Working capital and its compnents

Question 1

Purpose of measuring wc

Answer 1

solvency

Question 2

goal

Answer 2

assess ability to pay debts as they become due, short term financial obligations

Question 3

working capital

Answer 3

current assets-current liabilities

Question 4

current ratio

Answer 4

current assets/current liabilities

Question 5

quick ratio

Answer 5

cas_net receivables+mkt securities / current liab

backed out inventory

Question 6

the bigger spread between current assets adn current liab

Answer 6

less risk

Question 7

current assets

Answer 7

converted to cash, sold or consumed its its a prepaid item during next operating cycle or 1 year whichever is longer

examples: cash, trading sec, afs if liquidation or expected to sell it within the oeprating cycle or year, a/r, trade installment receivable, prepaid expenses,

cash surrender value of life insurance can be current or non current: if the policy owner INTENDS to surrender within the next operating cycle will be current otherwise normal is non current. Any portion of the premium payment that does not add to the cash surrender value is expensed

Question 8

current liab

Answer 8

liquidation is reasonable expected to require the use of current assets or the creation of current liab.

DEF: estimates or accrued amounts and expected amounts: when the amount can be determined approximately, specific person to whom payment is made can be ascertained

Question 9

sources of current liab

Answer 9

operations: regular business operations like accounts payable
financing: bank borrowings to meet cash needs and these have interests

Question 10

current liabilities examples

Answer 10

current portion of long term debt; dividends declared not paid (but is subtracted from RE), accrued expenses: book expenses not paid bill yet due to matching principle

Question 11

short term obligation want to refinance

Answer 11

1) UNDER GAAP:
you can exclude this from current and put it in long term only if the company INTENDS AND HAS ABILITY to refinance (will qualify for loan)

can reclassify only if :

1) you have refinanced it prior to the issuance of fin statement even if its after year end OR
2) you have a noncancelable financing agreement from a lender who has the financial resources to go through with the refinancing

amount and description of the financing agreement should be disclosed in the notes or in the financial statements

dr. st liability
cr. long term liability/ stock Paid in capital if you refinance it by issuing stock instead

IFRS: leave it as a current liability till you actually refinance

Question 12

demand deposits

Answer 12

can add or withdraw money without penalty

Question 13

cash and cash equivalents

Answer 13

1) cash-> coin, checking savings accounts, money market funds, commercial paper, treasury bills, cd’s with original maturity over 90 days
2) demand deposits and deposits that are similar
3) short term highly liquid investments (readily convertible to cash adn near maturity when acquired by the entity (90 days or less from the date of purchase ))–> insignificant risk of change in value

4) deposits held as compensating balances against borrowing arrangements with a lending institution that is NOT legally restricted

Question 14

NOT cash or cash eq.

Answer 14

time certificates of deposit if maturity over 90 days

*legally restricted compensation balances

Question 15

restricted cash

Answer 15

cash set aside for a specific purpose

if restriction si associated with a current asset or current liab- leave it as a current asset

if restriction associated with non current asset/liab-> non current asset

could include contractually restricted cash or compensating balance-> not included in cash or cash eq if legal restrictions

Question 16

unrestricted cash

Answer 16

can be used for all current operations

Question 17

Example on page 6

Answer 17

NOTE DATES
*
unadjusted balance
*important when checks are dated

+ dated before jan 1

• if its was returned bounced back due to nsf remove it

Question 18

bank reconciliations

Answer 18

simple and reconcilation of cash receipts and disburesements

Question 19

simple reconiliation

Answer 19

goal-> calculate the true balance between banks and books

despoits in transit or received after the bank’s cutoff date–> add to bank havent been added to bank yet

o/s check we mailed check but the receiver hasnt deposit it yet so we subtract it from the bank

service charge-> subtract from books

bank collection-> in bank balance not in books so add to book

fix errors

nfs-> subtract from book–> got check from customer and included it in our bank balance on books but not really there so subtract from books

interest income- banks aware bookkeeper isnt so add to books

credit and debit memos adjust balance sheet credit memos-> interest earned

check issued means meant to pay

Question 20

simple bank recon

Answer 20

need to reconcile both amounts to a true balance and this balance needs to be the balance on the b/s

steps:

1) books balances adjusted
2) adjusted book balance = true balance
3) bank balances adjusted

1 and 3 should equal

*problem on 8

Question 21

recon of cash receipts and disbursements

Answer 21

four column reconciliation or proof of cash

need reconciliation information for the present month and that of the prior month

balance -> receipt -> payment -> balance next month

Question 22

A/R

Answer 22

t-account:
a/r oral promise to pay back generally not written down; no interest;
notes receivable written down-> promissory notes interests

come from:
trade receivables (a/r from purchases of the company's goods/services)

non trade receivables
(a/r from people other than customers so like income tax receivable)

Question 23

net a/r or net realizable value

Answer 23

gross a/r-allowance

Question 24

valuation of a/r in case of discounts

Answer 24

discounts is about speed- encourages prompt payment so people will pay in a certain time frame

Question 25

discounts

Answer 25

sales or cash; trade

Question 26

sales or cash

Answer 26

generally based on % of sp sp if 2/10,n/30 then a discount of 2% on the sale price if the payment is made within 10 days. if discount not taken then the entire payment is due within 30 days gross method and net method

Question 27

gross method

Answer 27

totally ignore 2% discount because i dont think they are going to take it so book the entire receivable adjust if they pay us within time frame-> book contra revenue and debit it

Question 28

net method

Answer 28

fairly confident that they are going to take the discount so you record receivable now net of discount now if they dont take the discount adjust so book sales discount not taken account so (additional revenue and it is a revenue account that is credited.)

Question 29

gross method and net method je page 11

Answer 29

* gross if discount taken: dr. cash dr. sales discount taken cr. a/r net if not received within the discount period: dr. cash cr. a/r cr. sales discount not taken

Question 30

trade discounts

Answer 30

quantity discounts are quoted in % sales rev and a/r and recorded NET of trade discounts trade discounts are applied sequentially ** example Total ar= list price- % disc 1 because they are a buying a certain number= subtotal 1 - %disc 2 = subtotal 2 or total

Question 31

Sales returns and allowances

Answer 31

1) *EXPECTED EXCHANGES: do not affect sales, inv, cogs if it actually occurs (wait for it to occur) and then are deducted from a/r and sales EXCHANGE: shirt for shirt wrong size, difficult to estimate Even return same story unless past history + reasonably estimate and material RETURN: Here expected is okay: 2) if returns are normal and " material and can be reasonable estimated" establish an allowance dr. sales returns and allowance (contra rev) cr. a/r

Question 32

uncollectible

Answer 32

contra asset; allowance; want to reduce the account to net realizable assets direct write off method -> not for gaap usually for tax purposes allowance method -> gaap

Question 33

direct write off

Answer 33

account is written off and bad debt is recognized when it actually becomes uncollectible a/r in this case is always overstated because we assume that we are actually going to collect everything unless we actually dont collect it dr. bad debt expense cr. allowance NOT ALLOWED: because non accrual; not matching

Question 34

allowance

Answer 34

our favorite based on past experience: % sale (direct- i/s) % a/r (indirect- b/s) aging (indirect - b/s ) b/s gives you ending balance of allowance goal: matching principle book it when you record rev

Question 35

aging method

Answer 35

emphasizes asset valuation older receivable less likely to collect it

Question 36

Bad Debt exp

Answer 36

includes: provision made during the period; possibly adjustment at year end to increase or decrease the allowance account

Question 37

write off under allowance

Answer 37

write off is when a receivable is formally determined to be uncollectible direct write off is not allowed under gaap b/s only affected in form and not in value

Question 38

Subsequent reversal of write off

Answer 38

direct write off: dr. cash cr. uncollectible account recovered (revenue account) allowance: dr. cash cr. a/r no change in current assets in total just in form reverse write off dr. a/r cr. allowance

Question 39

problem on f4-15

Answer 39

if you need a lower desired balance you have to adjust bad debt exp

Question 40

pledging - pnly FN

Answer 40

i am in desperate need for cash and the lender is going to need some collateral so the company retains title to the receivable but pledges that it will use the proceeds to pay the loan * only needs note disclosure a/r is not adjusted dr. cash cr. note payable could be long term or short term and can be interest bearing

Question 41

factoring of a/r

Answer 41

process by which a company can convert its receivables into cash by assigning them to a factor 1) without recourse-> true sale. once you sell it to the factor it is upto them to collect thet cant bother you; the factor assumes the risk ``` JE: Dr. cash Dr. loss on sale of receivable Dr. due from factor (factor's margin) Cr. A/R ``` Due from factor is the proceeds retained by the factor my total a/r is 100,000 I will get 94,000 in cash; 1,000 is held by the factor as security (thats receivable and we may receive it or not) 2) with recourse- could either be a sale or a loan recourse: sale (Same journal entry) or loan (if you pledge it as collateral just footnote and same journal entry as pledging) With recourse if the factor has the option to resell any uncollectible receivables back to the seller

Question 42

when is with recourse a sale - JE

Answer 42

all met: 1) seller's obligation for uncollectible accounts can be reasonably estimated -> post some security, and come up with a number for due from 2) transferor surrenders control of future economic benefits 3) transferor cannot be required to repurchase receivables BUT may be required to replace receivables with some other similar receivables big one is the first one if any of these not met then LOAN-> Footnote

Question 43

Summary

Answer 43

Pledging-> loan just FN without recourse -> true sale with recourse -> just FN if loan or true sale

Question 44

Transfer and servicing of financial assets

Answer 44

question: should the transaction be considered a sale or a secured borrowing objective: recognize only the assets it has control over and the related liabilities it has incurred in the process derecognize only when the control has been surrendered and the liab have been extinguished

Question 45

Financial components approach

Answer 45

UNDER GAAP: financial assets and liab can be divided into many components based on control

Question 46

Surrender of control

Answer 46

when ALL conditions have been met: 1) transferred assets have been isolated from the transferor 2) transferee has the right to pledge or exchange the assets 3) transferor does not maintain control over the assets under repurchase agreement

Question 47

scenarios

Answer 47

1) control surrendered with no continuing involvement-> sale, with reduction in receivables and gain or loss 2) control is surrendered -> continuing involvement components with interest are treated as not sold adn are still carried on the books components with no interest are treated as sold and gain or loss recognized on those items 3) No control is surrendered -> pledging. Accounting for the collateral depends on whether the debtor has defaulted and the secured party has the ability to sell or repledge the collateral

Question 48

Notes receivable

Answer 48

PV of future cash flow Written promise to pay debt; interest bearing current or not based on the collection that will occur

Question 49

Valuation and presentation

Answer 49

unearned interest and finance charges are deducted from the face amount of the promissory note = pv if the promissory note is non interest bearing or the interest rate is below market the value or PV is determined by using the market interest rate interest bearing promissory notes are assumed to be issued at arms length transaction are assumed to be issued at the market rate of interest

Question 50

discounting notes receivable

Answer 50

need cash now, im going to sell it-> always at a loss discount = cash received - value of the note at maturity

Question 51

notes receivable

Answer 51

can be with or without recourse with recourse: dr. cash cr. note receivable discounted (contra receivable) or cr. note receivable and disclose a contingent liability in the note with recourse: buyer can come after you without recourse -> no further liability, its as if they were sold just remove it from the b/s

Question 52

with recourse

Answer 52

the holder is contingently liable, can come after you, second liable

Question 53

without recourse

Answer 53

no further liability dr. cash dr. loss dr. due cr. note receivable

Question 54

discount note at bank

Answer 54

example on 19** 1) calculate what you would have received = fv of note + interest 2) calculate discount discount rate * days to maturity * amount in 1 = pv of that 3) remove that discount from 1 and that is the amount that the bank will pay you 4) difference between the face value of the receivable and the amount that the bank will pay you that the interest income that you will receive interest = face value * rate * total period/360 days diff interest rate

Question 55

current/non current

Answer 55

due AFTER a year | due within a year

Question 56

cash

Answer 56

imp ORIGINAL maturity has to be 90 DAYS or less

Question 57

cash on b/s

Answer 57

not bank statement balance checkbook balance + check to be paid but not mailed so add back to balance sheet to reconcile with bank balance

Question 58

overdraft/ negative bank balance

Answer 58

positive and negative bank balance can be offset against each other

Question 59

adjustment to allowance for uncollectibles at year end

Answer 59

bad debt expense

Question 60

discounting

Answer 60

is for notes receivbale not a/r a/r is factoring

Question 61

current liab

Answer 61

1) dont include deferred tax liab because all deferred tax liab are classified as non current (always? DBT) 2) Discount on bonds payable decrease that from the face value of the bond because a discount always reduces the carrying value of the bond

Question 62

short term debt refinanced with long term debt

Answer 62

if no more information given assume that the refinancing has gone through

Question 63

footnote disclosure of refinancing loan

Answer 63

required!!

Question 64

cash

Answer 64

original maturity 3 months or less petty cash checking account NOT bond sinking account - specific purpose so restricted date of check imp- if post dated a month after b/s date not this time's cash balance

Question 65

DBT: Overdraft in savings account

Answer 65

reported as current liab; not offset against positive balance? if two diff accounts checking and savings

Question 66

exchange of equipment for non interest bearing receviable is like exchanging for cash

Answer 66

monetary transaction recorded at fv of asset (equipment or note whatever is more easily available) pv of face value then int on that fv = carrying amount then int on hat carrying amount for yr 2

Question 67

nsf check

Answer 67

not included in yr end bal

Question 68

if any amount is paid prior to refinancing

Answer 68

that is still included in current assets example where prepaid part of the loan before refinancing went through

Question 69

A/P

Answer 69

Balance + checks written but not mailed reduce a/p when checks are mailed beause till then the creditors will not cash the checks and we still owe them money record a/p when purchase not when you record invoice

Question 70

pleding

Answer 70

retains title to receivables; will repay loan using proceeds from receivables factoring is not the only way in which the title can be transferred

Question 71

factoring without recourse

Answer 71

commission can be similar to loss

Question 72

reconciling bank to books etc.

Answer 72

reconcile only the bank items to bank balance to get to adjusted and book items to books balance if only bank balance given and extra book items given dont use the extra book items

Question 73

credit

Answer 73

line of credit only the amount that is drawn is a liability balloon payment- the whole payment is due at maturity

Question 74

tax that is refundable in the future

Answer 74

long term asset get it beyond 5 years and getting some benefit in the future

Question 75

current assets

Answer 75

merchandise inventory and investment in trading securities unearned rent and deposits received from customers are liabilities