Desrosiers Ltd. Interest Revenue from Long-Term Receivables For the Year Ended December 31, 2010 Interest revenue: Note receivable from sale of division $126,000 Note receivable from sale of patent 14,349 (2) Note receivable from officer 32,000 Instalment contract receivable from sale of land 7,700 Total interest revenue for year ended 12/31/10 $180,049 Explanation of Amounts 1. Long-term Portion of 9% Note Receivable at 12/31/2010 Face amount, 5/1/2009 $1,800,000 Less instalment received 5/1/2010 600,000 Balance, 12/31/2010 1,200,000 Less instalment due 5/1/2011 600,000 Long-term portion, 12/31/2010 $ 600,000 2. Zero-interest-bearing Note, Net of Imputed Interest at 12/31/2010 Face amount 4/1/2010 $ 200,000 Less imputed interest [$200,000 ($200,000 X 0.79719)] 40,562 Balance, 4/1/2010 159,438 Add interest earned to 12/31/2010 ($159,438 X 12% X 9/12) 14,349 Balance, 12/31/2010 $ 173,787 3. Long-term Portion of Instalment Contract Receivable at 12/31/10 Contract selling price, 7/1/2010 $ 200,000 Less down payment, 7/1/2010 60,000 Balance, 12/31/10 140,000
Less instalment due, 7/1/2011 [$45,125 ($140,000 X 11%)] 29,725 Long-term portion, 12/31/2010 $ 110,275 4. Accrued Interest Note Receivable, Sale of Division at 12/31/2010 Interest accrued from 5/1 to 12/31/2010 ($1,200,000 X 9% X 8/12) $ 72,000 PROBLEM 7-11 Ibran Corp. INCOME STATEMENT EFFECT For the year ended December 31, 2010 Expenses resulting from accounts receivable assigned (Schedule 1) $28,920 Loss resulting from accounts receivable sold ($300,000 $275,000) 25,000 Total expenses $53,920 Schedule 1 Calculation of Expense for Accounts Receivable Assigned Assignment expense: Accounts receivable assigned $600,000 X 90% Advance by Provincial Finance Company 540,000 X 3% $16,200 Interest expense 12,720 Total expenses $28,920 Note: In transaction No. 3 there is no income effect as there is no interest expense incurred since the advance was received on December 31, 2010.