lecture recording on 23 June 2025 at 18.30.11 PM

Factoring Receivables

Companies factor receivables to accelerate their operating cycle and obtain cash.
This involves selling receivables to a financing company (factor).
Factoring can be done with or without recourse.

Recourse Factoring

Definition: If factoring is done with recourse, the company selling the receivables is responsible for paying the factor any amounts not collected from the customer (debtor).
Example: Otani sells 444,000 of receivables with recourse. They estimate 2,000 will not be collected.
Responsibility: Otani remains responsible for paying back any uncollected amounts to the factor, All These Finance.
Worst Case Scenario: If no customer pays, Otani would have to pay All These Finance the entire 444,000.

Journal Entry (Seller - Otani)

Debit Cash: 444,000 minus 1.8% of 444,000 minus 5% of 444,000 = 413,008
Debit Receivable from Factor: 5% of 444,000 (retained amount)
Loss on Sale: 1.8% of 444,000 + 2,000 (fair value of recourse liability) = 9,992
Credit Accounts Receivable: 444,000
Credit Recourse Liability: 2,000

Explanation of Amounts

Cash Received: 444,000 less 5% retained and 1.8% finance charge. Otani receives 93.2% of the 444,000, which is 413,008.
Receivable from Factor: 5% retained for potential discounts, allowances, returns.
Loss on Sale: Includes the finance charge (1.8% of 444,000) and the fair value of the recourse liability (2,000).

Journal Entry (Factor - All These Finance)

Note: Journal entry is the same whether factoring is with or without recourse.
Debit Accounts Receivable: 444,000
Credit Due to Customer: 5% of 444,000
Credit Interest Revenue: 1.8% of 444,000
Credit Cash: 413,008 (matches cash debited on Otani's books)

Factors Retained Amount

The factor retains 5% for returns, allowances, and discounts.
This retained amount is not directly related to the recourse obligation (which pertains to uncollectible amounts).
The retained amount is an obligation of the buyer of the receivables and reduces the retained percentage for returns, allowances, and discounts.

Notes Receivable

Scenario: DOVAC lends money to a company, receiving a note receivable in return.
Maturity Value: DOVAC will receive 18,000 in two years.
Loan Amount: DOVAC lends 15,432 (present value of 18,000).
Effective Interest Rate: 8%

Discount

The difference between the loan amount and maturity value is the discount: 18,000 - 15,432 = 2,568
This discount must be amortized to interest revenue over the life of the note.

Amortization

Interest Revenue (Year 1): 15,432 * 8% = 1,234.56
Process: Effective interest amortization starting with the carrying value multiplied by the effective interest rate until the maturity date.

Zero Interest Bearing Note

Explanation: No cash is received on 12/31/2025 because it's a zero-interest-bearing note.
The difference between the amount lent (15,432) and the amount received at maturity (18,000) represents interest.
There are two types of interest: effective interest and stated interest.
Zero-interest-bearing notes are always issued at a discount.
To calculate interest (expense or revenue), take the carrying value multiplied by the effective interest rate.

Dollar-Value LIFO

First Step: Divide the ending inventory by the price index for each year to get the ending inventory at base-year prices.
Layer Increase: When there is an increase from one year to the next, add an additional "layer" of inventory.
Layer Decrease: If inventory decreases, reduce the most recent layer.
Final Calculation: Multiply each layer by the price index in the year the layer was added to get the ending inventory at LIFO cost.

Example

In 2022, ending inventory at base-year price is, say, 78,400. In 2023, it's 112,400. The increase is 34,000.
In 2024, it decreases to 96,500, a decrease of 15,900. This reduces the 2023 layer from 34,000 to 18,100.

Process Summary

Divide ending inventory by the price index.
Track inventory layers added each year.
If inventory decreases, reduce the most recent layer.
Multiply each layer by the price index in the year it was added.

Perpetual vs. Periodic Inventory

Perpetual Inventory: The inventory account is updated continuously for purchases, discounts, allowances, and returns.
Periodic Inventory: Separate accounts are used for purchases, returns, and discounts.

Purchase Transaction

Trade Discount: Both gross and net methods record the initial purchase net of trade discounts.
Cash/Sales Discounts: Gross and net methods differ in their treatment of cash or sales discounts.

Net Method

The initial purchase is recorded net of the potential discount.
If the discount is not taken, a purchase discount lost account is used.

Example

Initial purchase: 11,600 less 10% trade discount = 10,440
Net method: 10,440 less 3% discount = 10,126.80

Percentage of Receivables Method

This method estimates bad debt expense based on a percentage of the outstanding accounts receivable balance.
The percentage is multiplied by the current year-end receivable balance to determine the desired ending balance in the allowance for doubtful accounts.
This helps to adjust the allowance account to match the desired ending balance considering historical uncollectible amounts.
Transactions during the year affect the allowance account, increasing or decreasing its balance.

Calculation

If the current year-end balance is 504,000 and the historical uncollectible percentage is 5%, the desired ending balance in the allowance account is 25,200.
The journal entry adjusts the allowance account to reach this balance.
*

Allowance for Doubtful Accounts

The process involves adjusting the allowance account to reflect the current year-end balance, ensuring it aligns with the estimated uncollectible accounts.

Perpetual Moving Average

Perpetual Moving Average: Update the weighted average cost of inventory after each purchase.
You need to be ready to roll with the weighted average cost at the time of the next sale when it takes place.
This cost is then used to calculate the cost of goods sold for each sale.
To determine the ending inventory, multiply the remaining balance of products to the last weighted average cost. This would come out to 4,500 times the last weighted average that will provide the total of the ending inventory for January 31.

Nonmonetary Exchanges

Focus is on Simpson's perspective, giving up asset B and receiving asset A.

Commercial Substance:

If there is commercial substance, Simpson can recognize the entire gain from the exchange.
Gain is determined by calculating the difference between the book value and the fair value of the assets.
Gain = Fair value of asset A - Book value of asset B
If there has cash received only partial gain is recognized, and if there no cash involved and lacks commercial substance no gain can be recognized.
Book Value of Asset B- 147,400 - 62,080 = 16,080 is lower that the fair value of 105,000 so that gain will be reported because there is commercial substance.
To determine partial of the gain is based determining how much cash was received compared to the fair value of the assets. Cash / (Cash + Asset fair value)

Commercial Substance Rule:

If cash accounts or equals to 25% or more of the fair value of total assets
Cost of Retail:
Conventional retail inventory- markdowns are not including the numbers that are used to determine the cost of retail ratio to provide more conservative ending cost values.

Markup Cancellations:

Should be accounted for and subtracted from the calculations
Returns must included to correctly show total sold products.
Freight:
Shipping costs are included in the cost side of the equation to accurately value items being sold without interfering retail price.
Formula to use: Cost / Retail
By not including markdowns the total assets is overall lowered.

Effective Interest

Zero interest bearing loan- there will be no cash received, instead the maturity date is what will be received
Formula to use: maturity value * stated interest rate= cash amount received
So you are trying to see what are the potential dollars or calculations that should be attributed cash in interest. The interest revenue will then be the current carrying value * effective rate.

Objectives of Financial Reporting

The objective is to offer information to investors and creditors.
The main focus for financial is investors and creditors, however stakeholders like analysts have a use for information to properly gauge appropriate numbers.

Multiple Step Income statement:

Compared to a step income statement the multistep separate the temporary items affecting income from operations.
**Income Statement is not complete and doesn’t properly report EPS numbers.

EPS formula: (Net income – Dividends / Weightes shares standing) = EPS value

Preferred dividends can affect the EPS value.
With the discontinuation of the EPS the dividends do not get subtracted.

Current Assets

Are items to be ordered out on the assets side of the balance sheet in order of liquidity. The order: cash, short term investments, accounts receivable, inventory, Prepaids.

Prepaid and supplies are examples of current assets that can commonly be missed.
Accounting Cycle-

Constant journal entries are to take place during transactions.
Debits and credit are tracked the trial balance that verifies the quality of the debts and the credit the financial statements are then made.
There’s 2 trial balances an adjusted and unadjusted that are used during the preparation for financial statements.

Adjusted vs Unadjusted:

At the year end the unadjusted balances are then making adjustments to both deferrals and accruals.
Adjusting entries must always take place for each of the deferrals and accruals to make sure appropriately accounted.
Deferral Example:
Cash change of before the recognition of revenue or expense the common examples are prepaid and unearned revenue. Cash will only be exchanged after the recognition expense and or revenue.
The initial steps determine if a company uses or doesn’t use reversing entries to appropriately determine the adjusting process.

Reverse Entries:

Some cases debit expense accounts or credit revenue from debiting a prepaid or crediting unearned revenue. In cases where cash has been received in advanced a credit to revenue from the start needs to be appropriately account for.
With reverse entities there is an adjustment of what has expired / been consumed compared to what remains.
Zero-Based Budgeting
Example for a two-year fire insurance purchase for 7,200:
Debit- prepaid insurance
Credit- cash
This does not required reversing entry since is debit an assets account, the determination is what amount has expired / remains.
7,200/ 24 months the amount expensed after 5 month