Intermediate Accounting Volume One Study Notes

CASH AND CASH EQUIVALENTS

• Definition of Cash: Contemplated in accounting as money (currency and coins in circulation) and any other negotiable instrument that is payable in money and acceptable by the bank for deposit and immediate credit. This includes ordinary checks, bank drafts, cashier's checks, and money orders. Postdated checks received are excluded.

• Unrestricted Cash: Only cash readily available for the payment of current obligations and not subject to contractual or other restrictions may be reported as a current asset. Restricted funds, like bond sinking funds, are classified as noncurrent.

• Cash Equivalents: Defined by PAS 7 as short-term, highly liquid investments readily convertible to cash and so near maturity that they present insignificant risk of value changes (e.g., three-month BSP treasury bills, three-month time deposits). A "three-month rule" applies: investments must be acquired three months or less before maturity.

• Measurement: Cash is measured at face amount. Foreign currency is translated to Philippine pesos at current exchange rates. If a bank is in bankruptcy, cash is written down to estimated realizable value.

• Bank Overdrafts: Result from checks issued in excess of deposits. Classified as current liabilities and generally not offset against other bank accounts unless they are in the same bank.

• Compensating Balances: Minimum demand deposit balances maintained for bank borrowing. Classified as cash if withdrawal is not restricted; otherwise, classified as "cash held as compensating balance" under current or noncurrent assets depending on the loan term.

• Undelivered and Postdated Checks: An undelivered check (drawn but not given to the payee) or a delivered postdated check (dated after the reporting period) requires an adjusting entry to restore the cash balance and recognize the liability.

• Stale Checks: Checks not encashed within a long period (traditionally six months). If immaterial, they are miscellaneous income; if material, cash is restored and the liability remains.

BANK RECONCILIATION AND PROOF OF CASH

• Bank Reconciliation: A statement bringing the cash balance per book and bank statement into agreement.

• Reconciling Items:

  • Book Items: Credit memos (credits not yet recorded by the entity, like notes collected by the bank), Debit memos (charges not yet recorded, like NSF checks or service charges), and Errors.

  • Bank Items: Deposits in transit (collections not yet reflected on the bank statement) and Outstanding checks (checks issued but not yet paid by the bank). Note: Certified checks are NOT outstanding.

• Methods:

  • Adjusted Balance Method: Adjusts both book and bank to the correct cash balance.

  • Book to Bank/Bank to Book Methods: Adjusts one balance to equal the other.

• Proof of Cash: An expanded reconciliation covering receipts and disbursements for a period. It uses a four-column worksheet to ensure that the beginning balance, receipts, disbursements, and ending balance all reconcile between the book and bank.

ACCOUNTS RECEIVABLE

• Classification: Trade receivables (from ordinary sales) vs. Nontrade receivables (other sources). Current if collectible within one year or the normal operating cycle; otherwise, noncurrent.

• Initial Measurement: Recognized initially at face amount (invoice price). Effect of discounting is usually ignored for short-term accounts.

• Subsequent Measurement: Measured at amortized cost, which is the Net Realizable Value (NRV).

• NRV Adjustments: Deductions are made for allowance for freight charges, sales returns, sales discounts, and doubtful accounts.

• Freight Terms:

  • FOB Destination: Seller bears freight cost.

  • FOB Shipping Point: Buyer bears freight cost.

  • Freight Collect: Buyer pays the carrier.

  • Freight Prepaid: Seller pays the carrier.

• Credit Sales Methods:

  • Gross Method: Records sale and receivable at the full invoice price.

  • Net Method: Records sale and receivable at the invoice price minus the cash discount.

ESTIMATION OF DOUBTFUL ACCOUNTS

• Allowance Method: Required by GAAP. Matches bad debt loss with the relate revenue.

• Estimation Approaches:

  • Aging of Accounts Receivable: Classifies accounts by age; higher experience rates applied to older accounts. Focuses on statement of financial position (NRV).

  • Percentage of Accounts Receivable: Applies a flat rate to the year-end balance. BS approach.

  • Percentage of Sales: Applies a rate to net credit sales. Focuses on the income statement (matching).

• Accounting for Write-offs: Debit Allowance for Doubtful Accounts and credit Accounts Receivable. Recoveries require reversing the write-off and then recording the collection.

NOTES RECEIVABLE

• Definition: Claims supported by formal written promises (promissory notes).

• Initial Measurement: Initially at present value (PV). Short-term notes are measured at face amount.

• Interest-Bearing vs. Noninterest-Bearing:

  • Long-term interest-bearing notes are measured at face amount (assumed to be PV if at market rate).

  • Long-term noninterest-bearing notes are measured at the PV of future cash flows discounted using the effective (market) interest rate.

• Unearned Interest Income: The difference between the face amount and PV of a noninterest-bearing note. Amortized as interest income using the effective interest method.

RECEIVABLE FINANCING

• Pledging: AR serves as general collateral for a loan; requires disclosure only.

• Assignment: More formal than pledging. Specific receivables are transferred to a lender (assignee). Can be on a notification or nonnotification basis.

• Factoring: The sale of receivables to a factor.

  • Casual Factoring: One-time sale at a discount.

  • Continuing Arrangement: The factor takes over the credit and collection functions.

  • Without Recourse: The factor assumes the risk of uncollectibility.

  • With Recourse: The seller retains risk; a recourse obligation is recognized at fair value.

• Discounting: Specifically for notes receivable. The payee endorses the note to a bank for cash before maturity.

  • Formula: $Net\,Proceeds = Maturity\,Value - Discount$

  • $Maturity\,Value = Principal + Interest$

  • $Discount = Maturity\,Value \times Discount\,Rate \times Discount\,Period$

LOAN RECEIVABLE

• Measurement: Initially at fair value plus direct transaction costs (direct origination costs). Indirect origination costs are expensed.

• Origination Fees: Fees received from borrowers are recognized as unearned interest income and amortized (increase interest income).

• Impairment: Excess of the carrying amount over the present value of expected future cash flows discounted at the original effective rate.

• Expected Credit Loss (ECL) Model:

  • Stage 1: Low risk; recognize 12-month ECL.

  • Stage 2: Significant increase in risk; recognize lifetime ECL.

  • Stage 3: Objective evidence of impairment; recognize lifetime ECL and compute interest on net carrying amount.

INVENTORIES

• Cost of Inventory: Includes cost of purchase (price, duties, freight), conversion costs (labor and overhead), and other costs to bring items to their present location/condition.

• Exclusions: Abnormal waste, storage (unless necessary for the production process), general admin, and selling costs.

• Inventory Systems:

  • Periodic: Physical count at the end of the period determines cost of goods sold.

  • Perpetual: Running records (stock cards) track every inflow and outflow.

• Inventory Cost Flow Formulas:

  • FIFO (First-In, First-Out): Oldest goods sold first; inventory reflects current prices.

  • Weighted Average (Periodic): $Total\,Cost\,of\,GAS / Total\,Units\,of\,GAS$

  • Moving Average (Perpetual): New unit cost computed after each purchase.

  • LIFO: Not permitted under IFRS.

• LCNRV (Lower of Cost and Net Realizable Value): Inventories are written down if NRV is less than cost. NRV = Estimated selling price minus estimated costs of completion and disposal.

  • Direct Method: Writedown is buried in COGS.

  • Allowance Method: Writedown recorded as a loss and credit to an allowance account.

FINANCIAL ASSETS

• Classifications (PFRS 9):

  • Fair Value Through Profit or Loss (FVPL): Financial assets held for trading or designated by option. Changes in fair value go to Statement of Comprehensive Income.

  • Fair Value Through Other Comprehensive Income (FVOCI): Nontrading equity (irrevocable election) or debt held to collect and sell. Equity gains/losses are never recycled to profit or loss; debt gains/losses are recycled to PL upon sale.

  • Amortized Cost: Debt held solely to collect contractual cash flows (principal and interest).

• Reclassification: Only permitted for debt investments when there is a change in the business model. Recognized prospectively on the first day of the next reporting period.

INVESTMENTS IN ASSOCIATE

• Significant Influence: Power to participate in policies; usually presumed at 20%-50% voting power.

• Equity Method:

  • Investment initially at cost.

  • Carrying amount increased by share of net income and decreased by dividends received.

  • Excess Cost: Attributed to undervalued assets (amortized) or goodwill (not amortized).

  • Heavy Losses: Investor stops recognizing losses once the investment is zero, unless further obligations exist.

• Discontinuance: When influence is lost, the remaining portion is remeasured to fair value; gain/loss is recognized in PL.

PROPERTY, PLANT AND EQUIPMENT (PPE)

• Cost Elements: Purchase price, directly attributable costs (site prep, delivery, install, etc.), and dismantling estimates.

• Acquisition types: Cash (at cash price), Installment (at cash price or PV of payments), Exchange (if commercial substance exists, use Fair Value of asset given plus cash).

• Measurement Models:

  • Cost Model: Cost less accumulated depreciation and impairment.

  • Revaluation Model: Revalued amount (Fair Value) less subsequent depreciation/impairment. Revaluation surplus goes to OCI.

• Depreciation: Systematic allocation of cost. Methods include Straight Line, Sum-of-Years' Digits (SYD), and Double Declining Balance (DDB).

  • SYD Formula: $Depreciation\,Factor = \frac{Remaining\,Life}{Sum\,of\,Years\,Digits}$

  • DDB Rate: $2 \times Straight\,Line\,Rate$

• Borrowing Costs (PAS 23): Interest on loans used for "Qualifying Assets" (take substantial time to get ready) must be capitalized during construction.

WASTING ASSETS AND DEPLETION

• Costs: Acquisition, exploration (Successful Effort vs. Full Cost methods), development, and restoration.

• Depletion: Allocation of the cost of natural resources using the output/units-of-production method.

  • $Depletion\,Rate = \frac{Total\,Depletable\,Amount}{Estimated\,Total\,Units}$

• Depreciation of Mining Equipment: Depreciated over shorter of equipment life or resource life. If equipment is movable, use its own useful life.

• Wasting Asset Doctrine: Permits dividends from capital (accumulated depletion) in addition to retained earnings.

INTANGIBLE ASSETS

• Criteria: Identifiable (separable or legal right), nonmonetary, lacks physical substance.

• Types:

  • Patent: 20-year legal life. Amortized over shorter of legal or useful life.

  • Trademark: Indefinite life (unless not renewed). Not amortized but tested for impairment.

  • Copyright: Life of author plus 50 years. Amortized over useful life.

  • Franchise: Periodic fees are expensed; initial fees are capitalized.

• Goodwill: Unidentifiable asset. Calculated via the Residual Approach (Purchase Price minus Fair Value of Net Assets). Not amortized; tested for impairment annually.

• Research and Development (R&D):

  • Research: Original investigation; always expensed.

  • Development: Application of findings. Capitalized only if technical feasibility, intention to sell, and funding are demonstrated.

• Computer Software: Expensed until technological feasibility; then capitalized (coding/testing) until the product is ready for release.