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Financial Accounting and Reporting - Volume 1A
Accounting (Cagayan State University)
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Financial accounting and reporting
VOL-1A
ACCOUNTING PROCESS
Usual Examples of Special Journals
2. Accounting Cycle
It is a step-by-step process of recording,
classification, and summarization of economic
transactions of a business.
11. Sales Journal
It is a special journal where only sales of
merchandise on account are recorded.
3. Phases of the Accounting Cycle
a. Recording (steps 1-3)
b. Summarizing (steps 4-10)
3. Steps in the Accounting Cycle
a.
b.
c.
d.
e.
f.
g.
h.
i.
j.
Analyzing the transaction
Journalizing
Posting
Unadjusted trial balance
Adjusting entries
Adjusted trial balance
Financial statements
Closing entries
Post-closing trial balance
Reversing entries
4. Analyzing the Transaction
This is where the accountant gathers
information from source documents and
determines the impact of the transaction on the
financial position.
5. Journalizing
This is the process of recording the
transactions in the appropriate journals.
6. Journal
It is a chronological record of transactions.
It is also known as the book of original entry.
12. Cash Receipts Journal
It is a special journal where all types of cash
receipts are recorded.
13. Purchases Journal
It is a special journal used to record all
purchases on account of merchandise, equipment,
supplies, etc.
14. Cash Disbursements Journal
It is a special journal where all payments of
cash for any purpose are recorded.
Types of Journal Entries According to Form
16. Simple Journal Entry
It is a type of journal entry which contains a
single debit and a single credit element.
17. Compound Journal Entry
It is a type of journal entry which has two or
more elements in either or both debit and credit
sides and often represents two or more
transactions.
***
18. Accounts
These are the storage units of accounting
information and are used to summarize changes in
assets, liabilities, and equity including income and
expenses.
Common Account Types
Kinds of Journals
8. General Journal
It is a journal where all transactions could be
recorded.
9. Special Journals
These are journals used in recording large
numbers of like transactions.
20. Real Accounts
These are the statement of financial position
accounts or so-called permanent accounts which
are not closed and are carried over to the next
accounting period (i.e., assets, liabilities, and equity
accounts).
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Financial accounting and reporting
21. Nominal Accounts
These are the income statement accounts
or temporary capital accounts which are closed at
the end of the accounting period (i.e., income and
expense accounts).
22. Mixed Account
While still unadjusted, it represents a
combination of real and nominal accounts (e.g.,
prepaid expenses).
VOL-1A
31. Trial Balance
It is a list of general ledger accounts with
their respective debit or credit balances.
32. Adjusting Entries
These are journal entries made at the end of
an accounting period to update certain revenue and
expense accounts and to make sure the entity
complies with the matching principle.
33. Characteristics of Adjusting Entries
23. Control Account
It is the general ledger account that
summarizes the detailed information in a subsidiary
ledger.
24. Suspense Account
It is an account that holds temporarily
certain information pending for disposition.
25. Reciprocal Account
It is an account that has a counterpart in
another book within the entity or in another ledger
of another entity.
***
26. Posting
It is the process of transferring data from the
journal to the appropriate accounts in the general
ledger and subsidiary ledger. This process
classifies all accounts that were recorded in the
journals.
27. Ledger
It is a book containing accounts in which the
classified and summarized information from the
journals is posted as debits and credits. It is also
known as the book of final entry.
a. Usually refer to transactions that have
effects on more than one accounting
period;
b. Include at least one (1) nominal account
and one (1) real account; and
c. Are generally not based on source
documents.
34. Classification of Adjusting Entries
a.
b.
c.
d.
e.
f.
Prepayments
Deferred Income
Accrued expenses
Accrued income
Estimates
Ending inventory
35. Prepayments
These are expense items already paid for but
not yet incurred.
36. Methods of Initially Recording Prepayments
a. Asset method – Dr. Prepaid expense; Cr.
Cash
b. Expense method – Dr. Expense; Cr. Cash
Kinds of Ledgers
37. Pro-Forma Adjusting Entries for Prepayments
29. General Ledger
It includes all the accounts appearing on the
financial statements.
30. Subsidiary Ledger
It affords additional detail in support of
certain general ledger accounts.
***
a. Asset method – Dr. Expense (expired
portion); Cr. Prepaid expense
b. Expense method –
Dr.
Prepaid
expense (remaining portion); Cr.
Expense
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Financial accounting and reporting
38. Deferred Income
It refers to an income item that is already
collected in cash but not yet earned.
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49. Ending Inventory Adjustment
It is an adjustment used to set up the yearend count of the inventory. This is only applied in
the periodic inventory system.
39. Methods of Initially Recording Deferred Income
a. Liability method – Dr. Cash; Cr.
Unearned income
b. Income method – Dr. Cash; Cr. Income
40. Pro-Forma Adjusting Entries for Deferred
Income
a. Liability method – Dr. Unearned income
(earned portion); Cr. Income
b. Income method – Dr. Income (unearned
portion); Cr. Unearned income
41. Accrued Expense
It occurs in a transaction where expense has
already been incurred but not yet paid for in cash.
42. Pro-Forma Adjusting Entry for Accrued Expense
Dr. Expense; Cr. Liability (i.e., payable)
43. Accrued Income
It occurs in a transaction where income has
been already earned but not yet collected in cash.
44. Pro-Forma Adjusting Entry for Accrued Income
Dr. Asset (i.e., receivable); Cr. Income
45. Estimates
These are items of adjusting entries that do
not involve cash flows.
Common Types of Estimates
47. Provision for Doubtful Accounts
It is the estimated amount of bad debts that
will arise from accounts receivable that have been
issued but not yet collected.
50. Preparation of the Financial Statements
It is the most important part of the
summarizing phase. This is where the processed
information is communicated to users.
51. Basic Financial Statements
a. Statement of Financial Position (Balance
Sheet)
b. Statement of Comprehensive Income
(Income Statement)
c. Statement of Changes in Equity
d. Statement of Cash Flows
e. Notes and Disclosures.
52. Closing Entries
These are recorded and posted for the
purpose of closing all nominal or temporary
accounts to the income summary account and the
resulting net income or loss is afterwards closed to
the capital or retained earnings account.
53. Reversing Entries
These are made at the beginning of the new
accounting period to reverse certain adjusting
entries from the preceding accounting period.
54. Adjusting Entries Subject for Reversal
a.
b.
c.
d.
Prepayments under expense method
Deferred income under income method
Accrued expense
Accrued income
55. Optional Steps in the Accounting Cycle
a. All trial balances
b. Reversing entries
48. Depreciation
It is the systematic allocation of the cost of
a fixed asset over its useful life.
***
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Financial accounting and reporting
REVISED CONCEPTUAL FRAMEWORK
57. Missions of IASB in Developing Accounting
Standards
a.
b.
c.
Contribute to transparency – by
enhancing international comparability
and quality of financial information.
Strengthen accountability – of the
people entrusted with the entity.
Contribute to economic efficiency – by
helping investors identify opportunities
and risks across the world.
58. Conceptual Framework
a. It aims to assist the IASB in developing
standards.
b. It helps financial statement preparers
and users to better understand and
interpret the standards.
c. It can be used as a reference by
preparers who are trying to develop
accounting policies but cannot find any
applicable standard currently in place.
d. It is not a standard by itself, and does not
override the provisions of any standard.
59. Objectives of Conceptual Framework
a. To provide financial information about
reporting entities; and
b. To help investors, lenders and other
creditors (primary users) in decision
making.
Chapter 1
61. Objective
Reporting
of
VOL-1A
62. Financial Position
It refers to the financial condition of the
reporting entity represented by the economic
resources it owns and claims of other entities
against these.
63. Accrual Accounting
It means that the events should be reflected
in the reports in the periods when the effects of
transactions occur, regardless the related cash
flows.
a. Income shall be recognized when
earned, rather than when received in
cash.
b. Expenses shall be recognized when
incurred, rather than when paid for in
cash.
64. Past Cash Flows
These are considered important information
used to assess the management’s ability to
generate future cash flows.
Chapter 2
Types of Qualitative Characteristics of Financial
Information
67. Fundamental Qualitative Characteristics
Their focus is on the content or substance of
financial information.
68. Enhancing Qualitative Characteristics
Their focus is on the presentation or form of
financial information.
Fundamental Qualitative Characteristics
General-Purpose
Financial
a. To provide financial information about
reporting entities; and
b. Help investors, lenders and other
creditors (primary users) in decision
making.
70. Relevance
Financial information possessing this
qualitative characteristic is capable of making a
difference in the users’ decisions.
71. Faithful Representation
It requires that accounting transactions and
events should be recorded in a manner that
represents their true economic substance.
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Financial accounting and reporting
VOL-1A
Elements of Relevance
Enhancing Qualitative Characteristics
73. Predictive Value
It helps the users of financial statements in
predicting future trends of the business.
82. Comparability
It asserts that information about a reporting
entity is more useful if it can be compared with a
similar information about other entities and with
similar information about the same entity for
another period or another date.
74. Confirmatory Value
It helps the users of financial statements in
confirming or correcting any past predictions they
have made.
***
75. Materiality
It is the threshold above which missing or
incorrect information in financial statements is
considered to have an impact on the decision
making of users.
It is an entity-specific aspect of relevance
based on the nature or magnitude (or both) of the
items to which the information relates in the context
of an individual entity’s financial report.
Underlying Characteristics Maximized by Faithful
Representation
77. Completeness
It asserts that financial information must be
complete in all material respects, since omissions
of important data may be misleading.
78. Neutrality
It asserts that financial information must be
free from bias or not prepared with the purpose to
influence certain decisions of the users.
79. Free from Error
It asserts that financial information must
not contain any inaccuracies or omissions.
***
80. Prudence / Conservatism
It is the exercise of caution when making
judgements under conditions of uncertainty such
that assets and income are not overstated and
expenses and liability are not understated.
83. Verifiability
It helps to assure users that information
represents faithfully the economic phenomena it
purports to represent.
It means that different knowledgeable and
independent observers could reach consensus,
although not necessarily complete agreement, that
a particular depiction is a faithful representation.
Aspects of Comparability
85. Horizontal Comparability
It refers to comparison within an entity from
one period to the next.
86. Dimensional Comparability
It refers to comparison between two or more
entities in the same industry.
Methods of Verification
88. Direct Verification
It means verifying an amount or other
representation through direct observation (e.g.,
counting cash items).
89. Indirect Verification
It is verifying the carrying amount of
inventory by checking the inputs (quantities and
costs) and recalculating the ending inventory using
the same cost flow assumption (e.g., computing
inventory using first-in, first-out or FIFO method).
***
Chapter 3
91. Financial Statements
These are written records that convey the
business activities and position of a reporting
entity.
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Financial accounting and reporting
Complete Set of Financial Statements
93. Statement of Financial Position
It contains information about the assets,
liabilities and equity of the reporting entity at a point
in time.
VOL-1A
Types of Financial Statements as to Its Reporting
Entity
103. Consolidated
It refers to financial statements prepared by
a parent and its subsidiaries reporting as a single
entity.
94. Statements of Financial Performance
These contain information about the income
and expenses of the reporting entity over a period of
time.
104. Unconsolidated
It refers to financial statements provided by
one entity only (e.g., parent alone).
95. Statement of Cash Flows
It contains information about the flow of
cash to and out of the entity during a reporting
period.
105. Combined
It refers to financial statements whose
reporting entity comprises of two or more entities
not linked by a parent-subsidiary relationship.
96. Statement of Changes in Equity
It contains information about the
contributions from and distributions to equity
holders.
Chapter 4
97. Notes and Disclosures
These statements contain information
about the accounting methods, assumptions,
judgments used and their changes.
***
98. Reporting Period
It is a specified period of time in which the
financial statements are prepared for.
99. Going Concern
It means that an entity will continue to
operate for the foreseeable future (usually 12
months after the reporting date).
100. Reporting Entity
It is an entity who must or chooses to
prepare financial statements.
101. Kinds of Reporting Entities
a. A single entity – e.g., one company
b. A portion of an entity – e.g., a division
of one company
c. More than one entity – e.g., a parent
and its subsidiaries reporting as a
group
Elements of Financial Statements
108. Asset
It is a present economic resource controlled
by the entity as a result of past events.
109. Liability
It is a present obligation of the entity to
transfer an economic resource as a result of past
events.
110. Equity
It is the residual interest in the assets of the
entity after deducting all its liabilities.
111. Income
It refers to increases in assets or decreases
in liabilities resulting in increases in equity, other
than contributions from equity holders.
112. Expense
It refers to decreases in assets or increases
in liabilities resulting in decreases in equity, other
than distributions to equity holders.
Types of Income
113. Revenue
It refers to income from primary activities.
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Financial accounting and reporting
114. Gain
It refers to income from incidental activities.
***
115. Loss
It refers to expenses incurred from events
which are not part of operating activities.
Chapter 5
117. Recognition
It is the process of incorporating in the
balance sheet or income statement an item that
meets the definition of an element and satisfies the
criteria for recognition.
118. Criteria for Recognition
a. It is probable that any future economic
benefit associated with the item will flow
to or from the entity; and
b. The item’s cost or value can be
measured with reliability.
VOL-1A
Methods of Measuring Current Value
126. Fair Value
It is the price that would be received to sell
an asset or paid to settle a liability in an orderly
transaction between market participants at
measurement date (based on exit price).
127. Value in Use
It is the present value of cash flows
expected to be derived from the used and ultimate
disposal of an asset (based on exit price).
128. Fulfillment Value
It is the present value of the cash expected
to be transferred for the payment of a liability
(based on exit price).
129. Current Cost
It is the cost that would be required to
replace an asset in the current period (based on
entry price).
Chapter 7
119. Derecognition
It means the removal of an asset or liability
from the statement of financial position and
normally it happens when the item no longer meets
the definition of an asset or a liability.
Chapter 6
121. Measurement
It involves the assignment of monetary
amounts at which the elements of the financial
statements are to be recognized and reported.
Bases of Measurement
123. Historical Cost
This measurement is based on the
transaction price at the time of recognition of the
element (based on entry price).
131. Presentation
It is the format in which the financial
statements are communicated to users.
132. Disclosure
It refers to additional information attached
to an entity’s financial statements, usually as
explanation for activities which have significantly
influenced the entity’s financial results.
133. Rules on Presentation of Items in the Financial
Statements
General rule: Group similar items and
separate dissimilar items.
Exceptions: Material items of the same
nature should be reported separately in financial
statements and dissimilar items may be aggregated
if these are immaterial.
124. Current Value
It measures the element in a manner which
is updated to reflect the conditions at the
measurement date.
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Financial accounting and reporting
Chapter 8
Concepts of Capital Maintenance
136. Financial Capital Maintenance
It asserts that profit is earned only when the
amount of net assets at the end of the period is
greater than the amount of net assets in the
beginning, after excluding contributions from and
distributions to equity holders (mandated by
standards).
137. Physical Capital Maintenance
It asserts that profit is earned if the physical
productive capacity of the entity based on, for
example, units of output per day, increases during
the period, after excluding movements with equity
holders.
CASH AND CASH EQUIVALENTS
139. Money
It is the standard medium of exchange in
business transactions. it refers to the currency and
coins which are in circulation and legal tender.
140. Cash
In the context of accounting, it includes
money and any other negotiable instrument that is
payable in money and acceptable by the bank for
deposit and immediate credit.
141. Check
It is a document that orders a bank to pay a
specific amount of money from the person's
account to the person in whose name the same has
been issued. In general, it is included in the books
as cash provided that the same is payable to the
reporting entity.
VOL-1A
issued after a buyer pays for the same with cash or
another form of guaranteed funds. If it is payable to
the reporting entity, it is included in the books as
cash.
144. Postdated Check
It is a check written by the drawer (payor) for
a date in the future. it may only be cashed or
deposited on or after the date written on it. If it is
payable to the reporting entity, it is not included in
the books as cash. If it is payable to a different
party, it should not be excluded in the total cash
balance.
Cash Items Included in the Accounting Books
146. Cash on Hand
It includes undeposited cash collections and
other cash items awaiting deposit.
147. Cash in Bank
It includes demand deposit or checking
account and saving deposit which are unrestricted
as to withdrawal.
148. Cash Fund Set Aside for Current Purposes
Examples of this include:
a.
b.
c.
d.
e.
f.
Petty cash fund
Dividend fund
Payroll fund
Revolving fund
Tax fund
Interest fund
***
142. Bank Draft
It is a check drawn by a bank on its own
funds in another bank. If it is payable to the
reporting entity, it is included in the books as cash.
149. Bond Sinking Fund
It is a restricted asset of a corporation that
was required to set aside money for redeeming or
buying back some of its bonds payable.
General rule: It is presented as a noncurrent
asset.
Exception: It is presented as a current asset
when the bonds associated to it become due within
12 months after the end of the reporting period.
143. Money Order
It is a paper document, similar to a check,
used for making payments. it is prepaid, so it is only
150. Fund Held for Future Plant Expansion
It is a noncash item always presented as a
noncurrent asset.
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Financial accounting and reporting
VOL-1A
160. Measurement of Cash
151. Preference Share Redemption Fund
It is a noncash item always presented as a
noncurrent asset.
152. Cash Equivalents
These are short-term and highly liquid
investments that are readily convertible into cash
and so near their maturity that they present
insignificant risk of changes in value because of
changes in interest rates.
153. Criterion for an Item to Qualify as Cash
Equivalent
Only highly liquid investments that are
acquired three months before maturity can qualify
as cash equivalents.
154. Equity Securities as Cash Equivalents
General rule: Equity securities cannot qualify
as cash equivalents because shares do not have a
maturity date.
Exception: Preference shares with specified
redemption date and acquired three months before
redemption date can qualify as cash equivalents.
Classification of Investments of Excess Cash
156. Cash Equivalent
See no. 152 for definition.
157. Short-Term Financial Asset
It is an investment that matures in more
than three months but within one year from the end
of the reporting period and is presented separately
as current asset.
158. Long-Term Investments
It is an investment that matures in more
than one year from the end of the reporting period
and is classified as noncurrent asset.
***
159. Reclassification of Long-Term Investments
If a long-term investment becomes due
within one year from the end of the reporting period,
the same shall be reclassified as current or
temporary investment.
a. In general – face value
b. Foreign currency – current exchange
rate
c. Cash held by a bank or financial
institution under bankruptcy or financial
difficulty – estimated realizable value
161. Foreign Exchange Restriction
Deposits in foreign banks which are subject
to foreign exchange restriction, if material, should
be classified separately among noncurrent assets
and the restriction clearly indicated.
162. Classification of Cash Fund Related to a
Liability
The classification should be parallel with
such related liability (i.e., if the noncurrent liability is
reclassified as current, the related noncurrent cash
fund shall also be reclassified as current asset).
163. Classification of Cash Fund Set Aside for the
Acquisition of a Noncurrent Asset
Such fund should be classified as
noncurrent asset regardless of the year of
disbursement.
164. Bank Overdraft
It occurs when the cash in a bank account
has a credit balance resulting from the issuance of
checks in excess of deposits.
165. Classification of Bank Overdraft
General rule: It shall be classified as a
current liability and should not be offset against
other bank accounts with debit balances.
Exceptions:
a. If there are other deposit accounts in the
same bank as the account with the credit
balance, offsetting with such other
accounts is allowed.
b. If the amount is immaterial, offsetting is
allowed.
166. Compensating Balance
It generally takes the form of minimum
checking or demand deposit account balance that
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Financial accounting and reporting
must be maintained in connection with a borrowing
arrangement with a bank.
Types of Compensating Balance
168. Informal Compensating Balance
It refers to one that is not legally restricted
and shall be included as part of cash. If the problem
is silent, the compensating balance is treated as
unrestricted.
169. Formal Compensating Balance
It refers to one that is legally restricted and
shall be classified as current or noncurrent asset
depending on the terms of the related loan.
***
170. Unreleased or Undelivered Checks
It is a check that is merely drawn and
recorded but not given to the payee before the end
of reporting period.
171. Adjustment Required for Undelivered or
Unreleased Checks
Dr. Cash in bank; Cr. Expense or liability –
The entry made upon issuance of said check should
be reversed because in essence, no payment has
really been made.
172. Postdated Check Delivered
It is a check drawn, recorded and already
given to the payee but it bears a date subsequent to
the end of reporting period.
173. Adjustment Required for Postdated Checks
Delivered
Dr. Cash in bank; Cr. Expense or liability –
The entry made upon issuance of said check should
be reversed because in essence, no payment has
really been made.
174. Stale Check or Check Long Outstanding
It is a check not encashed by the payee
within a relatively long period of time.
175. Prescriptive Period for Checks
In banking practice, a check becomes stale
if not encashed within 6 months from the time of
issuance.
VOL-1A
176. Adjustment Required for Issued Checks That
Became Stale
a. If the amount is material - Dr. Cash in
bank; Cr. Accounts payable or
appropriate account
b. If the amount is immaterial - Dr. Cash in
bank; Cr. Miscellaneous income
177. Journal Entries for Cash Shortage
a. Initial entry – Dr. Cash short or over; Cr.
Cash)
b. If the cashier or cash custodian is held
responsible for the cash shortage – Dr.
Due from cashier; Cr. Cash short or over
c. If reasonable efforts fail to disclose the
cause of the shortage – Dr. Loss from
cash shortage; Cr. Cash short or over
178. Journal Entries for Cash Overage
a. Initial entry – Dr. Cash; Cr. Cash short or
over
b. If there is no claim on the overage – Dr.
Cash short or over; Cr. Miscellaneous
income
c. If the cash overage is properly found to
be the money of the cashier – Dr. Cash
short or over; Cr. Payable to cashier
179. Imprest System
It is a system of control of cash which
requires that all cash receipts should be deposited
intact and all cash disbursements should be made
by means of check.
Methods of Handling the Petty Cash Fund
181. Imprest Fund System
a. A memorandum entry is simply prepared
in the petty cash journal for each
disbursement.
b. Replenishment of the fund is usually
equal to the petty cash disbursements.
c. Replenishment should only be by means
of drawing checks and not from
undeposited collections.
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d. It is necessary to adjust the
unreplenished expenses at the end of
the reporting period in order to state the
correct balance of the fund.
182. Fluctuating Fund System
a. Disbursements
are
immediately
recorded in the general journal or cash
disbursements journal.
b. Replenishment of the fund may or may
not be the same amount as the petty
cash disbursement.
c. No adjustment for unreplenished
expenses is needed at the end of the
reporting period because of the outright
recording of expenses.
Journal Entries for the Handling of Petty Cash
Fund
VOL-1A
e. Decrease of the fund – Dr. Cash in bank;
Cr. Petty cash fund
186. Demand Deposit
It is the current account or checking account
or commercial deposit where deposits are covered
by deposit slips and where funds are withdrawable
on demand by drawing checks against the bank.
187. Savings Deposit
It is a bank account where the depositor is
given a passbook upon initial deposit. the passbook
is required when making deposits and withdrawals.
this type of bank deposit is interest bearing.
186. Time Deposit
It is a bank deposit evidenced by a formal
agreement called certificate of deposit. it is interest
bearing and may be preterminated or withdrawn on
demand or after a certain period of time agreed
upon.
184. Imprest Fund System
a. Establishment of the fund – Dr. Petty
cash fund; Cr. Cash in bank
b. Payment of expenses out of the fund –
memorandum entry in the petty cash
journal
c. Replenishment of petty cash payments
– Dr. Expenses; Cr. Cash in bank
d. Adjusting entry if no replenishment is
made at year-end – Dr. Expenses; cr.
Cash in bank
e. Increase in fund – Dr. Petty cash fund;
Cr. Cash in bank
f. Decrease in fund – Dr. Cash in bank; Cr.
Petty cash fund
185. Fluctuating Fund System
a. Establishment of the fund – Dr. Petty
cash fund; Cr. Cash in bank
b. Payment of expenses out of the petty
cash fund – Dr. Expenses; Cr. Petty cash
fund
c. Replenishment or increase of the fund –
Dr. Petty cash fund; Cr. Cash in bank
d. Adjusting entry if no replenishment is
made at year-end – no entry required
189. Journal Entry Used to Record Collection of
Cash in the Books of the Reporting Entity
Dr. Cash or Cash in bank; Cr. Accounts
receivable or any other appropriate account
190. Journal Entry Used by the Bank to Record
Collection of Cash by the Reporting Entity and
Subsequent Deposit to the Bank
Dr. Cash; Cr. Bank account of reporting
entity
191. Journal Entry Used to Record Disbursements
of Cash in the Books of the Reporting Entity
Dr. Expenses or any other appropriate
account; Cr. Cash or Cash in bank
192. Journal Entry Used by the Bank to Record
Withdrawals or Disbursements of Cash by the
Reporting Entity
Dr. Bank account of reporting entity; Cr.
Cash
193. Bank Reconciliation
It is a statement which brings into
agreement the cash balance per book and cash
balance per bank.
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194. Bank Statement
It is a monthly report of the bank to the
depositor showing data about the transactions of
the reporting entity with the bank during the period
and the beginning and ending balances of its bank
account.
195. Cancelled Checks
These are the checks (attached to the bank
statement upon receipt) issued by the depositor
and paid by the bank during the month.
Book Reconciling Items
197. Credit Memos
These refer to items not representing
deposits credited by the bank to the account of the
depositor but not yet recorded by the depositor as
cash receipts. Examples:
a. Notes receivable collected by bank in
favor of the depositor
b. Proceeds of bank loan
c. Matured time deposits transferred by the
bank to the current account of the
depositor
198. Debit Memos
These refer to items not representing checks
paid by bank which are charged or debited by the
bank to the account of the depositor but not yet
recorded by the depositor as cash disbursements.
Examples:
a. NSF checks or DAIF (drawn against
insufficient fund) checks
b. Technically defective checks
c. Bank service charges
d. Reduction of loan
199. Book Errors
These refer to incorrect recording of cash
receipts or disbursements resulting to either
overstatement or understatement of cash balance
in the books of the entity.
***
VOL-1A
200. NSF or DAIF Checks
These are checks deposited but not returned
by the bank because of insufficiency of fund.
Bank Reconciling Items
202. Deposits in Transit
These are collections already recorded by
the depositor as cash receipts but not yet reflected
on the bank statement.
203. Outstanding Checks
These are checks already recorded by the
depositor as cash disbursements but not yet
reflected on the bank statement.
204. Bank Errors
These refer to incorrect posting of cash
deposits or withdrawals resulting to either
overstatement or understatement of cash balance
in the bank account of the depositor.
***
205. Certified Check
It is a check for which the issuing bank
guarantees availability of cash in the holder's
account.
206. Accounting Treatment for Certified Checks
Certified checks should be deducted from
the total outstanding checks (if included therein)
because they are no longer outstanding for bank
reconciliation purposes.
Forms of Bank Reconciliation
208. Adjusted Balance Method
It is a form of bank reconciliation where the
book balance and the bank balance are brought to
a current cash balance that must appear on the
balance sheet.
209. Book to Bank Method
It is a form of bank reconciliation where the
book balance is reconciled with the bank balance or
the book balance is adjusted to equal the bank
balance.
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210. Bank to Book Method
It is a form of bank reconciliation where the
bank balance is reconciled with the book balance or
the bank balance is adjusted to equal the book
balance.
***
211. Formula to Compute for the Adjusted Book
Balance under the Adjusted Balance Method of
Bank Reconciliation
Book balance + Credit memos - Debit
Memos ± Effect of errors = Adjusted book balance
212. Formula to Compute for the Adjusted Bank
Balance under the Adjusted Balance Method of
Bank Reconciliation
Bank balance + Deposits in transit Outstanding checks (after excluding certified
checks) ± Effect of errors = Adjusted bank balance
213. Formula Used Under the Book to Bank Method
of Bank Reconciliation
Book balance + Credit memos + Outstanding
checks (after excluding certified checks) - Debit
memos - Deposits in transit ± Effect of errors = Bank
balance
214. Formula Used Under the Bank to Book Method
of Bank Reconciliation
Bank balance + Deposits in transit + Debit
memos - Outstanding checks (after excluding
certified checks) - Credit memos ± effect of errors =
book balance
215. Proof of Cash
It is a reconciliation of the general ledger
cash balance at both the beginning and end of a
period, combined with a reconciliation of cash
deposited for the period with the cash receipts
journal, and a reconciliation of checks for the period
with the cash disbursements journal.
VOL-1A
217. Book Debits
These refer to cash receipts or all items
debited to the cash in bank account.
218. Book Credits
These refer to cash disbursements or all
items credited to the cash in bank account.
219. Computation of End of Month Balance per
Bank
Beginning of month balance per bank + Bank
credits during the month - Bank debits during the
month = End of month balance per bank
220. Bank Credits
These refer to all items credited to the
account of the depositor which include deposits
acknowledged by bank and credit memos.
221. Bank Debits
These refer to all items debited to the
account of the depositor which includes checks
paid by bank and debit memos.
222. Computation of End of Month Deposits in
Transit
Beginning of month deposits in transit +
Book debits - CM from previous month - Bank
credits + CM from current month = End of month
deposits in transit
223. Computation of End of Month Outstanding
Checks
Beginning of month outstanding checks +
Book credits – DM from previous month + Bank
debits + DM from current month = End of month
outstanding checks
216. Computation of End of Month Balance per
Book
Beginning of month balance per book +
Book debits during the month - Book credits during
the month = End of month balance per book
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VOL-1A
Summary of Proof of Cash Procedures for the Book Balance
Beginning
Book Credits
Book Debits
Ending Cash
Cash
or Cash
Bank Reconciling Items
or Cash
Balance per
Balance per
DisburseReceipts
Book
Book
ments
225. Credit memos from previous month’s
bank statement
226. Credit memos from current month’s bank
statement
227. Debit memos from previous month’s bank
statement
228. Debit memos from current month’s bank
statement
229. NSF check deposited last month
redeposited this month
230. NSF check deposited this month
redeposited this month
231. NSF check deposited this month to be
redeposited next month
232. Overstated recording of cash receipts in
the cash in bank account (committed during
the previous month, discovered in the current
month)
233. Overstated recording of cash receipts in
the cash in bank account (committed during
the current month, discovered upon the receipt
of bank statement)
234. Overstated recording of cash receipts in
the cash in bank account (committed and
discovered during the current month)
235. Understated recording of cash receipts in
the cash in bank account (committed during
the previous month, discovered in the current
month)
236. Understated recording of cash receipts in
the cash in bank account (committed during
the current month, discovered upon the receipt
of bank statement)
237. Understated recording of cash receipts in
the cash in bank account (committed and
No adjustment required
discovered during the current month)
238.
Overstated
recording
of
cash
disbursements in the cash in bank account
(committed during the previous month,
discovered in the current month)
239.
Overstated
recording
of
cash
disbursements in the cash in bank account
Add
Deduct
A
D
D
A
A
D
A
D
A
D
A
A
D
D
D
D
A
A
D
D
D
A
D
A
A
D
D
A
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(committed during the current month,
discovered upon the receipt of bank statement)
240.
Overstated
recording
of
cash
disbursements in the cash in bank account
(committed and discovered during the current
month)
241.
Understated
recording
of
cash
disbursements in the cash in bank account
(committed during the previous month,
discovered in the current month)
242.
Understated
recording
of
cash
disbursements in the cash in bank account
(committed during the current month,
discovered upon the receipt of bank statement)
243.
Understated
recording
of
cash
disbursements in the cash in bank account
(committed and discovered during the current
month)
D
D
VOL-1A
D
D
A
D
No adjustment required.
Summary of Proof of Cash Procedures for the Bank Balance
Beginning
Cash
Bank Credits Bank Debits
Bank Reconciling Items
Balance per
or Cash
or Cash
Bank
Deposits
Withdrawals
Statement
245. Deposits in transit as of beginning of the
current month
246. Deposits in transit as of end of the current
month
247. Outstanding checks as of beginning of the
current month
248. Outstanding checks as of end of the
current month
249. Cash collections disbursed instead of
being deposited intact
250. Overstated recording of cash deposit in
the bank account of reporting entity
(committed during the previous month,
corrected in the current month)
251. Overstated recording of cash deposit in
the bank account of reporting entity
(committed during the current month, still
uncorrected as per bank statement)
252. Overstated recording of cash deposit in
the bank account of reporting entity
(committed and corrected in the current
month)
A
D
A
D
A
D
D
A
A
Ending Cash
Balance per
Bank
Statement
A
D
D
D
D
D
D
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253. Understated recording of cash deposit in
the bank account of reporting entity
(committed during the previous month,
corrected in the current month)
254. Understated recording of cash deposit in
the bank account of reporting entity
(committed during the current month, still
uncorrected as per bank statement)
255. Understated recording of cash deposit in
the bank account of reporting entity
(committed and corrected in the current
month)
256. Overstated recording of cash withdrawal
in the bank account of the reporting entity
(committed during the previous month,
corrected in the current month)
257. Overstated recording of cash withdrawal
in the bank account of reporting entity
(committed during the current month, still
uncorrected as per bank statement)
258. Overstated recording of cash withdrawal
in the bank account of reporting entity
(committed and corrected in the current
month)
259. Understated recording of cash withdrawal
in the bank account of reporting entity
(committed during the previous month,
corrected in the current month)
260. Understated recording of cash withdrawal
in the bank account of reporting entity
(committed during the current month, still
uncorrected as per bank statement)
261. Understated recording of cash withdrawal
in the bank account of reporting entity
(committed and corrected in the current
month)
RECEIVABLES
263. Receivables
These are financial assets that represent a
contractual right to receive cash or another
financial asset from another entity.
264. Trade Receivables
These refer to claims arising from sale of
merchandise or services in the ordinary course of
business (e.g., accounts receivable, notes
receivable, etc.).
A
VOL-1A
D
A
A
No adjustment required.
A
D
D
D
D
A
D
D
A
D
No adjustment required.
265. Accounts Receivable
These are open accounts arising from the
sale of goods and services in the ordinary course of
business and not supported by promissory notes.
266. Notes Receivable
These are receivables supported by formal
promises to pay in the form of notes.
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Financial accounting and reporting
267. Nontrade Receivables
These represent claims arising from
sources other than the sale of merchandise or
services in the ordinary course of business.
VOL-1A
275. Accrued Income
Examples: Dividends receivable, accrued
rent, accrued royalties income, accrued interest on
bond investments, etc.
Always classified as current asset.
268. Classification of Trade Receivables
a. Current asset – if expected to be realized
in cash within the normal operating
cycle or one year, whichever is longer;
default in case the problem is silent.
b. Noncurrent asset – in case otherwise.
269. Classification of Nontrade Receivables
a. Current asset – if expected to be realized
in cash within one year, the length of the
operating cycle notwithstanding.
b. Noncurrent asset – in case otherwise.
270. Advances to or Receivables from
Shareholders, Directors, Officers or Employees
General rule: Current asset
Exception: Noncurrent asset if stated to be
collectible beyond 1 year.
271. Advances to Affiliates
Noncurrent (long-term investment).
272. Subscription Receivable
General rule: Deduction from subscribed
share capital.
Exception: Current asset if stated to be
collectible within 1 year.
273. Debit Balances in Creditors' Accounts
These balances occur due to overpayments
and/or returns and allowances.
General rule: Current asset.
Exception: If the amount is immaterial,
offset against the creditors' accounts with credit
balances.
274. Special Deposits on Contract Bids
General rule: Noncurrent asset.
Exception: Current asset if stated to be
collectible within 1 year.
276. Claims Receivable
Examples: Claims against common carriers
for losses or damages, claim for rebates and tax
refunds, claims from insurance entities, etc.
Always classified as current asset.
277. Customer’s Credit Balances
These balances occur due to overpayments,
returns and allowances, and advanced payments
from customers.
General rule: Current liability
Exception: If the amount is immaterial,
offset against customers’ accounts with debit
balances.
278. Measurement of Accounts Receivable
a. Initial measurement – fair value (face
amount or original invoice amount)
b. Subsequent measurement – amortized
cost (net realizable value of accounts
receivable or gross accounts receivable
less allowances)
279. Allowances Against Accounts Receivable
These are usually deducted from accounts
receivable to get the latter’s estimated recoverable
amount or realizable value.
a. Allowance for freight charges
b. Allowance for sales returns
c. Allowance for sales discounts
d. Allowance for doubtful accounts
280. FOB Destination
It is a shipping term which means that
ownership of the goods purchased is vested in the
buyer upon receipt thereof. Under this shipping
term, the seller (owner during the freight period) is
responsible for the freight charges.
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281. FOB Shipping Point
It is a shipping term which means that
ownership of the goods purchased is vested in the
buyer upon shipment thereof. Under this shipping
term, the buyer (owner during the freight period) is
responsible for the freight charges.
282. Freight Collect
It means that freight charge on the goods
shipped is not yet paid when the goods were
shipped (to be paid by the buyer).
283. Freight Prepaid
It means that freight charge on the goods
shipped was already paid (by the seller) when the
goods were shipped.
284. Journal Entry to Record Shipment of
Merchandise Sold Freight Collect Under FOB
Destination
Dr. Accounts receivable, Freight out; Cr.
Sales, Allowance for freight charge
285. Journal Entry to Record Shipment of
Merchandise Freight Prepaid Under FOB
Destination
Dr. Accounts receivable, Freight out; Cr.
Sales, Cash
286. Journal Entry to Record Shipment of
Merchandise Sold Freight Collect Under FOB
Shipping Point
Dr. Accounts receivable, Cr. Sales
287. Journal Entry to Record Shipment of
Merchandise Sold Freight Prepaid Under FOB
Shipping Point
Dr. Accounts receivable (invoice amount +
freight charge); Cr. Sales, Cash
288. Journal Entry to Record Probable Return of
Merchandise Sold to Customers
Dr. Sales return; Cr. Allowance for sales
returns
289. TRADE DISCOUNT
It is a discount that is allowed by the
wholesaler to the retailer, calculated on the list price
VOL-1A
of the product. No ledger account is opened for this
kind of discount.
290. Cash Discount
It is a discount allowed to stimulate instant
payment of the goods purchased.
Methods of Recording Credit Sales
292. Gross Method
It is a method of recording credit sales
where the accounts receivable and sales are
recorded at gross amount of the invoice (more
commonly used).
293. Net Method
It is a method of recording credit sales
where the accounts receivable and sales are
recorded at net amount of the invoice, meaning the
invoice price minus the cash discount.
***
294. Journal Entries Under the Gross Method of
Recording Credit Sales
a. Sale of merchandise on account – Dr.
Accounts receivable (gross amount of
invoice); Cr. Sales
b. Collection of customer’s account within
the discount period – Dr. Cash, Sales
discount; Cr. Accounts receivable
c. Collection of customer’s account
beyond the discount period – Dr. Cash;
Cr. Accounts receivable
295. Journal Entries Under the Net Method of
Recording Credit Sales
a. Sale of merchandise on account – Dr.
Accounts receivable (invoice price cash discount); Cr. Sales
b. Collection of customer’s account within
the discount period – Dr. Cash; Cr.
Accounts receivable
c. Collection of customer's account
beyond the discount period – Dr. Cash;
Cr. Accounts receivable, Sales discount
forfeited
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296. Sales Discount Forfeited
It is a miscellaneous or other income
account credited whenever there is a collection of
accounts receivable beyond the discount period
under the net method of recording credit sales.
297. Journal Entry to Record Expected Sales
Discount
Dr. Sales discount; Cr. Allowance for sales
discount (this entry may be reversed at the
beginning of the next period.)
298. Bad Debt or Doubtful Account
It is an expense that a business incurs once
the repayment of credit previously extended to a
customer is estimated to be uncollectible.
VOL-1A
304. Journal Entries Under the Allowance Method
of Recording Bad Debts or Doubtful Accounts
a. Provision for doubtful accounts – Dr.
Doubtful
accounts
expense;
Cr.
Allowance for doubtful accounts
b. Writeoff of accounts proved to be
worthless or uncollectible – Dr.
Allowance for doubtful accounts; Cr.
Accounts receivable
c. Recovery and collection of accounts
previously written off – Dr. Cash; Cr.
Allowance for doubtful accounts
305. Journal Entries Under the Direct Writeoff
Method of Recording Bad Debts or Doubtful
Accounts
Methods of Accounting for Bad Debts
300. Allowance Method
It is a method of accounting for bad debts
which requires the recognition of a bad debt loss if
the accounts are doubtful of collection (i.e., a
provision for doubtful accounts is required at the
end of reporting period).
301. Direct Writeoff Method
It is a method of accounting for bad debts
which requires recognition of a bad debt loss only
when the accounts are proved to be worthless or
uncollectible.
***
302. Provision
It is the amount of an expense that an entity
elects to recognize now, before it has precise
information about the exact amount of the expense.
a. Writeoff of accounts proved to be
worthless or uncollectible – Dr. Bad
debts expense; Cr. Accounts receivable
b. Recovery and collection of account
previously written off – Dr. Cash; Cr. Bad
debts expense
306. CLASSIFICATION OF DOUBTFUL ACCOUNTS
OR BAD DEBTS EXPENSE IN THE INCOME
STATEMENT
a. Distribution cost - if the granting of
credit and collection of accounts are
under the charge of the sales manager.
b. Administrative expense - if the granting
of credit and collection of accounts are
under the charge of an officer other than
sales manager.
If the problem is silent, bad debts expense is
an administrative expense.
303. Writeoff
It is a reduction in the recorded amount of an
asset which occurs upon the realization that an
asset no longer can be converted into cash, can
provide no further use to a business, or has no
market value.
Methods of Estimating Doubtful Accounts
308. Aging of Accounts Receivable
It refers to the method of estimating
doubtful accounts where the receivables are
classified by due date. The allowance is then
determined by multiplying the total of each
classification by the rate or percent of loss
experienced by the entity for each category
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(accurate and scientific; presents fairly
accounts receivable at net realizable value).
the
a. It is one of the statement of financial
position approaches in estimating
doubtful accounts.
b. It provides the ending allowance for
doubtful accounts.
309. Percentage of Accounts Receivable
It is a method of estimating doubtful
accounts where a certain rate is multiplied by the
open accounts at the end of the period in order to
get the required allowance balance.
a. It is one of the statement of financial
position approaches in estimating
doubtful accounts.
b. It provides the ending allowance for
doubtful accounts.
310. Percentage of Sales
It is a method of estimating doubtful
accounts where the amount of sales for the year is
multiplied by a certain rate to get the doubtful
accounts expense.
a. It is the only income statement approach
in estimating doubtful accounts.
b. It provides the doubtful accounts
expense for the period.
***
311. Journal Entry to Record Correction in
Allowance for Doubtful Account as a Change in
Accounting Estimate
a.
b.
Inadequate allowance - Dr. Doubtful
accounts expense; Cr. Allowance for
doubtful accounts
Excessive allowance - Dr. Allowance for
doubtful accounts; Cr. Doubtful
accounts expense
312. Allowance for Impairment
It is the loss allowance required to be
recognized for expected credit losses on financial
assets measured at amortized cost.
VOL-1A
313. Rules on Assessment for Impairment of
Accounts Receivable
a.
b.
c.
Individually
significant
accounts
receivable – should be considered for
impairment separately and if impaired,
the impairment loss is recognized.
Not individually significant accounts
receivable – should be collectively
assessed for impairment (use of a
composite rate that can appropriately
measure impairment on all accounts in
the category).
Individually
significant
accounts
receivable initially assessed to be
unimpaired – should be included with
other accounts receivable (those not
individually significant) with similar
credit
risk
characteristics
and
collectively assessed for impairment.
314. Journal Entry to Record Impairment Loss on
Accounts Receivable
Dr. Doubtful accounts expense; Cr.
Allowance for doubtful accounts
315. Negotiable Promissory Note
It is an unconditional promise made in
writing made by one person to another, signed by
the maker, engaging to pay on demand or at a fixed
or determinable future time a sum certain in money
to order or to bearer.
316. Dishonored
It is the status of a promissory note that has
already matured but is still unpaid after its
presentment for payment.
317. Treatment for Dishonored Notes Receivable
These (face amount, interest and other
charges) should be removed from the notes
receivable account and transferred to accounts
receivable.
318. Initial Measurement of Notes Receivable
The initial measurement should be fair value
plus transaction costs which is equal to:
a. General rule: Present value
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b. Exception: Short-term notes receivable
shall be measured at face value.
319. Present Value
It is the sum of all future cash flows
discounted using the prevailing market rate of
interest for similar notes.
320. Nominal Interest Rate
It is the interest rate written on the face of an
instrument (form).
321. Effective Interest Rate
It is the prevailing market rate of interest
(substance).
322. Classification of Notes Receivable
a. Interest-bearing note with nominal rate
is equal to effective interest rate
b. Interest-bearing note with nominal rate
is greater than effective interest rate
c. Interest-bearing note with (nominal rate
is less than effective interest rate
d. Noninterest-bearing note
VOL-1A
326. Treatment for Noninterest-Bearing Note
Receivable
It is measured at present value which is the
discounted value of future cash flows using the
effective interest rate.
327. Implicit Interest Rate
It is an interest rate that is not explicitly
stated in a debt agreement.
328. Subsequent Measurement of Notes Receivable
It is subsequently measured at amortized
cost using the effective interest method.
329. Formula for Amortized Cost of Note Receivable
(Effective Interest Method)
Initial measurement of note receivable Principal repayment ± Cumulative amortization Reduction for impairment or uncollectibility =
Amortized cost of note receivable
330. Loan Receivable
It is a financial asset arising from a loan
granted by a bank or other financial institution to a
borrower or client.
323. Treatment for Interest-Bearing Note
Receivable with Nominal Rate Equal to the Effective
Interest Rate
It is recorded at face value (which is equal to
its present value upon issuance).
331. Initial Measurement of Loan Receivable
It is initially measured at fair value plus
transaction costs that are directly attributable to
the acquisition of the financial asset (transaction
price + direct origination costs - origination fee).
324. Treatment for Interest-Bearing Note
Receivable with Nominal Rate Greater than the
Effective Interest Rate
It is recorded at face value (which is equal to
its present value upon issuance).
332. Direct Origination Costs
These are incremental direct costs of loan
origination
resulting
from
dealings
with
independent third parties for that loan and various
direct costs from specific activities of the lender for
that loan such as evaluating the prospective buyer’s
economic condition, evaluating and recording
guarantees, etc.
325. Treatment for Interest-Bearing Note
Receivable with Nominal Rate Less than the
Effective Interest Rate
It is measured at present value which is the
discounted value of future cash flows using the
effective interest rate.
333. Treatment for Direct Origination Costs
General rule: These are included in the initial
measurement of loan receivable.
Exception: These are expensed outright if
the loan did not materialize.
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334. Indirect Origination Costs
These are operating costs of a lending
institution not directly incurred for a specific loan
such as administrative cost, rent, depreciation and
all other occupancy and equipment costs.
335. Treatment for Indirect Origination Costs
These are expensed as incurred.
336. Origination Fee
It is an upfront fee charged by a lender for
processing of a new loan application.
337. Treatment for Origination Fee
It is recognized as unearned interest income
and amortized over the term of the loan.
338. Subsequent Measurement of Loan Receivable
It is subsequently measured at amortized
cost using the effective interest method.
339. Formula for Amortized Cost of Loan
Receivable (Effective Interest Method)
Initial measurement of loan receivable Principal repayment ± Cumulative amortization Reduction for impairment or uncollectibility =
Amortized cost of loan receivable
Models for the Provision for Credit Losses from
Financial Instruments
341. Incurred Loss Model (IAS 39 – Old)
It assumes that all loans will be repaid until
evidence to the contrary (known as a loss or trigger
event) is identified. Only at that point is the impaired
loan (or portfolio of loans) written down to a lower
value.
342. Expected Credit Loss Model (IFRS 9 – New)
It allows entities to take into account
expectations of future credit losses. It results in the
earlier recognition of credit losses as it will no
longer be appropriate for entities to wait for an
incurred loss event to have occurred before credit
losses are recognized.
VOL-1A
***
343. Credit Losses
These are the present value of all cash
shortfalls from a loan receivable or any similar
financial asset.
344. Credit Risk
It is the risk that one party to a financial
instrument will cause a financial loss for the other
party by failing to discharge an obligation.
345. Impairment Loss on Loan Receivable Under
the Incurred Loss Model
It is measured as the difference between the
carrying amount and the present value of estimated
future cash flows discounted at the original
effective rate.
Measurement Bases Under the Expected Credit
Loss Model
347. 12-Month Expected Credit Loss (Stage 1)
It is the portion of the lifetime expected
credit losses that represent the expected credit
losses that result from default events on a financial
instrument that are possible within the 12 months
after the reporting date. It applies to all items (from
initial recognition) as long as there is no significant
deterioration in credit quality
348. Lifetime Expected Credit Loss (Stages 2 and 3)
It is the expected credit loss that results
from all possible default events over the expected
life of the financial instrument. It applies when a
significant increase in credit risk has occurred on an
individual or collective basis
***
349. Loss Given Default
It is the amount of money a bank or other
financial institution loses when a borrower defaults
on a loan.
Stages of the General Approach (Expected Credit Loss Model)
350.
Stage 1
Stage 2
Stage 3
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Financial accounting and reporting
Loss allowance updated 12-month
at each reporting date
credit losses
Lifetime expected credit
losses criteria
VOL-1A
expected Lifetime expected credit
losses
Credit risk has increased
significantly since initial
recognition (whether on
an individual or collective
basis).
Lifetime expected credit
losses
Credit risk has increased
significantly since initial
recognition (whether on
an individual or collective
basis).
+
Credit impairment
Interest
income Effective interest rate on Effective interest rate on Effective interest rate on
calculated based on
gross carrying amount
gross carrying amount
amortized cost (gross
carrying amount less
loss allowance)
Change in credit risk
Improvement
Deterioration
since initial recognition
↔
351. Computation of Impairment Loss Under the
Stage 1 of General Approach
Carrying amount, reporting date
- Present value of expected cash flows
= Expected credit loss
* Probability of default within 12 months or
LGD
= 12-month expected credit loss allowance
- Expected credit loss allowance, previous
year
= Impairment loss
352. Computation of Impairment Loss Under Stage
2 of General Approach
Carrying amount, reporting date
- Present value of expected cash flows
= Expected credit loss
* Probability of default within the remaining
term or LGD
= Lifetime expected credit loss allowance
- Expected credit loss allowance, previous
year
= Impairment loss
353. Computation of Impairment Loss Under the
Stage 3 of General Approach
Carrying amount, reporting date
- Present value of expected cash flows
= Lifetime expected credit loss
- Expected credit loss allowance, previous
year
= Impairment loss
354. Receivable Financing
It is the financial flexibility or capability of an
entity to raise money out of its receivables.
355. Forms of Receivable Financing
a.
b.
c.
d.
Pledge of accounts receivable
Assignment of accounts receivable
Factoring of accounts receivable
Discounting of notes receivable
356. Pledge of Accounts Receivable
It is a form of receivable financing where a
business uses its accounts receivable as collateral
on a loan, usually a line of credit.
357. Line of Credit
It is the preset borrowing limit that a
borrower can use at any time.
358. Discount on Loan
It exists when the interest for the term of the
loan is deducted in advance.
359. Journal Entries Related to the Pledge of
Accounts Receivable
a. Commencement of loan in which the
accounts receivable have been pledged
– Dr. Cash, Discount on note payable (if
discounted); Cr. Note payable
b. Amortization of discount on note
payable at the end of reporting period or
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at the date of settlement – Dr. Interest
expense; Cr. Discount on note payable
c. Payment of bank loan – Dr. Note
payable; Cr. Cash
360. Formula for Carrying Amount of Discounted
Note Payable
Note payable – Discount on note payable =
Carrying amount of note payable
361. Assignment of Accounts Receivable
It is a form of receivable financing where a
borrower called the assignor transfer rights in some
accounts receivable to a lender called the assignee
in consideration for a loan.
Kinds of Assignment of Accounts Receivable
363. Nonnotification Basis
It is a kind of assignment of accounts
receivable where the customers are not informed
that their accounts have been assigned (more
commonly practiced).
364. Notification Basis
It is a kind of assignment of accounts
receivable where the customers are notified that
their accounts have been assigned to have them
make their payments directly to the assignee
***
365. Service Charge, Financing Charge or
Commission
It is the interest for the loan that an assignee
charges for the assignment agreement.
366. Equity in Assigned Accounts Receivable
It is the difference between the accounts
receivable assigned and the note payable from bank
that shall be disclosed by the entity.
367. Journal Entries Related to the Assignment of
Accounts Receivable Under Nonnotification Basis
a.
b.
Separation of assigned accounts
receivable – Dr. Accounts receivable –
assigned; Cr. Accounts receivable
Commencement of the loan for which
specific accounts receivable are
c.
d.
e.
f.
g.
VOL-1A
assigned with service charge – Dr.
Cash, Service charge; Cr. Note payable
– bank
Issuance of credit memo for sales
return to a customer whose account
was assigned – Dr. Sale return; Cr.
Accounts receivable – assigned
Collection of cash from assigned
accounts receivable less cash discount
– Dr. Cash, Sales discount; Cr. Accounts
receivable – assigned
Remittance
of
collections
from
assigned accounts receivable to the
bank (assignee) plus interest – Dr. Note
payable – bank, Interest expense; Cr.
Cash
Writeoff
of
assigned
accounts
receivable – Dr. Allowance for doubtful
accounts; Cr. Accounts receivable
Transfer
of
assigned
accounts
receivable to accounts receivable after
making the last remittance of
collections paying off the loan balance
plus interest – Dr. Accounts receivable;
Cr. Accounts receivable – assigned
368. Journal Entries Related to the Assignment of
Accounts Receivable Under Notification Basis
a.
b.
c.
d.
Separation of assigned accounts
receivable – Dr. Accounts receivable –
assigned; Cr. Accounts receivable
Receipt of notice from bank about
collection of accounts receivable
assigned with cash discount – Dr. Note
payable – bank, Sales discount; Cr.
Cash
Sending of check to bank for interest
due on loan for which accounts
receivable were assigned – Dr. Interest
expense; Cr. Cash
Receipt of notice from bank about
collection of assigned accounts
receivable allowing for the final
settlement of the loan (with interest)
and the remittance of excess
collections and return of uncollected
assigned accounts – Dr. Cash, Interest
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expense, Note payable – bank; Cr.
Accounts receivable – assigned
369. Factoring of Accounts Receivable
It is the selling of accounts receivables to a
third party to raise cash under notification and
nonrecourse bases.
370. Factor
It is the bank or finance entity to which the
accounts receivable are sold in factoring.
Forms of Factoring of Accounts Receivable
372. Casual Factoring
It is a type of factoring which simply means
normal sale of accounts receivable. If an entity finds
in a critical cash position, it may be forced to factor
some or all of its accounts receivable at a
substantial discount to a bank or a finance entity to
obtain the much needed cash.
373. Factoring in a Continuing Agreement
It is an arrangement where a financing entity
purchases all of the accounts receivable of a certain
entity. In this context, before the merchandise in
shipped to the customer, the company seeks for the
factor’s credit approval, if approved, the accounts
are directly sold to the factor then assumes for its
collections.
374. Journal Entry to Record the Factoring of
Accounts Receivable (Casual)
Dr. Cash, Allowance for doubtful accounts (if
any), Loss on factoring (balancing figure); Cr.
Accounts receivable
VOL-1A
377. Factor's Holdback
It is a predetermined amount withheld by the
factor as a protection against customer returns and
allowances and other special adjustments.
378. Journal Entries Related to the Factoring of
Accounts Receivable as a Continuing Agreement
a. Factoring where invoice is subject to
credit terms allowing for availment of
cash discount with commission and
factor’s holdback – Dr. Cash, Sales
discount,
Commission
(balancing
figure), Receivable from factor (factor’s
holdback); Cr. Accounts receivable
b. Return of merchandise by customer
whose account was previously factored
– Dr. Sales return and allowances
(invoice price of goods returned; Cr.
Sales discount (invoice price * discount
rate), Receivable from factor (balancing
figure)
c. Final settlement with the factor after all
the receivables factored are collected –
Dr. Cash; Cr. Receivable from factor
379. Credit Card
It is a plastic card which enables the holder
to obtain credit up to a predetermined limit from the
issuer of the card for the purchase of goods and
services (somewhat similar to factoring).
380. Journal Entries Related to Credit Card
Transactions
375. Factor's Credit Approval
It is required before a merchandise is
shipped to a customer when the reporting entity's
accounts receivable are under a factoring as a
continuing agreement.
a. Credit card sales – Dr. Accounts
receivable – credit card company; Cr.
Sales
b. Payment from credit card company – Dr.
Cash, Credit card service charge; Cr.
Accounts receivable – credit card
company
376. Factoring Fee or Commission
It is charged by the factor for its services of
credit approval, billing, collecting and assuming
uncollectible factored accounts.
381. Discounting of Note Receivable
It is a form of receivable financing where a
note receivable is converted into cash by selling
them to a financial institution at a discount.
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382. Endorsement
It is the transfer of right to a negotiable
instrument by simply signing at the back of the
instrument.
383. Endorsement with Recourse
It means that the endorser shall pay the
endorsee if the maker dishonors the note (default in
case the problem is silent).
384. Endorsement without Recourse
It means that the endorser avoids future
liability even if the maker refuses to pay the
endorsee on the date of maturity.
385. Net Proceeds
These refer to the discounted value of the
note received by the endorser from the endorsee.
386. Formula for Net Proceeds
Net proceeds = Maturity value – Discount
387. Maturity Value
It is the amount due on the note at the date
of maturity.
388. Formula for Maturity Value
Maturity value = Principal + Interest over the
whole term of the note
389. Maturity Date
It is the date on which the note should be
paid.
390. Principal
It is the amount appearing on the face of the
note (face value).
391. Interest
It is the amount of interest for the full term
of the note.
392. Formula for Interest
Interest = Principal * Rate * Time
VOL-1A
394. Discount
It is the amount of interest deducted by the
bank in advance.
395. Formula for Discount
Discount = Maturity value * Discount rate *
Discount period
396. Discount Rate
It is the rate used by the bank in computing
the discount.
397. Discount Period
It is the period of time from date of
discounting to maturity date (unexpired term of the
note).
398. Formula for Discount Period
Discount period = Term of the note – Expired
portion of the term up to the date of discounting
399. Journal for Discounting of Note Receivable
without Recourse
Dr. Cash, Loss on note receivable
discounting; Cr. Note receivable, Interest income
(principal * interest rate * time from date of note to
date of discounting)
Accounting Treatments for Discounting of Notes
Receivable with Recourse
401. Conditional Sale
It is a way of accounting for note receivable
discounting which treats the transaction as the sale
of note receivable subject to a condition (the
endorser has to refund the endorsee in case the
note is subsequently dishonored).
402. Secured Borrowing
It is a way of accounting for note receivable
discounting which treats the transaction as the
borrowing of cash by the endorser from the
endorsee with the note receivable held as security
by the latter for such borrowing.
***
393. Time
It is the period within which the interest shall
accrue (date of note to maturity date).
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403. Journal Entries Related to the Discounting of
Notes Receivable Under Conditional Sale
a. Discounting – Dr. Cash, Loss on note
receivable
discounting
(balancing
figure); Cr. Note receivable discounted (a
contra-asset deducted from other notes
receivable, requires disclosure of
contingent liability equal to this amount),
Interest income
b. Payment by the maker for the
discounted note at maturity – dr. Note
receivable
discounted
(Contingent
liability is extinguished also.); Cr. Note
receivable
c. Dishonor of discounted note by the
maker
• Payment to endorsee – Dr. Accounts
receivable; Cr. Cash
• Extinguishment
of
contingent
liability – Dr. Note receivable
discounted; Cr. Note receivable
404. Journal Entries Related to the Discounting of
Notes Receivable Under Secured Borrowing
VOL-1A
406. Journal Entry to Record Discounting of Own
Note
Dr. Cash, Discount on note payable; Cr. Note
payable (primary liability instead of contingent
liability)
INVENTORIES
408. Inventories
These are assets held for sale in the ordinary
course of business, in the process of production for
such sale, or in the form of materials or supplies to
be consumed in the production process or in the
rendering of services.
Nature of Operations
409. Trading Concern
It is one that buys and sells goods in the
same form purchased.
410. Manufacturing Concern
It is one that buys goods which are altered
or converted into another form before they are made
available for sale.
a. Discounting – Dr. Cash, Interest expense
(balancing figure); Cr. Liability for note
receivable discounted, Interest income
b. Payment by the maker for the
discounted note at maturity – Dr.
Liability for note receivable discounted;
Cr. Note receivable
c. Dishonor of discounted note by the
maker
• Payment to endorsee – Dr. Accounts
receivable; Cr. Cash
• Derecognition of liability for note
receivable discounted – Dr. Liability
for note receivable discounted; Cr.
Note receivable
411. Service Concern
It is one that provides work performed in an
expert manner by an individual or team for the
benefit of its customers.
***
405. Discounting of Own Note
It is the discounting of a promissory note
where the maker is not a customer but the reporting
entity itself.
415. Goods in Process or Work in Process
These are partially completed products
which require further process or work before they
can be sold.
412. Merchandise Inventory
It is generally applied to goods sold by a
trading concern.
Inventories of a Manufacturing Concern
414. Finished Goods
These are inventory that have been assigned
their full share of manufacturing costs.
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416. Raw Materials
These are goods that are to be used in the
production process.
417. Factory or Manufacturing Supplies
These are similar to raw materials but are
used indirectly in the production process. Indirect
usage means either of the following:
a. not physically incorporated in the
products being manufactured (e.g.,
sandpaper); or
b. though become part of the finished
product, the amounts involved are
insignificant that it is impractical to
attempt to allocate their costs directly to
the product (e.g., paint, nails, etc.).
***
418. Rule on the Inclusion of Goods in the Inventory
General rule: All goods to which the entity
has title shall be included as inventory, regardless
of location.
a. Goods owned and on hand
b. Goods in transit and sold FOB
destination
c. Goods in transit and purchased FOB
shipping point
d. Goods out on Consignment
e. Goods held in the hands of salesmen or
agents
f. Goods held by customers on approval or
on trial
Exception: Goods sold on installment basis,
though do legally remain as property of the seller,
are included in the inventory of the buyer and
excluded from that of the seller.
419. Summary of Ownership of Goods Under
Different Shipping Terms
a. FOB destination - the seller is the owner
while the goods are still in transit.
b. FOB shipping - the buyer becomes the
owner of the goods at the moment the
goods are shipped.
VOL-1A
Maritime Shipping Terms
421. FAS or Free Alongside
A seller who ships FAS must bear all
expenses and risk involved in delivering the goods
to the dock next to or alongside the vessel on which
the goods are to be shipped.
422. CIF or Cost, Insurance and Freight
Under this shipping contract, the buyer
agrees to pay in a lump sum the cost of the goods,
insurance cost and freight charge.
423. Ex-Ship
A seller who delivers the goods ex-ship
bears all expenses and risk of loss until the goods
are unloaded from the vessel at which time title and
risk of loss shall pass to the buyer.
***
424. Consignment
It is a method of marketing goods in which
the owner called the consignor transfers physical
possession of certain goods to an agent called the
consignee who sells them on the owner's behalf.
425. Treatment for Consigned Goods
These (including freight and other handling
charges) shall form part of the consignor's
inventory and excluded from the consignee's
inventory.
426. Journal Entries Related to Consigned Goods
a. Consignee upon sale of consigned
goods - Dr. Cash; Cr. Commission
Income, Due to Consignor
b. Consignee upon remittance of proceeds
- Dr. Due to Consignor; Cr. Cash (net of
commission)
c. Consignor upon remittance of proceeds
- Dr. Cash, Commission; Cr. Sales
427. Statement Presentation of Inventory
a. Current asset
b. As one line item in the statement of
financial position but the details of the
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Financial accounting and reporting
inventories shall be disclosed in the
notes to financial statements
Accounting Systems for Inventories
429. Periodic System
It calls for the physical counting of goods on
hand at the end of the accounting period to
determine quantities. This is generally used when
individual inventory items are of large volume and
have small peso investment (e.g., groceries,
hardwars, etc.).
430. Perpetual System
It requires the maintenance of records called
stock cards that usually offer a running summary of
the inventory inflow and outflow. This is commonly
used when the inventory items are of low volume
and, treated individually, represent a relatively large
peso investment (e.g., jewelry, cars, etc.).
***
431. Journal Entries Under the Periodic Inventory
System
a. Purchase of merchandise on account Dr. Purchases; Cr. Accounts payable
b. Payment of freight on purchase - Dr.
Freight in; Cr. Cash
c. Return of merchandise purchased to
supplier - Dr. Accounts payable; Cr.
Purchase return
d. Sale of merchandise on account - Dr.
Accounts Receivable; Cr. Sales
e. Return of merchandise sold from
customer - Dr. Sales return; Cr.
Accounts receivable
f. Adjustment of ending inventory - Dr.
Merchandise inventory-end; Cr. Income
summary
432. Journal Entries Under the Perpetual Inventory
System
a. Purchase of merchandise on account Dr. Merchandjse inventory; Cr. Accounts
payable
b. Payment of Freight on the Purchase - Dr.
Merchandise inventory; Cr. Cash
VOL-1A
c. Return of merchandise to supplier - Dr.
Accounts payable; Cr. Merchandise
inventory
d. Sale of merchandise on account - Dr.
Accounts receivable; Cr. Sales; Dr. Cost
of goods sold; Cr. Merchandise
inventory
e. Return of merchandise sold from
customer - Dr. Sales returns; Cr.
Accounts receivable; Dr. Merchandise
inventory; Cr. Cost of goods sold
f. Adjustment of ending inventory - no
entry required
433. Treatment
Overages
for
inventory
Shortages
or
a. Normal (e.g., due to evaporation) closed to cost of goods sold
b. Abnormal (e.g., theft) - charged to other
income or other expense
434. Trade discounts
These are deductions from the list or catalog
price in order to arrive at the invoice price which is
the amount actually charged to the buyer. These are
not recorded.
435. Cash discounts
These are deductions from the invoice price
when payment is made within the discount period.
The purpose of this type of discount is to encourage
prompt payment. These are recorded as purchase
discount by the buyer and sales discount by the
seller.
Components of Cost of Inventories
437. Cost of purchase
It comprises the purchase price, import
duties and irrevocable taxes, freight, handling and
other costs directly attributable to the acquisition of
finished goods, materjals and services. It does not
include interest expense.
438. Cost of Conversion
It includes costs that are directly (e.g., direct
labor) and indirectly (e.g., factory overhead) related
to the units of production.
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439. Other Inventoriable Costs
These are costs that are incurred to bring
the inventories to their present location or
condition.
***
440. Treatment for Storage Costs
a. Storage of goods in process – capitalized
b. Storage of finished goods - expensed
441. Treatment for Administrative Overhead
Expensed
442. Treatment for Distribution or Selling Cost
Expensed
443. Work in Progress
It is the term used to describe the
inventories of a service provider.
Cost Formulas for Inventories
445. First in, First Out (FIFO) Method
It assumes that the goods first purchased
are first sold and consequently the goods remaining
in the inventory at the end of the period are those
most
recently
purchased
or
produced.
Consequently:
a. The inventory is stated at current
replacement cost;
b. In a period of inflation or rising prices,
this method would result to the highest
net income; and
c. In a period of deflation or declining
prices, this method would result to the
lowest net income.
446. Weighted Average - Periodic
The cost of the beginning inventory plus the
total cost of purchases during the period is divided
by the total units purchased plus those in the
beginning inventory to get a weighted average unit
cost.
447. Weighted Average – Perpetual
The weighted average is calculated as each
additional shipment is received.
VOL-1A
448. Last in, First Out (LIFO) Method
It assumes that the goods last purchased
are first sol and consequently the goods remaining
in the inventory at the end of the period are those
first purchased or produced. The standard,
however, does not permit anymore the use of this
formula in measuring cost of inventories.
449. Specific Identification
It requires a detailed physical count, so that
the company knows exactly how many of each good
brought on specific dates remained at year-end
inventory. When this information is found, the
amount of goods is multiplied by their purchase
cost at their purchase date, to get a number for the
ending inventory cost. The major argument against
this method is that it is very costly to implement.
450. Standard Costs
These are predetermined product costs
established on the basis of normal levels of
materials and supplies, labor, efficiency and
capacity utilization (to be discussed further in
Advanced Accounting and Reporting).
451. Relative Sales Price Method
It is used when different commodities are
purchased at a lump sum by apportioning the single
cost among the commodities based on their
respective sales price.
***
452. Measurement of Inventory
General rule: Inventories shall be measured
at the lower of cost and net realizable value.
Exceptions:
a. Agricultural, forest and mineral products
– net realizable value
b. Commodities of broker-traders – fair
value less cost of disposal
453. Net Realizable Value
It is the estimated selling price in the
ordinary course of business less the estimated cost
of completion and the estimated cost of disposal.
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454. Method of Determination of Net Realizable
Value
a. It is usually on an item by item or
individual basis.
b. It is not appropriate to write down
inventories based on a classification of
inventory (e.g., raw materials, work in
process, and finished goods).
c. Materials and other supplies held for use
in production are not written down below
cost if the finished products in which
they will be incorporated are expected to
be sold at or above cost.
VOL-1A
purchase
commitment
previously
recorded.
c. Whatever the case is, the Purchases
account is debited at the lower of the
purchase commitment price and the
replacement cost (or prevailing market
purchase price).
460. Biological Assets
These are living animals and living plants
used in agricultural activities.
461. Agricultural Produce
It is the harvested product of an entity’s
biological assets.
Methods of Accounting for Inventory Writedown
456. Direct Method
The inventory is recorded at the lower of
cost or net realizable value. Any loss on inventory
writedown is not accounted for separately but
buried in the cost of goods sold.
457. Allowance Method
The inventory is recorded at cost and any
loss on inventory writedown is accounted for
separately. A loss account “loss on inventory
writedown” is debited and a valuation account
“allowance for inventory writedown” is credited.
***
458. Purchase Commitments
These are obligations of the entity to acquire
certain goods sometime in the future at a fixed price
and fixed quantity.
459. Treatment for Purchase Commitments
a. If there is a decline in purchase price
after
a
noncancelable
purchase
commitment has been made, a loss is
recorded in the period of the price
decline (Dr. Loss on purchase
commitment; Cr. Estimated liability for
purchase commitment).
b. Conversely, if a gain is recognized if
there is an increase in purchase price but
such gain is limited to the loss on
462. Harvest
It is the detachment of produce from a
biological asset or cessation of a biological asset’s
life processes.
463. Agricultural Activity
It is the management by an entity of the
biological transformation and harvest of biological
assets for sale or for conversion into agricultural
produce or into additional biological assets (e.g.,
raising livestock, annual or perennial cropping, etc.).
464. Biological Transformation
It comprises the processes of growth,
degeneration, production and procreation that
cause qualitative or quantitative changes in a
biological asset.
Types of Biological Transformations
466. Growth
It is an increase in quantity or improvement
in quality of an animal or plant.
467. Degeneration
It is a decrease in quantity or deterioration in
quality of an animal or plant.
;
468. Procreation
It is the creation of additional living animal
or plant.
***
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469. Measurement of Biological Assets
General rule: Biological assets shall be
measured on initial recognition and at the end of
reporting period at fair value less cost of disposal.
Exception: Only on initial recognition, a
biological asset, for which market determined
prices are not available or estimates of fair value are
determined to be clearly unreliable, shall be
measured at cost less accumulated depreciation
and any accumulated impairment loss. However,
once the fair value of such a biological asset
becomes clearly measurable, the entity shall
measure the biological asset at fair value less cost
of disposal.
470. Measurement of Agricultural Produce
Agricultural produce growing on bearer
plant (see no. 472 for definition) is measured at fair
value less cost of disposal with changes recognized
in profit or loss as the produce grows (i.e.,
measured at the end of each reporting period).
Agricultural produce shall be measured at
fair value less cost of disposal at the point of
harvest. Subsequently, its measurement shall
conform to that of inventories (i.e., lower of cost or
net realizable value).
471. Cost of Disposal
It is the incremental cost directly
attributable to the disposal of an asset. In other
words, cost of disposal is necessary for a sale to
occur but that would not otherwise arise (e.g.,
commission to broker or dealer, transfer tax, etc.).
472. Journal Entry to Record Harvesting of
Agricultural Produce
Dr. Inventory; Cr. Gain on change in fair
value (fair value less cost of disposal of agricultural
produce – decrease in fair value of biological asset
due to harvest)
VOL-1A
value of the biological assets. The fair value of the
land may be deducted from the fair value of the
combined assets to arrive at the fair value of the
biological assets.
475. Government Grant Related to Biological Assets
The grant relating to biological asset that
has been measured at fair value less cost of
disposal shall be recognized as income in the
following manner:
a. Unconditional grant – when the grant
becomes receivable; or
b. Conditional grant – when the conditions
attaching to the grant are met.
Refer to PAS 20 “Government Grant” for
grants relating to biological asset measured at cost
less any accumulated depreciation and any
accumulated impairment loss.
476. Bearer Plants
These are living plants that:
a. Are used in the production or supply of
agricultural produce;
b. Are expected to bear produce for more
than one period; and
c. Has a remote likelihood of being sold as
agricultural
produce,
except
for
incidental scrap sales.
Examples: Mango trees, grape vines, etc.
Exclusions: Trees grown and harvested to
be sold as log; annual crops which do not bear
produce for more than one period and are held
solely to be harvested as agricultural produce.
473. Agricultural Land
It is classified under property, plant and
equipment and not under biological assets.
477. Classification Immature Bearer Plants
These are classified as qualifying assets or
assets which are being built by an entity and it takes
a substantial time to build them. Costs such as
general and specific borrowing costs are to be
capitalized until the bearer plants reach maturity.
474. Biological Asset Attached to Land
An entity may use information regarding the
combined assets (e.g., trees in a plantation forest
and land sold as a package) to determine the fair
478. Classification of Mature Bearer Plants
These are classified as property, plant and
equipment measured either using the cost model or
revaluation model.
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reporting
period
479. Plants with Dual Use
These are plants which are:
a.
b.
Cultivated for bearing agricultural
produce; and
Are being sold either as a living plant or
agricultural produce.
480. Classification of Plants with Dual Use
These are classified as biological assets.
481. Classification of Bearer Animals
These are classified as biological assets.
VOL-1A
period or
date
of
recognition
486. Journal Entries for Changes in Fair Value of
Biological Assets
a. At birth – Dr. Biological assets; Cr. Gain
on change in fair value
b. Net increase in fair value – Dr. Biological
assets; Cr. Gain on change in fair value
c. Net decrease in fair value – Dr. Loss on
change in fair value; Cr. Biological assets
Methods of Estimating Inventory Valuation
482. Classification of Animals Related to
Recreational Activities
These are classified as property, plant and
equipment.
Types of Changes in Fair Value of Biological
Assets
Type
484.
Price
change
Minuend
Fair value
at:
a. Age –
end
of
reporting
period
b.
Valuation
– end of
reporting
period
485.
Fair value
Physical at:
change
a. Age –
beginning
of
reporting
period or
date
of
recognition
b.
Valuation
– end of
Subtrahend
Fair value
at:
a. Age –
beginning
of reporting
period or
date
of
recognition
b.
Valuation –
end
of
reporting
period
Fair value
at:
a. Age –
beginning
of reporting
period or
date
of
recognition
b.
Valuation –
beginning
of reporting
Add
488. Gross Profit Method
It is based on the assumption that the rate
of gross profit remains approximately the same
from period to period and therefore the ratio of cost
of goods sold to net sales is relatively constant from
period to period.
489. Retail Inventory Method
It is a technique used to estimate the value
of ending inventory in stores using the cost to retail
price ratio.
***
490. Purposes of Estimating the Value of Inventory
Gain on
change
in
fair
value at
birth
a. To determine the amount of inventory
destroyed by fire and other catastrophe
or theft for insurance purposes;
b. To
verify
the
correctness
or
reasonableness of physical count; and
c. To use the estimate in preparing interim
financial statements (because it may
take time to do a physical count).
491. Basic Formula Under the Gross Profit Method
Ending inventory = Goods available for sale
– Cost of goods sold
492. Formula for Goods Available for Sale
Goods available for sale = Beginning
inventory + Purchases + Freight in – Purchase
returns, allowances and discount
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493. Formulas for Gross Profit and Gross Profit
Rate
a. Gross profit = Net sales – Cost of goods
sold
b. Gross profit rate based on sales = Gross
profit / Net sales
c. Gross profit rate based on cost = Gross
profit / Cost of goods sold
494. Formulas for Cost of Goods Sold
a. Gross profit based on sales is available:
Cost of goods sold = Net sales * Cost
ratio
b. Gross profit based on cost is available:
Cost of goods sold = Net sales / Sales
ratio
495. Formula for Conversion of Gross Profit Rate
Based on Sales to Gross Profit Based on Cost and
Vice Versa
a. Gross profit rate based on cost = Gross
profit rate based on sales / (100% Gross profit based on sales)
b. Gross profit rate based on sales = Gross
profit rate based on cost / (100% + Gross
profit based on cost)
496. Treatment for Sales Allowance and Sales
Discount Under the Gross Profit Method
These are not deducted from sales (only
sales returns are deducted) because they do not
affect the physical volume of goods sold.
497. Basic Formula Under the Retail Inventory
Method
a. Goods available for sale at retail or
selling price – Net sales (gross sales
minus sales returns only) = Ending
inventory at selling price
b. Ending inventory at cost = Ending
inventory at selling price * Cost ratio
c. Cost ratio = Goods available for sale at
cost / Goods available for sale at selling
price
VOL-1A
Treatment of Items Under the Retail Inventory
Method
Item
Treatment
499.
Purchase Deducted
from
Discount
purchases at cost only
500. Purchase Return
Deducted
from
purchases at cost and
at retail
501.
Purchase Deducted
from
Allowance
purchases at cost only
496. Freight in
Addition to purchases
at cost only
502.
Departmental Addition to purchases
Transfer in or Debit
at cost and at retail
503.
Departmental Deduction
from
Transfer out or Credit
purchases at cost and
at retail
504. Sales Discount Disregarded (i.e., not
and Sales Allowance
deducted from sales)
505. Sales Return / Deducted from sales
Sales
Return
and
Allowance
506.
Employee Added to sales
Discounts
507. Normal shortage, Deducted from goods
shrinkage,
spoilage, available for sale at
breakage
retail
508.
Abnormal Deducted from goods
shortage,
shrinkage, available for sale both
spoilage, breakage
at cost and at retail
Other Items Related to Retail Method
Item
510. Initial Markup
Description
It is the original markup
on the cost of goods.
511. Original Retail
It is the sales price at
which the goods are
offered for sale.
512. Additional Markup It is an increase in sales
price above the original
sales price.
513.
Markup It is a decrease in sales
Cancelation
price that does not
decrease the sales
price below the original
sales price.
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514. Net Additional Markup minus markup
Markup or Net Markup cancelation.
515. Markdown
It is a decrease in sales
price below the original
sales price.
516.
Markdown It is an increase in sales
Cancelation
price that does not
increase the sales price
above the original sales
price.
517. Net Markdown
Markdown
minus
markdown cancelation.
518.
Maintained It is the difference
Markup / Markon
between cost and sales
price after adjustment
for all of the above
items.
Approaches in the Use of Retail Method
VOL-1A
an auxiliary relationship to the central revenue
producing activities of the entity.
525. Purposes of Investments
a. Accretion of wealth – e.g., interest,
dividends, royalties, rentals, etc.
b. Capital appreciation – e.g., land, real
estate, gold, diamonds, etc.
c. Ownership control – e.g., investments in
subsidiaries and associates
d. Meeting business requirements – e.g.,
sinking
fund,
preference
share
redemption fund, plant expansion fund,
etc.
e. Protection – e.g., cash surrender value
526. Classification of Investments
520. Conservative / Conventional / LCNRV
Approach
It considers any net markup but ignores any
net markdown in the computation of goods
available for sale at retail price as denominator in
the formula for cost ratio.
a. Current asset – if investments are
readily realizable and are intended to be
held for not more than one (1) year.
b. Noncurrent asset – if investments are
intended to be held for more than one (1)
year or are not expected to be realized
within twelve (12) months after the end
of the reporting period.
521. Average Cost Approach
It includes both net markup and net
markdown in the computation of goods available
for sale at retail price as denominator in the formula
for cost ratio.
527. Financial Instrument
It is any contract that gives rise to a financial
asset of one entity and a financial liability or an
equity instrument of another entity.
522. FIFO Retail Approach
It includes both net markup and net
markdown in the computation of goods available
for sale at retail price as denominator in the formula
for cost ratio.
In addition, it does not consider the
beginning inventory in the computation of cost ratio
(called current year cost ratio) both in the
numerator (at cost) and denominator (at retail
price) sides.
INVESTMENTS
524. Investments
These are assets not directly identified with
the operating activities of an entity and occupy only
528. Financial Asset
It is any asset that is:
a. Cash;
b. A contractual right to receive cash or
another financial asset from another
entity (e.g., trade accounts receivable,
notes receivable, loans receivable,
bonds receivable, etc.);
c. A contractual right to exchange financial
instrument with another entity under
conditions that are potentially favorable
(e.g., option held by the holder to
purchase shares of another entity at less
than market price); or
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d. An equity instrument of another entity
(e.g., trading securities).
529. Items Not Considered Financial Assets
a. Intangible assets
b. Physical assets – inventory
property, plant and equipment
c. Prepaid expenses
d. Leased assets
and
530. Equity Security
It refers to any instrument representing
ownership shares and right, warrants or options to
acquire or dispose of ownership shares at a fixed or
determinable price (e.g., ordinary shares, preference
shares, etc.).
531. Debt Security
It refers to any security that represents a
creditor relationship with an entity (e.g., corporate
bonds, BSP treasury bills, etc.).
532. Classification of Financial Assets
a. Those held at fair value through profit or
loss (FVPL) – equity and debt
instruments
b. Those held at fair value through other
comprehensive income (FVOCI) – equity
and debt instruments
c. Those held at amortized cost – debt
instruments only
533. Measurement of Equity Investments
a. At fair value through profit or loss
• Those held for trading (i.e., trading
securities)
• Those not held for trading
• All other investments in quoted
equity instruments
b. At
fair
value
through
other
comprehensive income
• Those not held for trading but
irrevocably elected to be measured
at FVOCI
c. At cost
VOL-1A
•
Investment in unquoted equity
instruments
d. Under equity method of accounting
• Investment of 20% to 50% interest
against investee
e. Under consolidation method
• Investment of more than 50%
interest against investee
534. Measurement of Debt Investments
a. At fair value through profit or loss
• Those held for trading
• Those held for collection of
contractual
cash
flows
but
irrevocably designated to be
measured at FVPL (i.e., fair value
option)
• Those held for collection of
contractual cash flows and for sale
of the financial asset but irrevocably
designated to be measured at FVPL
b. At
fair
value
through
other
comprehensive income
• Those held for collection of
contractual cash flows and for sale
of the financial asset
c. At amortized cost
• Those held for collection of
contractual cash flows
535. Fair Value of an Asset
It is the price that would be received to sell
an asset in an orderly transaction between market
participants at the measurement date. At initial
recognition, the fair value of a financial asset is
normally the transaction price (i.e., equal to the
consideration given).
536. Quoted Price of Equity Security
It means the price per share of such security
in pesos.
537. Initial Measurement of Financial Assets
a. In case of financial asset held at FVPL –
at fair value
b. In case of financial asset held at FVOCI
– at fair value plus transaction costs
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directly attributable to the acquisition of
the financial asset
c. In case of financial asset held at
amortized cost – at fair value plus
transaction costs directly attributable to
the acquisition of the financial asset
538. Directly Attributable Transaction Costs
These are costs that would not have been
incurred had the entity not acquired a financial
asset.
539.
Treatment
for
Directly
Attributable
Transaction Costs
General rule: These are capitalized as part of
the financial asset.
Exception: If the financial asset is measured
at FVPL, such costs are expensed outright.
540. Recognition of Gain or Loss on Change in Fair
Value
a. Financial asset held at FVPL– such gain
or loss shall be presented in the profit or
loss (i.e., income statement).
b. Financial asset held at FVOCI – such
gain or loss shall be presented in the
other comprehensive income.
c. Financial asset held at amortized cost –
such gain or loss are not recognized
because the investment concerned is
not reported at fair value.
541. Unrealized and Realized Changes in Fair Value
a. Unrealized gain – fair value at the
reporting date is higher than carrying
amount before adjustment (no sale)
b. Unrealized loss – fair value at the
reporting date is lower than carrying
amount before adjustment (no sale)
c. Realized gain – fair value at the date of
sale of financial asset is higher than
carrying amount
d. Realized loss – fair value at the date of
sale of financial asset is lower than
carrying amount
VOL-1A
542. Journal Entries Related to Equity Investment
Held at FVPL
a. Acquisition – Dr. Trading securities,
Commission expense (transaction cost);
Cr. Cash
b. Increase in fair value at reporting date –
Dr. Trading securities; Cr. Unrealized
gain – Trading securities (fair value less
carrying amount)
c. Decrease in fair value at reporting date –
Dr. Unrealized loss -TS – Trading
securities (carrying amount less fair
value); Cr. Trading securities
d. Sale at higher than carrying amount –
Dr. Cash (proceeds from sale); Cr.
Trading securities (carrying amount),
Gain on sale of trading securities
(balancing figure)
e. Sale at lower than carrying amount – Dr.
Cash (proceeds from sale), Loss on sale
of trading securities (balancing figure);
Cr. Trading securities (carrying amount)
543. Journal Entries Related to Equity Investment
Held at FVOCI
a. Acquisition – Dr. Financial asset –
FVOCI (fair value plus transaction cost)
(alternative account: Available for sale
securities); Cr. Cash
b. Increase in fair value at reporting date –
Dr. Financial Asset – FVOCI; Cr.
Unrealized gain – OCI (fair value less
carrying amount)
c. Decrease in fair value at reporting date –
Dr. Unrealized loss – OCI (carrying
amount less fair value)
d. Sale at higher than carrying amount –
Dr. Cash (proceeds); Cr. Financial asset
– FVOCI (carrying amount), Retained
earnings (balancing figure)
e. Sale at lower than carrying amount – Dr.
Cash (proceeds), Retained earnings
(balancing figure); Cr. Financial asset –
FVOCI (carrying amount
f. Reclassification
of
cumulative
unrealized gain and/or loss upon sale of
financial asset – Dr. Unrealized gain –
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OCI (cumulative balance); Cr. Unrealized
loss – OCI (cumulative balance),
Retained earnings (balancing figure,
may also be debited)
544. Reclassification of Financial Asset
VOL-1A
b. It is applied prospectively from the
reclassification date.
545. Reclassification Date
It is the first day of the reporting period
following the change in business model that results
in an entity’s reclassification of financial asset.
a. It is required only when an entity
changes its business model for
managing the financial asset.
Reclassification Procedures
To FVPL
To FVOCI
From FVPL
n/a
From FVOCI
a. Recognize
any
unrealized gain or
loss (in OCI) to
measure the financial
asset at the latest fair
value.
b. The financial asset
continues
to
be
measured
at
fair
value.
c. The cumulative gain
or loss previously
recognized in OCI is
reclassified to profit
or
loss
at
reclassification date.
a. Recognize
any
n/a
unrealized gain or
loss (in profit or loss)
to
measure
the
financial asset at the
latest fair value.
b. The financial asset
continues
to
be
measured
at
fair
value.
c. Recognized
any
subsequent changes
in fair value in OCI.
From Amortized Cost
b. The fair value on
reclassification date
becomes the new
gross
carrying
amount.
c. The
difference
between the previous
carrying amount and
fair value at the date
of reclassification is
recognized in the
profit or loss.
d. Effective interest rate
is calculated based on
the
new
gross
carrying amount.
a. The fair value on
reclassification date
becomes the new
gross
carrying
amount.
b. The
difference
between
the
amortized
cost
carrying amount and
fair
value
is
recognized in other
comprehensive
income.
c. Effective interest rate
at initial recognition
and the measurement
of expected credit
losses
are
not
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To Amortized Cost
a. Recognize
any a. Recognize
any
unrealized gain or
unrealized gain or
loss (in profit or loss)
loss (in OCI) to
to
measure
the
measure the financial
financial asset at the
asset at the latest fair
latest fair value.
value.
b. The fair value at the b. The fair value at the
reclassification date
reclassification date
becomes the new
becomes the new
carrying amount.
amortized
cost
c. The
difference
carrying amount.
between the new c. The cumulative gain
carrying amount of
or loss previously
the financial asset at
recognized in OCI is
amortized cost and
removed from equity
the face value of the
and adjusted against
financial asset shall
the fair value at
be amortized using
reclassification date.
the effective interest
method.
547. Impairment of Equity Investments
It is not necessary to assess financial assets
(equity and debt investments) measured at fair
value through profit or loss and equity investments
measured
at
fair
value
through
other
comprehensive income for impairment.
548. Impairment of Debt Investments
An entity shall recognize a loss allowance
for expected credit losses on:
a.
b.
Debt investment measured at amortized
cost; and
Debt investment measured at FVOCI.
See nos. 377-348 for related procedure.
549. Considerations in the Measurement of
Impairment
a. Probability weighted outcome – The
estimate should reflect the possibility
that a credit loss occurs and the
possibility that no credit loss occurs.
b. Time value of money – The expected
credit losses should be discounted.
VOL-1A
adjusted as a result of
reclassification.
n/a
c. Reasonable
and
supportable
information that is available without
undue cost or effort.
550. Acquisition Cost of Equity Securities Acquired
in an Exchange
Such cost shall be determined by reference
to the following in order of priority:
a. Fair value of asset given
b. Fair value of asset received
c. Carrying amount of asset given
551. Allocation of Cost of Equity Securities
Acquired in Lump Sum
If two or more equity securities are acquired
at a single cost or lump sum, the single cost is
allocated to the securities acquired on the basis of
their fair value.
552. Categories of Investments in Equity Securities
a. Trading securities or financial assets at
FVPL
b. Financial assets at FVOCI (formerly
called available for sale securities)
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c. Investment in associate
d. Investment in subsidiary
e. Investment
in
unquoted
instruments
equity
553. Unquoted Equity Instruments
These are measured at cost if the fair value
cannot be measured reliably.
554. Sale of Equity Securities of the Same Class
Acquired at Different Dates and at Different Costs
In that case, the entity shall determine the
cost of securities using either FIFO or average cost
approach.
555. Dividend
It is a distribution of profits by a corporation
to its shareholders.
Significant Dates Related to Dividends
557. Date of Declaration
This is the date on which the payment of
dividends is approved by the Board of Directors.
Journal entry: Dr. Dividends receivable; Cr.
Dividend income
558. Date of Record
This is the date on which the stock and
transfer book of the corporation is closed for
registration. Only those stockholders registered as
of this date are entitled to receive dividends.
Journal entry: No entry required.
559. Date of Payment
This is the date on which the dividends
declared shall be paid.
Journal entry: Dr. Cash; Cr. Dividends
receivable
***
560. Shares Selling Dividend-On
These are those shares sold between the
date of declaration and the record date. This means
that when shares are sold between these dates,
they carry with them the right to receive dividends.
VOL-1A
561. Shares Selling Ex-Dividend
These are those shares sold between the
date of record and the date of payment. This means
that the shares can be sold, and still the original
shareholder has the right to receive the dividends
on payment date.
562. Recognition of Dividends as Income
These shall be recognized as revenue on the
date of declaration. The reason is that when
dividends are declared, the shareholder has already
acquired the right thereto so much so that if the
shares are subsequently sold, the sale price
normally includes the accrued dividends.
563. Journal Entry to Record Sale of Shares ExDividend
Dr. Cash (proceeds); Cr. Investment in equity
securities (carrying amount of shares sold),
Dividend income, Gain on sale of investment
(balancing figure)
Forms of Dividends
565. Cash Dividends
These are dividends paid to shareholders in
the form of cash. (See no. 553 for related journal
entry.)
566. Property Dividends
Also known as dividends in kind, these are
dividends in the form of property or noncash assets.
These are considered as income and recorded at
fair value.
Journal entry: Dr. Noncash assets; Cr.
Dividend income
567. Liquidating Dividends
These represent return of invested capital,
and therefore, are not income. The payment may be
in the form of cash or noncash assets.
Journal entry: Dr. Cash or other appropriate
account; Cr. Investment in equity securities
568. Stock Dividends
Also known as bonus issue, these are
dividends in the form of the issuing entity’s own
shares. Such dividends are not reported as income.
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Shares of another entity declared as dividends are
not stock dividends but property dividends.
***
569. Wasting Asset Corporation
It is a corporation engaged in mining or
cutting timber or some such business, so that
dividends are in fact paid out of capital, the assets
being consumed in the regular course of
operations.
570. Rule on Payment of Liquidating Dividends
General rule: Liquidating dividends are paid
when the corporation is dissolved and liquidated.
Exception: Wasting asset corporations are
allowed to pay liquidating dividends even before
dissolution and liquidation (journal entry: Dr. Cash;
Cr. Dividends income [normal dividend], Investment
in equity securities [liquidating dividend]).
VOL-1A
a. At fair value of shares received; or
b. Equal to the cash dividends that would
have been received (in the absence of
fair value).
575. Cash Received in Lieu of Stock Dividends
This is the case when stock dividends are
declared but cash is received in lieu of stock
dividends.
Approaches to the Recording of Cash Received in
Lieu of Stock Dividends
577. As If Approach
This approach is the one to be followed
under financial accounting. It asserts that the stock
dividends are assumed to be received and
subsequently sold at the cash received. Therefore,
a gain or loss may be recognized.
Journal entries:
Kinds of Stock Dividends
572. Stock Dividends of the Same Kind
These are stock dividends which are of the
same class or series (e.g., ordinary shares,
preference shares, etc.) as those held already by the
shareholder (reporting entity). The receipt of these
shares is recorded only by means of a
memorandum entry on the part of the shareholder.
Stock dividends do not affect the total cost of the
investment but reduce the cost of the investment
per share.
573. Stock Dividends Different from Those Held
These are stock dividends which are of a
different class or series as those held already by the
shareholder. The original cost of the investment is
apportioned between the original shares and the
stock dividends (of different class or series) on the
basis of market value of each at the date of receipt
(journal entry: Dr. Investment in preference shares;
Cr. Investment in ordinary shares).
***
574. Shares Received in Lieu of Cash Dividends
This is the case when cash dividends are
declared but shares are received in lieu of cash. The
following are to be used in recognizing the receipt
of such dividend as income (in order of priority):
a. Cash received > Investment carrying
amount allocated to assumed stock
dividends – Dr. Cash; Cr. Investment in
equity securities; Gain on investment
(balancing figure)
b. Cash received < Investment carrying
amount allocated to assumed stock
dividends – Dr. Cash, Loss on
investment (balancing figure); Cr.
Investment in equity securities
578. BIR Approach
Under the ruling of the BIR, all cash received,
whether originally designated as cash dividend or
stock dividend, is recognized as income.
***
579. Share Split
It is a change in the number of shares
outstanding without capitalizing retained earnings
or changing the amount of a corporation’s legal
capital.
Types of Share Splits
581. Split Up
It is a transaction whereby the outstanding
shares are called in and replaced by a larger
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number, accompanied by a reduction in the par or
stated value of each share. Only a memorandum
entry is made to record the receipt of the shares by
virtue of share split.
582. Split Down
It is the reverse of the split up. The
outstanding shares are called in and replaced by a
smaller number, accompanied by an increase in the
par or stated value. Only a memorandum entry is
made to record the receipt of the shares by virtue of
share split.
***
583. Special Assessments
These are additional capital contribution of
the shareholders (i.e., additional investment without
the increase in the number of shares owned). These
are recorded as additional cost of the investment on
the part of the shareholders.
Journal entry: Dr. Investment in equity
securities; Cr. Cash
584. Redemption of Shares
It is a transaction where the shareholder
sells a portion or all of its shares (usually preference
shares) back to the issuing corporation in
accordance with the terms provided in the share
certificate (i.e., at a defined date after issuance).
Such transaction is recorded in the same manner as
the sale of shares.
Journal entry: Dr. Cash (proceeds); Cr.
Investment in preference shares, Gain on
investment (balancing figure) (Dr. Loss on
investment if the cash received is less than the
carrying amount of the shares redeemed)
585. Stock Right or Rights Issue
Also called as preemptive right, it is a legal
right granted to shareholders to subscribe for new
shares issued by a corporation at a specified price
during a definite period. As a general rule, a
shareholder receives one right for every share
owned.
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Accounting Treatments for Stock Rights
587. Accounted for Separately.
The stock rights as a form of equity
instrument is measured initially at fair value and
classified as current asset.
588. Not Accounted for Separately
The stock rights are recognized as
embedded derivative of the host contract
“investment in equity instrument.”
Significant Dates Related to Stock Rights
590. Date of Declaration
It is the date on which the issuance of stock
rights is approved by the Board of Directors.
591. Date of Record
It is the date on which the stock and transfer
book of the entity will be closed for registration and
only those shareholders registered as of this date
are entitled to receive stock rights.
592. Expiration Date
It is the date up to which the stock rights
shall be exercised.
***
593. Shares Selling Right-On
These refer to shares sold between the date
of declaration and date of record of stock rights.
This means that the share cannot be sold without
also selling the right or vice versa.
594. Shares Selling Ex-Right
These refer to shares sold after the date of
record of stock rights. This means that the share
can now be sold separately from the right or vice
versa.
595. Theoretical or Parity Value of Stock Right
It is the assumed fair value of the right that
is derived from the market value of the share.
Formulas:
a.
Shares selling right on: Value of one
right = Market value of share right on
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b.
minus subscription price / Number of
rights to purchase one share plus 1
Shares selling ex-right: Value of one
right = Market value of share ex-right
minus subscription price / Number of
rights to purchase one share
596. Journal Entries Related to Stock Rights
Accounted for Separately
c.
d.
e.
f.
g.
Original investment in shares – Dr.
Investment in equity securities; Cr. Cash
Receipt of stock rights – Dr. Stock
rights; Cr. Investment in equity
securities
Exercise of stock rights – Dr.
Investment in equity securities; Cr.
Cash, Stock rights
Sale of stock rights at a gain – Dr. Cash;
Cr. Stock rights, Gain on sale of stock
rights (balancing figure)
Expiration of stock rights – Dr. Loss on
stock rights; Cr. Stock rights
597. Journal Entries Related to Stock Rights Not
Accounted for Separately
a.
b.
c.
d.
e.
Original investment in shares – Dr.
Investment in equity securities; Cr. Cash
Receipt of stock rights – Memorandum
entry
Exercise of stock rights – Dr.
Investment in equity securities; Cr. Cash
Sale of stock rights – Dr. Cash; Cr.
Investment in equity securities
Expiration
of
stock
rights
–
Memorandum entry
598. Significant Influence
It is the power to participate in the financial
and operating policy decisions of the investee but
not control or joint control over those policies.
599. Control
It is the power over the investee or the power
to govern the financial and operating policies of an
investee so as to obtain benefits.
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600. Associate
It is defined as an entity over which the
investor has significant influence.
601. Subsidiary
It is defined as an entity that is controlled by
another entity.
602. Degree of Influence of Investor
a. Ownership of less than 20% of
outstanding shares – no significant
influence or control; simple investment
in equity securities
b. Ownership of 20% to 50% - significant
influence; investee is considered an
associate of investor.
c. Ownership of more than 50% - control;
investee is considered a subsidiary of
investor (parent).
603. Exceptions to the 20% Threshold of Ownership
Rule
An investor may still have significant
influence over an investee even if the 20% threshold
of ownership is not met if there is evidence of any
of the following factors:
a. Representation in the board of directors
b. Participation in policy making process
c. Material transactions between the
investor and investee
d. Interchange of managerial personnel
e. Provision
of
essential
technical
information
f. Ownership of potential voting rights that
are currently exercisable (e.g., share
warrants, debt or equity instruments that
are convertible into ordinary shares, etc.)
604. Causes of Loss of Significant Influence
a. Transfer of ownership of shares by the
investor leaving no or less than 20%
ownership over the investee.
b. Loss of power to participate in the
financial and operating policy decisions
of the investee.
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c. Associate becoming subject to control
of a government, court, administrator, or
regulator.
d. As a result of contractual agreement.
605. Equity Method
a. It is applicable when the investor has a
significant influence over the investee.
b. The investor and the investee are viewed
as a single economic unit.
c. It is only applied if the investment is in
ordinary shares (voting shares) (FVPL or
FVOCI classification is applied to
investments in preference shares).
d. The investment is initially recognized at
cost.
e. The carrying amount is increased
(decreased) by the investor’s share of
the profit (loss) of the investee.
f. Distributions or dividends received from
an investee reduce the carrying amount
of the investment.
g. The investment is recorded under the
Investment in Associate account.
606. Journal Entries Under Equity Method
a. Acquisition of shares – Dr. Investment in
associate (at cost); Cr. Cash
b. Share in net income of associate – Dr.
Investment in associate (associate’s net
income * percentage ownership by
investor over associate); Cr. Investment
income
c. Share in net loss of associate – Dr. Loss
on investment; Cr. Investment in
associate (associate’s net loss *
percentage ownership)
d. Receipt
of
stock
dividend
–
memorandum entry
e. Receipt of cash or property dividend –
Dr. Cash or noncash asset; Cr.
Investment in associate
607. Excess of Cost Over Carrying Amount
It occurs when the investor pays more than
the carrying amount of the net assets (of investee)
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acquired. Such excess is attributed to the following
in order of priority:
a. Undervaluation of the investee’s assets
(e.g., building, land, inventory, etc.);
and/or
b. Goodwill.
Formula:
a. Acquisition cost – Carrying amount of
net assets acquired = Excess of cost
over carrying amount
b. Excess of cost over carrying amount –
Undervaluation of assets of investee =
Excess attributable to goodwill
608. Treatments for Excess of Cost over Carrying
Amount
Journal entry for amortization or recognition
as expense of excess of cost over carrying amount
– Dr. Investment income; Cr. Investment in
associate
a. Attributable to depreciable asset –
amortized over the remaining life of the
depreciable asset
b. Attributable to land – not amortized
c. Attributable to inventory – expensed
when the inventory is sold
d. Attributable to goodwill – not amortized
(but the entire investment in associate
including the goodwill is tested for
impairment at the end of each reporting
period)
609. Treatment for Excess of Net Fair Value Over
Cost
Any excess of the investor’s share of the net
fair value of the associate’s identifiable assets
(does not include goodwill) and liabilities over the
cost of the investment is included as income in the
determination of the investor’s share of the
associate’s profit or loss.
a. Attributable to depreciable asset –
amortized over the remaining life of the
depreciable asset
b. Attributable to land – not amortized
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c. Attributable to inventory – expensed
when the inventory is sold
610. Investee with Heavy Losses
If an investor’s share of losses of an
associate equals or exceeds the carrying amount of
an investment, the investor discontinues
recognizing its share of further losses. The
investment is reported at nil or zero.
If the associate subsequently reports
income, the investor resumes including its share of
such income after its share of the income equals the
share of losses not recognized.
611. Impairment of Investment in Associate
An impairment loss shall be recognized
whenever the carrying amount of the investment in
associate exceeds its recoverable amount.
612. Investee with Cumulative Preference Shares
When an associate has outstanding
cumulative preference shares, the investor shall
compute its share of earnings or losses after
deducting the preference dividends, whether or not
such dividends are declared.
613. Investee with Noncumulative Preference
Shares
When an associate has outstanding
noncumulative preference shares, the investor shall
compute its share of earnings after deducting the
preference dividends only when declared.
614. Other Changes in the Associate’s Equity
Adjustments to the carrying amount of the
investment in associate may be necessary for
changes in the investor’s proportionate interest in
the investee arising from changes in the investee’s
equity that have not been recognized in the
investee’s profit or loss (e.g., revaluation of
property, plant and equipment, foreign exchange
translation differences, etc.).
615. Reporting Date of the Investee
a. The most recent available financial
statements of the associate are to be
used by the investor in applying the
equity method.
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b. When the reporting dates of the investor
and the investee are different, the
associate shall prepare for the use of the
investor financial statements as of the
same date as the financial statements of
the investor unless it is impracticable to
do so.
c. In any case, the difference between the
reporting date of the associate and that
of the investor shall be no more than
three (3) months.
616. Accounting Policies of the Investee
If an associate uses accounting policies
other than those of the investor, adjustments shall
be made to conform the associate’s accounting
policies to those of the investor.
617. Upstream Transactions
These are sales of assets (e.g., inventory)
from an associate to the investor. The unrealized
profit from these transactions must be eliminated in
determining the investor’s share in profit or loss of
associate.
618. Unrealized and Realized Profit from Upstream
Transactions
Upstream sale price – Cost of asset sold =
Profit from upstream sale
a.
b.
Unrealized profit – profit attributed to
asset sold by an associate to the
investor when such asset is still held by
the investor at the end of the reporting
period.
Realized profit – profit attributed to
asset sold by an associate to the
investor
when
such
asset
is
subsequently sold by the investor
(except when depreciable asset was
sold).
619. Downstream Transactions
These are sales of assets (e.g., inventory)
from the investor to an associate. The unrealized
profit from these transactions must be eliminated
either:
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Financial accounting and reporting
a. By deducting the same from the profit of
the
associate as in
upstream
transactions; or
b. By adjusting the accounts of the
investor.
620. Upstream or Downstream Sale of Depreciable
Asset
The profit on the upstream or downstream
sale of depreciable asset is realized as the asset is
used or over the remaining life of the asset.
621. Discontinuance of Equity Method
An investor shall discontinue the use of the
equity method from the date that it ceases to have
significant
influence
over
an
associate.
Consequently, the investor shall account for the
investment as follows:
consolidated financial statements
available for public use the comply
with PFRSs.
623. Associate Held for Sale
The investment in associate classified as
“held for sale” shall be measured at lower of
carrying amount and fair value less cost of disposal.
624. Cost Method
It is the accounting method applied with
respect to investment in unquoted equity
instrument or nonmarketable equity investment.
625. Journal Entries Related to Cost Method
h.
i.
a. Financial asset at FVPL
b. Financial asset at FVOCI
c. Nonmarketable investment at cost or
investment
in
unquoted
equity
instrument
j.
e.
f.
622. Instances When Equity Method Is Not
Applicable
a. If the investor is a parent exempt from
preparing
consolidated
financial
statements; or
b. If all of the following apply:
• The investor is a wholly-owned
subsidiary, or a partially-owned
subsidiary of another entity and the
other owners do not object to the
investor not applying the equity
method;
• The investor’s debt and equity
instruments are not traded in a
public market or “over the counter:
market;
• The investor did not file or it is not in
the process of filing financial
statements with the SEC for the
purpose of issuing any class of
instruments in a public market; and
• The ultimate or any intermediate
parent of the investor produces
VOL-1A
g.
h.
Acquisition – Dr. Investment in equity
securities; Cr. Cash
Investee reported net income – No entry
required
Investee reported net loss – No entry
required
Receipt
of
stock
dividend
–
Memorandum entry
Receipt of cash dividend – Dr. Cash; Cr.
Dividend income
Changes in fair value – No entry
required
Sale of shares (selling price > cost) – Dr.
Cash (selling price); Cr. Investment in
equity securities (cost), Gain on sale of
investment (balancing figure)
626. Reclassification from Equity Method to Fair
Value Method (i.e., FVPL or FVOCI) or Cost Method
a. Occurs when significant influence is
lost for some reason.
b. Any retained investment is measured at
fair value.
c. The difference between the net
proceeds from disposal of part of the
investment and the carrying amount of
the investment sold is included in profit
or loss.
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627. Reclassification from Fair Value Method or
Cost Method to Equity Method
a. Occurs when investment in associate is
achieved in stages.
b. The existing interest in associate is
remeasured at fair value with any
change in fair value included in profit or
loss.
c. If the existing interest is accounted for
as FVOCI, any unrealized gain or loss at
the date the investee becomes an
associate is reclassified to retained
earnings.
d. The fair value of the existing interest
plus the cost of the additional interest
acquired constitutes the total cost of the
investment for the initial application of
the equity method.
e. The total cost of the investment for the
initial application of the equity method
minus the carrying amount of the net
assets acquired at the date significant
influence is obtained equals excess of
cost over carrying amount or excess net
fair value.
628. Bond
It is a formal unconditional promise made
under seal to pay a specified sum of money at a
determinable future date, and to make periodic
interest payments at a stated rate until the principal
sum is paid.
VOL-1A
631. Classification of Bond Investments
Subsequent
measurement
of
investments:
a.
b.
d.
bond
Financial asset at FVPL.
Financial asset at amortized cost
Financial asset at FVOCI
632. Initial Measurement of Bond Investments
General rule: At fair value plus transaction
costs that are directly attributable to the
acquisition.
Exception: Transaction costs attributable to
the acquisition of bond investments held for trading
or at FVPL are expensed immediately.
633. Acquisition of Bond Investments on Interest
Date
In this case, there is no accounting problem
because the purchase price is initially recognized as
the acquisition cost (i.e., it does not include any
accrued interest).
Journal entry: Dr. Investment in bonds
(purchase price); Cr. Cash
634. Acquisition of Bond Investments Between
Interest Dates
In this case, the purchase price normally
includes accrued interest. That portion of the
purchase price representing accrued interest
should not be reported as part of the cost of
investment but should be accounted for separately.
635. Approaches to the Accounting Treatment for
Accrued Interest on Date of Acquisition
629. Parties to a Bond Contract
a. Issuer – debtor; the one who borrows
funds from another party.
b. Investor – creditor; the one who lends
funds.
630. Bond Indenture
It is a document that contains the contractual
agreement between the issuer and investor which may
include a description of the bond features,
restrictions placed on the issuer, and the actions
that will be triggered if the issuer fails to make
timely payments.
a. Approach 1
• Acquisition – Dr. Investment in
bonds (purchase price allocated to
bonds), Accrued interest receivable
(purchase price allocated to accrued
interest); Cr. Cash (total purchase
price)
• Receipt of interest payment – Dr.
Cash; Cr. Interest receivable
b. Approach 2
• Acquisition – Dr. Investment in
bonds (purchase price allocated to
bonds), Interest income (purchase
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•
price allocated to accrued interest);
Cr. Cash (total purchase price)
Receipt of interest payment – Dr.
Cash; Cr. Interest income
636. Sale of Bond Investments
a. On interest date – Dr. Cash; Cr. Trading
securities
b. Between interest dates – Dr. Cash
(consideration received); Cr. Trading
securities (carrying amount), Interest
income (accrued interest income), Gain
on sale of trading securities (balancing
figure)
637. Classification of Bonds
a. Measured at FVPL – current asset
b. Measured at FVOCI or at amortized cost
– noncurrent asset
638. Amortized Cost
It is the initial recognition amount of the
investment minus repayments, plus amortization of
discount, minus amortization of premium, and
minus reduction for impairment or uncollectibility.
639. Bond Premium
It occurs when bonds payable are issued for
an amount greater than their face or maturity
amount. This is caused by the bonds having a
stated interest rate that is higher than the market
interest rate for similar bonds.
Formula: Purchase price of investment –
Face amount = Bond premium
640. Bond Discount
It occurs when bonds payable are issued for
an amount lesser than their face or maturity
amount. This is caused by the bonds having a
stated interest rate that is lower than the market
interest rate for similar bonds.
Formula: Face amount – Purchase price of
investment = Bond discount
641. Amortization
In the context of bond premium or discount,
it is the gradual reduction of either bond premium or
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discount over the life of the bonds (bondholder’s
POV – from the date of acquisition to the date of
maturity). Amortization may be made on interest
dates or at the end of the reporting period.
a. Amortization of bond premium – Dr.
Interest income; Cr. Investment in bonds
b. Amortization of bond discount – Dr.
Investment in bonds; Cr. Interest income
642. Collection of Interest
The collection of interest from bond
investments occur on the interest payment date
(usually semiannual or annual).
• Formula: Face amount of bonds *
Nominal interest rate = Interest
collection
• Journal entry: Dr. Cash; Cr. Interest
income
643. Carrying Amount of Investment in Bonds
Original cost – Repayments + Amortization
of discount – Amortization of premium – Reduction
for impairment or uncollectibility = Carrying amount
of investment in bonds
Types of Bonds
645. Callable Bonds
These are bonds which may be called in or
redeemed by the issuing entity prior to their date of
maturity. The difference between the redemption
price (call price per bond * number of bonds) and
the carrying amount of the bond investment on the
date of redemption is recognized in profit or loss.
646. Convertible Bonds
These are bonds which give the bondholders
the right to exchange their bonds for share capital
of the issuing entity at any time prior to maturity.
Because of the conversion feature, bonds of this
type are classified as financial assets measured at
fair value (not at amortized cost).
647. Serial Bonds
These are bonds which have a series of
maturity dates or those bonds which are payable in
installments.
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648. Term Bonds
These are bonds that mature on a single
date (includes callable and convertible bonds).
Methods of Amortization of Premium or Discount
650. Straight Line Method
This method provides for an equal amount
of premium or discount amortization each
accounting period.
Formula: Bond premium or discount
amortization = Total bond or premium / Life of bond
651. Bond Outstanding Method
This method is applicable to serial bonds
and provides for a decreasing amount of
amortization.
Formula:
Bond
Premium or
Outstanding
Discount
Year
Fraction
(Face
Amortization
Amount)
20XX
A1
A1/B
A1 * (A1/B)
20XX
A2
A2/B
A2 * (A2/B)
20XX
A3
A3/B
A3 * (A3/B)
20XX
A4
A4/B
A4 * (A4/B)
Total
B
652. Effective Interest Method
It is also called as “interest method” or
“scientific method.” This method requires the
comparison between interest earned or interest
income and the interest received. The difference
between the two represents the premium or
discount amortization.
653. Nominal Rate
It is the coupon rate or stated rate appearing
on the face of the bond. It is where the interest
payments received by the investor is based.
654. Effective Rate
It is the yield rate or market rate which is the
actual or true rate of interest which the bondholder
earns on the bond investment.
VOL-1A
655. Relationship Between the Effective Rate and
Nominal Rate
a. If the cost of the bond investment is
equal to the face value – the effective
rate and the nominal rate are equal.
b. When the bonds are acquired at a
premium – the effective rate is lower
than the nominal rate (loss on the part of
the bondholder).
c. When the bonds are acquired at a
discount – the effective rate is higher
than the nominal rate (gain on the part of
the bondholder).
656. Schedule of Amortization
It is a table used to compute for the amount
of amortization of premium or discount on bonds
payable under the effective interest method.
Columns Comprising the Amortization Schedule
658. Date
It contains the date when the bond
investment was acquired (1st row) and the interest
dates subsequent to that.
659. Interest Received
It contains the values of interest payments
received by the bondholder. It also includes any
principal payments for each period (in case of serial
bonds) and at the maturity of the bonds (for all
bonds).
Formula: (Outstanding face value of bonds *
Nominal rate) + Principal payments = Interest
received
660. Interest Income
It contains the value of the interest earned
by the bondholder for each period.
Formula: Carrying amount of bond
investment * Effective rate = Interest income
661. Premium or Discount Amortization
It contains the amount of amortization of
premium or discount for the period.
Formula: Interest income – Interest received
= Discount (Premium) amortization
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a. If the bond investment was acquired at a
premium – the amortization column
contains negative values (interest
received > interest income)
b. If the bond investment was acquired at a
discount – the amortization column
contains positive values (interest
received < interest income)
The amortization of discount may be in
negative values due to the effect of principal
payments.
662. Carrying Amount
It contains the balance or book value of the
bond investment after the amortization of premium
or discount.
Formula: Preceding carrying amount +
Amortization of discount (premium)
a. If the bond investment was acquired at a
premium – the amortization shall be
deducted from the preceding carrying
amount (to decrease carrying amount to
face value).
b. If the bond investment was acquired at a
discount – the amortization shall be
added to the preceding carrying amount
(to increase carrying amount to face
value).
The above rules are subject to exception
specifically in the case of serial bonds where the
amortization of discount may have to be deducted
from the preceding carrying amount due to principal
payments. As a guide, follow the formulas as they
are arranged and let the sign (i.e., negative or
positive) of the values help in determining whether
to add or deduct.
663. Bond Investment Measured at FVOCI
In this case, the bond investment is
measured
at
fair
value
through
other
comprehensive income. Subsequently, the entity
must record discount amortization in accordance
with the effective interest able of amortization
regardless of the change in market value.
VOL-1A
664. Bond Investment Measured at FVPL (Fair
Value Option)
All changes in fair value are recognized in
profit or loss. Accordingly, any transaction cost is
an outright expense. Moreover, the interest income
is based on the nominal interest rate rather than the
effective interest rate.
665. Interpolation Process
It is a method used in the computation of the
effective interest rate by finding the rate that would
equate the acquisition cost and the present value of
the future cash flows from the bonds through the
use of trial and error and the following formula:
𝐸𝑓𝑓𝑒𝑐𝑡𝑖𝑣𝑒 𝑅𝑎𝑡𝑒
𝑋 − 𝐿𝑜𝑤𝑒𝑟 𝑟𝑎𝑡𝑒 𝑙𝑖𝑚𝑖𝑡
=
𝑈𝑝𝑝𝑒𝑟 𝑟𝑎𝑡𝑒 𝑙𝑖𝑚𝑖𝑡 − 𝐿𝑜𝑤𝑒𝑟 𝑟𝑎𝑡𝑒 𝑙𝑖𝑚𝑖𝑡
666. Computation of the Purchase Price or Market
Price of Bonds
a. Using the effective rate, find the present
value of an ordinary annuity of 1 for the
number of interest periods involved.
b. Multiply the nominal rate by the face
amount of the bonds for one interest
period. Also multiply the effective rate by
the face amount for one interest period.
Get the difference between the two
products.
c. The difference computed in step b is
multiplied by the present value factor
determined in step a. The answer
represents either a discount or premium.
• If Effective rate > Nominal rate:
Discount
• If Effective rate < Nominal rate:
Premium
d. The face amount of the bonds plus
premium or minus discount equals the
purchase price of the bond (on interest
date).
e. To compute for the purchase price of the
bond between interest dates, add the
accrued interest from the last interest
date to the intended date of purchase.
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667. Investment Property
It is defined as property (land or building or
part of a building or both) held by an owner or by the
lessee under a finance lease to earn rentals or for
capital appreciation or both.
668. Owner-Occupied Property
It refers to property held by its owner for its
own productive purposes, such as administration or
the production of goods or services.
669. Examples of Investment Property
a. Land held for capital appreciation
b. Land held for a currently undetermined
use
c. Building owned by the reporting entity, or
held by the entity under a finance lease,
and leased out under an operating lease
d. Building that is vacant but is held to be
leased out under an operating lease
e. Property that is being constructed or
developed for future use as investment
property
670. Classification of Property That Is Partly
Investment and Partly Owner-Occupied
a. If these portions could be sold or leased
out separately – classified separately as
investment property and owneroccupied property
b. If the portions could not be sold
separately – investment property if only
a significant portion is held for
manufacturing
or
administrative
purposes (otherwise, owner-occupied
property)
c. Provision of insignificant ancillary
services (e.g., security, maintenance
services, etc.) by the entity to the
occupants of the property – investment
property
d. Provision of significant ancillary
services (e.g., hotel services) – owneroccupied property
VOL-1A
671. Property Leased to an Affiliate
a. Perspective of reporting entity (lessor) –
investment property
b. Perspective of the group (consolidated
financial statements) – owner-occupied
property
672. Initial Measurement of Investment Property
a. General rule – At cost plus directly
attributable
expenditures
(e.g.,
professional fees, transfer taxes, etc.)
b. Self-constructed investment property –
cost at the date when the construction or
development is complete
c. Deferred or installment purchase of
investment property – cash price
equivalent (difference recognized as
interest expense over the credit period)
d. Acquisition of investment property
through exchange (for a nonmonetary
asset or a combination of monetary and
nonmonetary asset) – fair value of
investment
property
unless
the
exchange transaction lacks commercial
substance. If the fair value of neither the
asset received nor the asset given up is
reliably measurable, the cost is equal to
the carrying amount of the asset given
up.
673. Subsequent Measurement of Investment
Property
General rule: Either of the following
a. Fair value model – changes in fair value
recognized in profit or loss
b. Cost model
Exception:
a. Investment property held by lessee
under an operating lease – fair value
model
b. If the fair value of investment property
cannot be determined reliably – cost
method
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674. Change of Use of Property
a. Commencement of owner occupation –
transfer from investment property to
owner-occupied property
b. Commencement of development with a
view to sale – transfer from investment
property to inventory
c. End of owner occupation – transfer from
owner-occupied property to investment
property
d. Commencement of an operating lease to
another entity – transfer from owner
occupied property to investment
property
675. Measurement of Transfers
a. When the entity uses the cost model,
transfers between investment property,
owner-occupied property, and inventory
shall be made at carrying amount.
b. A transfer from investment property
carried at fair value to owner-occupied
property shall be accounted for at fair
value which becomes the deemed cost
for subsequent accounting.
c. If
owner-occupied
property
is
transferred to investment property that
is to be carried at fair value, the
difference between the fair value and the
carrying amount of the property shall be
accounted for as revaluation of property,
plant, and equipment.
d. If an inventory is transferred to
investment property that is to be carried
at fair value, the remeasurement to fair
value shall be included in profit or loss.
e. When an investment property under
construction is completed and to be
carried at fair value, the difference
between fair value and carrying amount
shall be included in profit or loss.
VOL-1A
c. When no future economic benefits are
expected from the investment property
677. Fund
It is defined as cash or other assets set
aside for a specific purpose either by reason of the
action of management or by virtue of a contract or
legal agreement.
678. Funds Held for Current Purposes
Classified as cash (current assets).
a.
b.
c.
d.
e.
Petty cash fund
Payroll fund
Interest fund
Dividend fund
Tax fund
679. Funds Held for Noncurrent Purposes
Classified as long-term investments
(noncurrent assets).
a.
b.
c.
d.
e.
Sinking fund
Preference share redemption fund
Plant expansion fund
Contingency fund
Insurance fund
Funds held for the purpose of liquidating
liabilities are classified as current assets when the
related liability becomes due within twelve (12)
months after the end of the reporting period
(parallel classification).
680. Measurement of Fund
Long term fund shall be carried at the
amount of cash plus the cost of securities adjusted
from discount or premium amortization, and other
assets in the fund.
681. Sinking Fund
It is a fund set aside for the liquidation of
long-term debt, more particularly long-term bonds
payable.
676. Derecognition of Investment Property
a. On disposal
b. When
investment
property
permanently withdrawn from use
is
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682. Journal Entries Related to Sinking Fund Under
the Administration of the Entity
a. Transfer of cash to sinking fund – Dr.
Sinking fund cash; Cr. Cash
b. Appropriation of retained earnings every
end of reporting period as a matter of
accounting policy – Dr. Retained
earnings;
Cr.
Retained
earnings
appropriated for sinking fund
c. Investment of sinking fund cash in
financial assets – Dr. Sinking fund
securities; Cr. Sinking fund cash
d. Receipt of interest on sinking fund
securities – Dr. Sinking fund cash; Cr.
Sinking fund income
e. Accrual of interest on sinking fund
securities – Dr. Accrued interest
receivable; Cr. Sinking fund income
f. Payment of fund expenses – Dr. Sinking
fund expense; Cr. Sinking fund cash
g. Sale of sinking fund securities at a gain
– Dr. Sinking fund cash (proceeds); Cr.
Sinking fund securities (carrying
amount), Gain on sale of securities
(balancing figure)
h. Retirement of bonds related to sinking
fund – Dr. Bonds payable, Interest
expense; Cr. Sinking fund cash
i. Return of residual sinking fund cash to
general fund – Dr. Cash; Cr. Sinking fund
cash
j. Release of the appropriated retained
earnings – Dr. Retained earnings
appropriated for sinking fund; Cr.
Retained earnings
683. Journal Entries Related to Sinking Fund Under
the Administration of a Trustee
a. Contribution of cash to sinking fund –
Dr. Sinking fund – Trustee; Cr. Cash
b. Receipt of periodic report from trustee
about investment transactions within
the fund – No entry is necessary.
c. Receipt of periodic report from trustee
about sale of securities at a gain and
payment of fund expenses – Dr. Sinking
fund – trustee (net cash inflow), Sinking
VOL-1A
fund expenses; Cr. Sinking fund income
(interest), Gain on sale of securities
(balancing figure)
d. Receipt of periodic report from trustee
about payment of bonds payable and
interest – Dr. Bonds payable, Interest
expense; Cr. Sinking fund – trustee
e. Receipt of remittance from trustee of the
balance of sinking fund – Dr. Cash; Cr.
Sinking fund – trustee
684. Nature of Sinking Fund Contributions
a. Voluntary – if it is the result of a
discretionary action of management.
b. Mandatory – if it is required by contract,
usually with bondholders.
685. Formula for Computation of Annual
Contribution to Sinking Fund at the End of Each
Year
Annual contribution = Fund to be
accumulated / Future value of an ordinary annuity
of 1
686. Formula for Computation of One-Time
Contribution to Sinking Fund
One-time contribution = Fund to be
accumulated / Future value of 1
687. Preference Share Redemption Fund
It is a fund set up to ensure the eventual
redemption of preference shares issued by the
entity.
Journal entries:
a. Establishment of the fund – Dr.
Preference share redemption fund; Cr.
Cash
b. Redemption of shares – Dr. Preference
share capital (carrying amount),
Retained earnings (balancing figure);
Preference share redemption fund
(redemption price)
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Funds for Acquisition of Property
689. Replacement Fund
It is cash set aside in anticipation of future
replacement of depreciable asset.
690. Plant Expansion Fund
It is cash set aside in anticipation of future
acquisition of additional property because of
expanded or increased volume of operations.
***
691. Contingency Fund
It is cash set aside for the purpose of
meeting obligations that may arise from
contingencies like pending lawsuits or taxes in
dispute.
Journal entries:
a. Establishment of the fund – Dr.
Contingency fund (estimated damages);
Cr. Cash
b. Payment for damages – Dr. Loss on
damages (actual damages paid); Cr.
Contingency fund
c. Reversion of remaining fund to general
cash – Dr. Cash; Cr. Contingency fund
692. Insurance Fund
It is cash set aside for the purpose of
meeting obligations that may arise from certain
risks not insured against (e.g., fire, typhoon,
explosion, etc.). Its establishment is the result of a
policy of self-insurance which is actually a policy of
“no insurance”.
Journal entries:
a. Contribution to the fund – Dr. Insurance
fund; Cr. Cash
b. Building destroyed by fire – Dr. Fire loss
(balancing
figure),
Accumulated
depreciation; Cr. Building
c. Construction of new building using fund
– Dr. Building; Cr. Insurance fund, Cash
(additional)
VOL-1A
693. Cash Surrender Value
a. It is the amount which the insurance firm
will pay upon the surrender and
cancelation of life insurance policy.
b. The insurance must have been
established to ensure the life of an
entity’s officer and name itself as
beneficiary.
694. Treatment if the Beneficiary of Life Insurance
Is Not the Entity
If the beneficiary is the officer insured or any
person other than the entity (e.g., wife of the officer),
the payment of the premium is charged to
insurance expense.
695. Requisites for Entitlement to Cash Surrender
Value
a. The policy is a life policy (i.e., not fire,
accident, and other nonlife policies).
b. Premiums for three (3) full years must
have been paid.
c. The policy is surrendered at the end of
the third year or anytime thereafter.
696. Treatment for Loan from the Insurance Entity
The loan shall not be deducted from the
cash surrender value for financial statement
purposes.
697. Journal Entries Related to Cash Surrender
Value
a. Payment of the insurance premium – Dr.
Life insurance expense; Cr. Cash
b. Adjustment of the unexpired premium at
the end of the period – Dr. Prepaid life
insurance; Cr. Life insurance expense
c. Dividends received on the life policy –
Dr. Cash; Cr. Life insurance expense
d. Initial recognition of the cash surrender
value at the end of the third year – Dr.
Cash surrender value; Cr. Life insurance
expense (1/3 or value representing third
year), Retained earnings (2/3 or value
representing first and second years)
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e. Recognition of cash surrender value
subsequent to the third year – Dr. Cash
surrender value; Cr. Life insurance
expense
f. Receipt of the proceeds of the life policy
– Dr. Cash (face of policy); Cr. Cash
surrender value (carrying amount), Life
insurance expense (unexpired premium),
Gain on life insurance settlement
(balancing figure)
Types of Financial Risks
699. Price Risk
It is the uncertainty about the future price of
an asset.
700. Credit Risk
It is the uncertainty over whether a
counterparty or the party on the other side of the
contract will honor the terms of the contract.
701. Interest Rate Risk
a. It is the uncertainty about future interest
rates and their impact on cash flows and
the fair value of the financial
instruments.
b. A borrower with a variable-rate loan is
exposed to an interest rate risk by
reason of the fluctuation of interest rate
in the future.
c. A borrower with a fixed-rate loan is also
exposed to an interest rate risk because
there is always a possibility that interest
rate will decrease in the future.
702. Foreign Currency Risk
a. It is the uncertainty about future
Philippine peso cash flows stemming
from assets and liabilities denominated
in foreign currency.
b. The peso equivalent of the foreign
currency loan on the date of maturity will
differ from the peso equivalent of the
foreign currency loan when it was
obtained.
VOL-1A
703. Derivative
a. It is a financial instrument that derive its
value from the movement in commodity
price, foreign exchange rate, and interest
rate of an underlying asset or financial
instrument.
b. It is an executory contract, meaning, it is
not a transaction but an exchange of
promises about future action.
c. It gives one party a contractual right to
exchange financial asset or financial
liability with another party under
conditions that are potentially favorable.
d. On the other hand, the other party has a
contractual obligation to exchange
under
potentially
unfavorable
conditions.
e. There is no payment or there is only a
small payment for such financial
instrument on the date of contract.
***
704. Underlying Variable
It is an asset, basket of assets, index, or even
another derivative, such that the cash flows of the
derivative depend on the value of this underlying
(e.g., specified interest rate, commodity price,
foreign exchange rate, price index, etc.).
705. Notional Value/Amount
It is the nominal or face amount used to
calculate payments on a financial instrument (e.g.,
amount of currency, number of shares, number of
units, etc.).
706. Hedging
It means designating one or more hedging
instruments so that the change in fair value or cash
flows is an offset, in whole or in part, to the change
in fair value or cash flows of a hedged item.
707. Hedging Instrument
It is a derivative whose fair value or cash
flows would be expected to offset changes in the
fair value or cash flows of a hedged item.
708. Hedged Item
It is an asset, liability, firm commitment,
highly probable forecast transaction or net
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investment in a foreign operation that exposes the
entity to risk of changes in fair value or future cash
flows (also referred to as primary financial
instrument).
VOL-1A
710. Designations of Derivatives
a. Those not designated as a hedging
instrument
b. Those designated as a cash flow hedge
c. Those designated as a fair value hedge
709. Measurement of Derivatives
At fair value.
Derivative with No
Cash Flow Hedge
Hedging Designation
Description
It refers to a derivative It is a derivative that
held for speculation offsets in whole or in part
purposes.
the variability of cash
flows from a probable
forecast transaction.
Treatment for changes in Recognize in profit or
a. Effective portion
fair value of derivative
loss.
– recognized as
component
of
OCI.
b. Ineffective
portion
–
recognized
in
profit or loss.
Measurement of hedged No hedged item.
Hedged item is not
item
adjusted to conform with
fair value.
711.
712. Hedge Ineffectiveness
It occurs when the changes in the value of
the hedged item does not match up exactly to the
changes in the value of the hedging instrument. The
ineffective portion is the difference between the
change in hedging instrument and the change in
hedged item.
a. Over-hedge – change in hedging
instrument > change in hedged item
b. Under-hedge – change in hedging
instrument < change in hedged item
Fair Value Hedge
It is a derivative that
offsets in whole or in part
the change in the fair
value of an asset or a
liability.
Recognized in profit or
loss.
Hedged item is measured
at fair value.
714. Interest Rate Swap
It is a contract whereby two parties agree to
exchange cash flows for future interest payments
based on a contract of loan.
a. Hedged
item
(primary
financial
instrument) – loan
b. Hedging instrument (derivative financial
instrument) – interest rate swao
c. Underlying variable – interest rate
d. Notional – principal amount of loan
Variants of Interest Rate Swap Agreement
713. Examples of Derivatives
a.
b.
c.
d.
e.
Interest rate swap
Forward contract
Futures contract
Option
Foreign currency forward contract
716. Receive Variable, Pay Fix Interest Rate Swap
It is entered into by the reporting entity with
another in case the former has an existing loan with
variable interest rate.
717. Receive Fix, Pay Variable Interest Rate Swap
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It is entered into by the reporting entity with
another in case the former has an existing loan with
fixed interest rate.
Journal Entries Related to Interest Rate Swap Agreement (Cash Flow Hedge)
719.
Commencement of loan
Interest payment to creditor
Variable rate Fixed rate: Entry at
the beginning of interest period
Variable rate > Fixed rate: Entry at
the beginning of interest period
Variable rate > Fixed rate: Swap
payment
Variable rate > Fixed rate:
Recognition of change in fair
value of derivative in profit or loss
Fixed rate > Variable rate: Entry at
the beginning of interest period
Fixed rate > Variable rate: Swap
payment
Fixed rate > Variable rate:
Reclassification of unrealized
gain or loss to profit or loss
Receive Variable, Pay Fix Interest
Rate Swap
Dr. Cash (principal and notional
amount); Cr. Loan payable
Dr. Interest expense (principal
amount * underlying [variable]
interest rate); Cr. Cash
No entry required because the fair
value of derivative is zero (0).
Dr. Interest rate swap receivable
(notional amount * [underlying
rate – fixed rate] * PV factor at
underlying rate); Cr. Unrealized
gain – interest rate swap
Dr. Cash (notional amount *
[underlying rate – fixed rate]); Cr.
Interest rate swap receivable
(amount recognized at the
beginning of interest period);
Unrealized gain – interest rate
swap
(interest
rate
swap
receivable * underlying rate)
Dr. Unrealized gain – interest rate
swap (cumulative balance); Cr.
Interest expense
Dr. Unrealized loss – interest rate
swap; Cr. Interest rate swap
payable (notional amount *
[variable rate – underlying rate] *
PV factor at underlying rate)
Dr. Interest rate swap payable
(amount recognized at the
beginning of interest period),
Unrealized loss – interest rate
swap (interest rate swap payable
* underlying rate); Cr. Cash
(notional amount * [variable rate
– underlying rate])
Dr. Interest expense; Cr.
Unrealized loss – interest rate
swap (cumulative balance)
Receive Fix, Pay Variable Interest
Rate Swap
Dr. Cash (principal and notional
amount); Cr. Loan payable
Dr. Interest expense (principal *
amount underlying [fixed] interest
rate); Cr. Cash
No entry required because the fair
value of derivative is zero (0).
Dr. Unrealized loss – interest rate
swap; Cr. Interest rate swap
payable (notional amount *
[variable rate – underlying rate] *
PV factor at underlying rate)
Dr. Interest rate swap payable
(amount recognized at the
beginning of interest period),
Unrealized loss – interest rate
swap (interest rate swap payable *
underlying rate); Cr. Cash (notional
amount * [variable rate –
underlying rate])
Dr. Interest expense; Cr.
Unrealized loss – interest rate
swap (cumulative balance)
Dr. Interest rate swap receivable
(notional amount * [underlying
rate – fixed rate] * PV factor at
underlying rate); Cr. Unrealized
gain – interest rate swap
Dr. Cash (notional amount *
[underlying rate – fixed rate]); Cr.
Interest rate swap receivable
(amount recognized at the
beginning of interest period);
Unrealized gain – interest rate
swap (interest rate swap
receivable * underlying rate)
Dr. Unrealized gain – interest rate
swap (cumulative balance); Cr.
Interest expense
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Payment of principal amount of
loan
Dr. Loan payable; Cr. Cash
720. Procedures Related to Interest Rate Swap
Agreement (Fair Value Hedge)
The following shall be applied as
modifications to the entries for cash flow hedge.
a. Gain on Interest Rate Swap account
(income) is used instead of Unrealized
Gain – Interest Rate Swap (OCI). The
same goes with losses.
b. There is no entry needed to reclassify
unrealized gain or loss to profit or loss.
c. The hedged item is remeasured at the
end of each reporting period to fair value.
• PV of principal at current market rate
+ PV of annual interest at current
market rate = FV of hedged item
• FV of hedged item – Unadjusted
carrying amount of hedged item =
Increase (Decrease) in carrying
amount of hedged item
• Journal entry for increase – Dr. Loss
on note payable; Cr. Noe payable
• Journal entry for decrease – Dr. Noe
payable; Cr. Gain on note payable
d. Premium or discount on hedged item
arises due to the remeasurement of the
same at fair value.
• Premium – when the fair value of the
hedged item is greater than the face
value.
• Discount – when the fair value of the
hedged item is lower than the face
value.
e. Such premium or discount is to be
amortized at the end of the reporting
period by making one of the following
entries, as applicable:
• Amortization of premium – Dr. Note
payable; Cr. Interest expense
• Amortization of discount – Dr.
Interest expense; Cr. Note payable
f. All other procedures are patterned with
cash flow hedge.
VOL-1A
Dr. Loan payable; Cr. Cash
721. Forward Contract
It is an agreement between two parties to
exchange a specified amount of commodity,
security or foreign currency on a specified date in
the future at a specified price or exchange rate.
a. Hedged
item
(primary
financial
instrument) – highly probable forecast
purchase
b. Hedging instrument (derivative financial
instrument) – forward contract
c. Underlying variable – price per unit of
commodity
d. Notional – number of units of
commodity to be purchased
722. Forward Price
It is the price at which the commodities are
to be sold under a forward contract regardless of
the changes in the prevailing market price.
723. Journal Entries Related to Forward Contract
(Cash Flow Hedge)
a. Market price < Forward price at end of
reporting period or at the date of
purchase – Dr. Forward contract
receivable (number of units * [forward
price – market price]); Cr. Unrealized
gain – forward contract (component of
OCI)
b. Market price > Forward price at end of
reporting period or at the date of
purchase – Dr. Unrealized loss –
forward contract; Cr. Forward contract
payable
c. Receipt of cash in accordance with
forward contract (if market price <
forward price) at the date of purchase –
Dr. Cash; Cr. Forward contract
receivable
d. Payment of cash in accordance with
forward contract (if market price >
forward price) at the date of purchase –
Dr. Forward contract payable; Cr. Cash
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VOL–1A
e. Purchase of commodity – Dr.
Purchases; Cr. Cash (at forward price)
f. Reclassification of OCI component
(gain) – Dr. Unrealized gain – forward
contract; Cr. Gain on forward contract
(offset against cost of goods sold)
g. Reclassification of OCI component
(loss) – Dr. Loss on forward contract; Cr.
Unrealized loss – forward contract
the strike or exercise price and because of that the
natural action of an entity is to exercise the option.
724. Futures Contract
It is a contract to purchase or sell a specified
commodity at some future date at a specified price.
The main difference between this and a forward
contract is that the former is traded in a futures
exchange market in much the same manner as debt
and equity securities are being traded in the stock
market (the parties do not know each other very
well).
730. At the Money
This is the case of an option contract when
the market price of the commodity is equal to the
strike or exercise price and because of that the
natural action of an entity is to exercise the option.
725. Option
It is a contract that gives the holder the right
to purchase (not an obligation) to purchase (call
option) or sell (put option) an asset at a specified
price during a definite period at some future time.
a. Hedged
item
(primary
financial
instrument) – highly probable forecast
purchase
b. Hedging instrument (derivative financial
instrument) – option contract
c. Underlying variable – price per unit of
commodity
d. Notional – number of units of
commodity to be purchased
726. Option Premium
It refers to an initial small payment required
under an option contract for protection against
unfavorable movement in price.
727. Strike or Exercise Price
It is the price at which the commodity is to
be sold upon the exercise of the option.
728. In the Money
This is the case of an option contract when
the market price of the commodity is greater than
729. Out of the Money
This is the case of an option contract when
the market price of the commodity is lesser than the
strike or exercise price and because of that the
natural action of an entity is to refrain from
exercising the option.
731. Journal Entries Related to an Option Contract
(Call Option – Cash Flow Hedge - In the Money)
a. Payment of option premium – Dr. Call
option; Cr. Cash
b. Market price > Strike price – Dr. Call
option; Cr. Unrealized gain – call option
(fair value of call option or market price
less exercise price – carrying amount of
call option before adjustment = increase
in fair value)
c. Receipt of cash from the exercise of call
option – Dr. Cash; Cr. Call option
d. Purchase of raw materials – Dr. Raw
material purchases; Cr. Cash
e. Reclassification of OCI component to
profit or loss – Dr. Unrealized gain – call
option; Cr. Purchases
732. Journal Entries Related to an Option Contract
(Call Option – Cash Flow Hedge – Out of the Money)
a. Payment of option premium – Dr. Call
option; Cr. Cash
b. Market price > Strike price – Dr. Call
option; Cr. Unrealized gain – call option
(fair value of call option or market price
less exercise price – carrying amount of
call option before adjustment = increase
in fair value)
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c. Market price < Strike price – Dr.
Unrealized loss – call option; Cr. Call
option
d. Non-exercise of call option – Dr. Loss on
call option, Unrealized gain – call option;
Cr. Unrealized loss – call option, Call
option
Unlike a forward or futures contract, the
entity has no liability if the market price is lower
than the underlying price under an option contract.
In case the option is not exercised, the entity will be
able to purchase the commodity at the prevailing
market price.
733. Intrinsic Value of Option
It is the excess of the market price over the
strike price. It is used when an option contract is
entered into for speculation purposes only.
Formula: (Market price at adjustment date –
Underlying strike price at a previous date) * Number
of units = Increase (decrease) in intrinsic value
a. Increase in intrinsic value – Dr. Call
option; Cr. Gain on call option
b. Decrease in intrinsic value – Dr. Loss on
call option; Cr. Call option
734. Time Value of Option
It refers to the portion of option premium
that is attributable to the amount of time remaining
until the expiration of the option contract. It is used
when an option contract is entered into for
speculation purposes only.
Formula: (Time value of option at
adjustment date – Time value of option at a
previous date) * Number of units = Increase
(decrease) in time value
a. Increase in time value – Dr. Call option;
Cr. Gain on call option
b. Decrease in time value – Dr. Loss on call
option; Cr. Call option
735. Settlement of Call Option for Speculation
a. The intrinsic value is the amount
collected from the speculator.
VOL–1A
b. The remaining balance of the time value
of option is not settled but recognized as
loss.
c. Intrinsic value at date of settlement –
Option payment = Net gain (loss) on call
option
736. Foreign Currency Forward Contract
It is a binding contract in the foreign
exchange market that locks in the exchange rate for
the purchase or sale of a currency on a future date.
a. Hedged
item
(primary
financial
instrument) – highly probable forecast
purchase
b. Hedging instrument (derivative financial
instrument) – foreign currency forward
contract
c. Underlying
variable
–
currency
exchange rate
d. Notional – amount of foreign currency to
be purchased
737. Journal Entries Related to Foreign Currency
Forward Contract (Cash Flow Hedge)
a. Increase in fair value of derivative
(Exchange rate > Underlying price) – Dr.
Forward contract receivable;
Cr.
Unrealized gain – forward contract
b. Net settlement – Dr. Cash (currency at
current exchange rate – underlying
price); Cr. Forward contract receivable
c. Purchase of asset in foreign currency –
Dr. Equipment (at current exchange
rate); Cr. Cash
d. Reclassification of OCI component – Dr.
Unrealized gain – forward contract; Cr.
Equipment
738. Journal Entries Related to Foreign Currency
Forward Contract (Fair Value Hedge)
a. Purchase of asset on account – Dr.
Equipment; Cr. Accounts payable
b. Remeasurement of hedged item – Dr.
Loss on foreign exchange (increase in
cash settlement); Cr. Accounts payable
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Financial accounting and reporting
VOL–1A
c. Increase in fair value of hedging
instrument – Dr. Forward contract
receivable; Cr. Gain on forward contract
d. Settlement of hedging instrument – Dr.
Cash; Cr. Forward contract receivable
e. Settlement of hedged item – Dr.
Accounts payable; Cr. Cash
739. Embedded Derivatives
It is a component of a hybrid or combined
contract (also host contract) with the effect that
some of the cash flows of the combined contract
vary in a way similar to a stand-alone derivative.
Examples:
a. Convertible bond instrument (host
contract) – equity conversion option
(embedded derivative)
b. Investment in redeemable preference
shares (host contract) – redemption
option (embedded derivative)
c. Investment in bond (host contract)
whose interest or principal payment is
linked to the price of gold or silver
(embedded derivative)
740. Bifurcation
It is the process of separating an embedded
derivative from the host contract. It shall be done if
the following conditions are met:
a. A separate instrument with the same
terms as the embedded derivative would
meet the definition of a derivative.
b. The combined contract is not measured
at fair value.
c. The economic characteristics and risks
of the embedded feature are not closely
related to the economic characteristics
and risks of the host contract.
d. The host contract is outside the scope of
PFRS 9.
If separated, the embedded derivative is
accounted for at fair value and the host contract is
accounted for in accordance with appropriate
PFRS.
END OF VOLUME 1-A
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