ppt06

Overview

This document provides a comprehensive understanding of cash and accounts receivable based on the financial accounting textbook by Christopher D. Burnley. This chapter explores various topics essential for grasping the significance of cash and how businesses manage accounts receivable effectively.

Learning Objectives

The learning objectives outline critical areas of focus:

• Significance of Cash and Accounts Receivable: Understanding their importance to users.

• Cash Valuation Methods: Valuation and reporting of cash and cash equivalents.

• Internal Control Principles: Key internal controls for safeguarding assets, their benefits, and limitations.

• Bank Reconciliations: Preparing bank reconciliations and understanding their importance.

• Selling on Account: Reasons businesses opt for credit sales and associated costs.

• Accounting for Credit Losses: An overview of the allowance method and the direct write-off method.

• Cash-to-Cash Cycle: Techniques to shorten this cycle and enhance liquidity.

• Financial Ratios: Calculating and interpreting liquidity ratios, including the current ratio and accounts receivable turnover.

Cash and Accounts Receivable

• Liquid Assets: Cash and accounts receivable are vital as they are the most liquid assets, necessary for meeting short-term financial obligations.

• Accounts Receivable: Represents amounts due from customers resulting from credit sales, critical for assessing a company's liquidity.

Cash Valuation Methods

• Cash is recorded at its face value, including cash equivalents such as treasury bills and Guaranteed Investment Certificates (GICs) which convert into cash within three months. Cash balances must always be measured in Canadian dollars.

Internal Control Principles

• Safeguarding Assets: Companies implement internal controls to prevent theft and loss, ensuring assets are managed through established policies and procedures.

• Key Elements: A robust internal control system includes physical controls, clear assignment of responsibilities, separation of duties, independent verification, and proper documentation.

• Separation of Duties: Duties within a company should be divided to enhance control and reduce errors. Responsibilities should include transaction authorization, recording, and asset custody.

• Limitations of Internal Control: Factors like cost-benefit analysis, human error, collusion, management override, and changing circumstances limit the effectiveness of internal controls.

Bank Reconciliation

• Importance: Regularly performed reconciliations ensure company records match bank statements, identifying discrepancies caused by timing or errors.

• Common Items: Typical reconciling items include outstanding cheques, deposits, bank fees, and errors in item recording.

Accounts Receivable Management

• Purpose of Selling on Account: To boost sales, remain competitive, and create additional revenue streams through interest income from credit sales.

• Costs Related: These include staffing for credit functions, collection activities, and the risk of credit losses.

• Valuation of Receivables: Accounts receivable is presented at carrying amount, which factors in allowances for expected credit losses to estimate receivables likely uncollectible.

Allowance Method for Credit Losses

• Key Transactions: It includes establishing the allowance for expected credit losses, writing off specific receivables, and recovering previously written-off accounts.

• Estimation of Credit Losses: Receivables are categorized by shared risk characteristics, and historical loss rates are computed and adjusted to reflect current economic conditions when necessary.

Direct Write-off Method

• Recognizes uncollectible accounts in the period identified as uncollectible, often used by smaller companies with less significant receivables.

Improving Cash-to-Cash Cycle

• Techniques to accelerate this cycle include accepting credit cards, offering discounts for early payments, and factoring receivables.

Financial Statement Analysis

• Liquidity: The ability of a business to convert assets into cash. Measures include current ratio, quick ratio, accounts receivable turnover, and average collection period.