Chapter 7 
Current Assets- MBA 2006
Economic Consequences of
Accounting
• on wealth or behavior of
– lenders and investors
– reporting entities, their management and users of
financial statements
– reporting entities and standard setters
• Sources of impact
– Effect of financial results reported in the financial
statements
– Effect of firm’s choice of accounting principles
– Effect on reporting entities of standard setters’
decisions
– Effect on standard setters of their decisions
Chapter 7
Mugan-Akman 2005
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Quality of Earnings
• Business: having stable and recurring basic revenue
generating activities
• Accounting: 1) using consistent estimates and rules
High: same methods of estimation and rules
2) proximity of revenue recognition and cash
collection
High: when revenue recognition and cash collection are
close
• High quality earnings are presumed to be fair
representations of the economic performance of the firm
• Low quality earnings overstate fair earnings
Chapter 7
Mugan-Akman 2005
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What will affect Quality of
Earnings?
• Managers’ discretion in measuring
and reporting earnings in:
– Choosing among alternative accounting
principles
– Making estimates
– Timing transactions in order to control
recognition
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Mugan-Akman 2005
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Current assets
• assets that are expected to be converted
into cash within one year or within the
operating cycle of an entity
Chapter 7
Mugan-Akman 2005
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Anadolu Efes
Chapter 7
Mugan-Akman 2005
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Why is Current Asset
Management Important?
•
•
•
•
•
•
solvency
profitability
profitable but insolvent
quality of receivables
credit policies
idle cash
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Mugan-Akman 2005
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Cash and Cash Equivalents
• Cash
– Coins, banknotes deposits at banks, checks received
from customers
– Restricted Cash or Blocked Cash and the related
amounts should not be included in the cash amount
– Petty Cash
• Cash Equivalents
– Investments that are readily convertible to cash with
insignificant risk and with a maturity less than 90
days- e.g. Treasury Bills, term-deposits with less than
90 days maturity
Chapter 7
Mugan-Akman 2005
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Checks Received From
Customers
• by law, checks are payable at sight, so they are
deemed as liquid and should be included as
cash in the balance sheets of the entities
• although the concept of post dated checks is not
within the context of the legislation, in practice
checks with future payment dates are issued in
Turkey
• due-dated checks should not be included as
cash but treated as notes receivable in the
balance sheet.
Chapter 7
Mugan-Akman 2005
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Control Over Cash
•
•
•
•
•
•
•
•
easily transportable
large number of transactions involving cash
Establish Responsibilities
Segregation of Duties
Documentation Controls
Physical Controls
Independent Internal Verification
Use of Bank Accounts
Chapter 7
Mugan-Akman 2005
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Bank Reconciliation
Why are there differences between the Cash (bank balance of checking
account) per bank statement and ledger accounts ?
•
Unknown items or forgotten items:
- direct debits;
- standing orders;
- credit transfers;
•
Bank charges or bank interest:
•
Errors - calculations:
- overs;
- unders;
•
Timing differences:
- unpresented checks;
- outstanding checks
All reconciling items on the book side require an
adjusting entry to the cash account.
Chapter 7
Mugan-Akman 2005
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BANK RECONCILIATION
Here are step-by-step instructions for preparing a bank reconciliation.
•
Prepare a list of deposits in transit. Compare the deposits listed on your
bank statement with the bank deposits shown in your cash receipts journal.
On your bank reconciliation, list any deposits that have not yet cleared the
bank statement. Also, take a look at the bank reconciliation you prepared last
month. Did all of last month's deposits in transit clear on this month's bank
statement? If not, you should find out what happened to them.
•
Prepare a list of outstanding checks. In your cash disbursements journal,
mark each check that cleared the bank statement this month. On your bank
reconciliation, list all the checks from the cash disbursements journal that did
not clear. Also, take a look at the bank reconciliation you prepared last month.
Are there any checks that were outstanding last month that still have not
cleared the bank? If so, be sure they are on your list of outstanding checks
this month. If a check is several months old and still has not cleared the bank,
you may want to investigate further.
•
Record any bank charges or credits. Take a close look at your bank
statement. Are there any special charges made by the bank that you have not
recorded in your books? If so, record them now just as you would have if you
had written a check for that amount. By the same token, if there are any
credits made to your account by the bank, those should be recorded as well.
Post the entries to your general ledger.
Chapter 7
Mugan-Akman 2005
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BANK RECONCILIATION
• Compute the cash balance per your books. Foot the general
ledger cash account to arrive at your ending cash balance.
• Enter bank balance on the reconciliation. At the top of the bank
reconciliation, enter the ending balance from the bank statement.
• Total the deposits in transit. Add up the deposits in transit, and
enter the total on the reconciliation. Add the total deposits in transit to
the bank balance to arrive at a subtotal.
• Total the outstanding checks. Add up the outstanding checks, and
enter the total on the reconciliation.
• Compute book balance per the reconciliation. Subtract the total
outstanding checks from the subtotal in step 6 above. The result
should equal the balance shown in your general ledger.
Chapter 7
http://www.itssimple.biz/biz_tools/text/P06_1424.html
Mugan-Akman 2005
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Bank Reconciliation Example
• Prepare a 31 July 2005 bank reconciliation
statement for Sinan A.S. The 31July bank
statement indicated a cash balance of TL
9,610, while the cash ledger account on
that date shows a balance of TL 7,430
Adapted from Williams,
Chapter 7
etal, 2003
Mugan-Akman 2005
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Bank Reconciliation Example
•
•
•
•
•
•
Outstanding checks totaled TL 2,417.
A TL 500 check mailed to the bank for deposit had not
reached the bank at the statement date.
The bank returned a customer’s NSF check for TL 225
received as payment of an account receivable.
The bank statement showed TL30 interest earned on the
bank balance for the month of July.
Check #781 for supplies cleared the bank for TL 268 but
was erroneously recorded in our books as TL 240.
A TL 486 deposit by X A.S. was erroneously credited to
our account by the bank.
Chapter 7
Mugan-Akman 2005
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Reconciling the Bank Statement
Example
Balance per bank statement,31 July 2005
9,610 TL
Add:
NSF check
225 TL
Recording error
28
Deposit in transit
500
Additions
753 TL
De duct
Outstanding checks
2,417
Interest
30
Bank error
486
Deductions
Balance per company's records,31 July 2005
Chapter 7
Mugan-Akman 2005
2,933 TL
7,430 TL16-51
Reconciling
Bank Statement
Statement
Reconciling the
the Bank
Example
Example
Balance per bank statement, 31 July
Additions:
Deposit in transit
Deductions:
Bank error
486 TL
Outstanding checks
2,417
Adjusted cash balance
9,610 TL
Balance per company's records, 31 July
Additions:
Interest
Deductions:
Recording error
28 TL
NSF check
225
Adjusted cash balance in the balance sheet
7,430 TL
Chapter 7
Mugan-Akman 2005
500
2,903
7,207 TL
30
253
7,207 TL
17-51
Receivables
• Accounts Receivable
• Notes Receivable
• Other Receivables
Chapter 7
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Chapter 7
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Anadolu Efes
Chapter 7
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Recognition of Accounts
Receivable
• accrual basis of accounting- sales revenue
is recognized at the time a sale is made
and the title of ownership of the items
under the sale passes to the buyer
regardless of the cash payment date
• when sales are made on credit the
accounts receivable is recognized and
recorded at the invoice amount when a
sale is realized
Chapter 7
Mugan-Akman 2005
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Valuation of Receivables-IFRS
•
Receivables are carried at amortized cost (financial assets)
–
•
Amortised cost = approximate the original invoice amount for short-term receivables with no
stated interest rate if the impact of discounting would not be significant
a risk that a customer will not pay or will not be able to pay its debt
•
IFRS -accounts receivable should be valued at their net realizable value (or net recoverable amount)
•
Net Realizable Value (amortized cost) represents the amount of cash expected to be collected from
the receivables
Net Realizable Value =
Invoice amount (original amount)
- cash received at the time of sale
- collections from customers (during the period)
- Unamortized discounts
- impairment
•
net recoverable amount of accounts receivable (or trade receivables) is equal to their original values
unless there is an indication of impairment
•
Entities should assess at each balance sheet date whether there is objective evidence that an
account receivable may be impaired, and determine the amount of allowance that should be
estimated based on the net realizable value or the discounted cash flow from such receivable
TAX- when it is certain that a customer is not going to pay write-off the account *i.e. erase from
the accounts and record it as a loss
•
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Mugan-Akman 2005
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Receivables are Carried at
Amortized Cost
• When sales are made on credit, the
interest imputed in the transaction is not
recognized as sales revenue but as
INTEREST INCOME
• By using the Effective Interest Method
Chapter 7
Mugan-Akman 2005
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Illustration
• The sales price of TL 58.000 was charged to customer
for a sale on credit (n/90) on 1 November. If the same
goods were sold at cash, the price would have been TL
50.000
• The effective interest rate for the transaction is:
1/ n
 FV 
i= 
 1
 PV 
FV  Future value
PV = Present Value
n = days to maturity
i = effective interest rate
Chapter 7
 58,000 
i= 

 50,000 
Mugan-Akman 2005
1
(90 / 360)
 1 = %81.06
24-51
Account Name
Accounts Receivable
Unearned financial income
Sales Revenue
At 31 of December
PV =
Debit
Credit
58000
8000
50000
58,000
 55,200 TL
(1+0,8106)30/360
Account Name
Unearned financial income
Interest Income
Chapter 7
Mugan-Akman 2005
Debit
Credit
5200
5200
25-51
Impairment of Accounts
Receivable-IFRS
• Matching principle and losses estimated from selling on
credit
• Some possible indications of impairment are as follows:
–
–
–
–
–
If there is a sign that the customer has financial difficulty,
If there is a high probability of bankruptcy of the customer,
If the customer delays its payments,
If the customer asks for extension of the payment period, and
If the economy in general or the industry the customer operates
in suffers from financial difficulties
• under IAS 39, general provisions are not permitted and
all impairment of trade receivables must be measured
using a discounted cash flow methodology
Chapter 7
Mugan-Akman 2005
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Impairment Loss
• measured as the difference between the original or the
carrying value of the receivable and the present value of
estimated cash flows discounted at the original effective
interest rate of the receivable
• effective interest rate is the rate that exactly discounts
estimated future cash receipts through the expected
collection date of the receivable to the net carrying
amount of the receivable
• Allowance for Uncollectible Accounts account
accumulates the estimated losses
– a contra-asset account
– deducted from Accounts Receivable in order to determine the
net realizable value of receivables
Chapter 7
Mugan-Akman 2005
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Adjusting Entry-IFRS
Dekorasyon A.Ş. has outstanding receivables of TL120.000 as
of 31 December 2003, and its management estimated that
there is impairment of TL10.000
Date
Account Title and Description
Debit
Credit
31-Dec-03 Impairment Loss on Accounts Receivable
10.000
Allowance for Uncollectible Accounts
10.000
To record impairment loss on accounts
receivable
Dekorasyon A.Ş.
Partial Balance Sheet
31-Dec-03
Cash and Cash Equivalents
Accounts Receivable
Less: Allowance for Uncollectible Accounts
TL
TL 120.000
-10.000
Inventories
Total Current Assets
Chapter 7
Mugan-Akman 2005
11.000
110.000
129.000
TL 250.000
28-51
Determining the Impairment
Loss
• examine each receivable or customer
carefully and assess whether there is an
indication of impairment
• prepare a chart showing all trade
receivables and whether there is an
indication of impairment
Chapter 7
Mugan-Akman 2005
29-51
Illustration of Impairment-IFRS
Sağlam Yapı Market is in the process of preparing the financial statements for the
year 2004. The credit department examined all outstanding receivables and
determined that the following accounts may be impaired as of 31 December
2004. Total accounts receivable as of 31 December 2004 is TL 59.750
Invoice
Amount
Customer
Altay A.Ş.
Net
Recoverable
Amount
TL 5.000
TL 4.800
Güçlü A.Ş.
4.000
3.820
Mir A.Ş.
9.800
9.322
Risk A.Ş.
5.450
2.905
OTM A.Ş.
9.000
8.220
TL 33.250
TL 29.067
Difference= impairment loss of TL 4.183
Chapter 7
Mugan-Akman 2005
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How much is the expense?
• difference between total of net recoverable
amount of accounts receivable and the total
invoice amount represents the targeted balance
for the Allowance for Uncollectible Accounts
• adjusting entry to record the impairment loss on
accounts receivable should bring the balance of
the Allowance for Uncollectible Accounts to the
amount estimated from the impairment of
accounts receivable
Chapter 7
Mugan-Akman 2005
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Adjusting Entries – target
impairment loss known- Case 1
Allowance for Uncollectible Account Balance is a credit of TL 2.950
Estimated (target) Allowance for Uncollectible Accounts
Balance of Allowance for Uncollectible Accounts Before Adjustment
Estimated Impairment Loss
Date
Account Title and Description
Debit
31-Dec-04 Impairment Loss on Accounts Receivable
Allowance for Uncollectible Accounts
To record impairment loss of accounts receivable
Balance Sheet Representation
Accounts Receivable
Allowance for Uncollectible Accounts
Net Realizable Value of Accounts Receivable
Chapter 7
Mugan-Akman 2005
TL 4.183CR
2.950CR
TL 1.233
Credit
1.233
1.233
TL 59.750
4.183
TL 55.567
32-51
Adjusting Entries – target
impairment loss known- Case 2
Allowance for Uncollectible Account Balance is credit of TL 6.283
Balance of Allowance for Uncollectible Account Before Adjustment
Estimated Allowance for Uncollectible Accounts
Recovery of Impairment Loss
Date
Account Title and Description
31-Dec-04 Allowance for Uncollectible Accounts
Recovery of Impairment Loss
To record the recovery of impairment loss
Debit
Balance Sheet Representation
Accounts Receivable
Allowance for Uncollectible Accounts
Net Realizable Value of Accounts Receivable
Chapter 7
Mugan-Akman 2005
TL 6.283CR
4.183CR
TL 2.100
Credit
2.100
2.100
TL 59.750
4.183
TL 55.567
33-51
Write Off of Accounts Receivable
• a specific customer is not able to pay its
debt
Risk A.Ş. declared bankruptcy on 20 March 2005
Date
Account Title and Description
20-Mar-05 Bad Debt Expense
Accounts Receivable-Risk A. Ş
To write off the receivable from Risk A.Ş.
Chapter 7
Mugan-Akman 2005
Debit
Credit
5.450
5.450
34-51
Recovery of Receivables Written Off
Risk A.Ş. informed Sağlam Yapı Market that it will pay TL 3.000 of its
total debt on 3 April 2005 and the remaining amount later
Date
Account Title and Description
3-Apr-05 Accounts Receivable- Risk A.Ş.
Other Income
To recover the written off receivable from Risk A.Ş.
3-Apr-05 Cash
Accounts Receivable- Risk A.Ş.
To record collection from Risk A.Ş.
Chapter 7
Mugan-Akman 2005
Debit
Credit
5.450
5.450
3.000
3.000
35-51
Direct Write-off
Dekorasyon A.Ş. sold furniture at TL1.000 to Mr. Aksoy in December 2004
with terms n/60. However, Mr. Aksoy was in financial difficulty and
informed Dekorasyon A.Ş. that he bankrupted in May 2005. Since it
became evident that this receivable cannot be collected, Dekorasyon A.Ş.
decided to write off the receivable.
Date
Account Title and Description
May 31 2005 Uncollectible Account Expense
Accounts Receivable-Mr. Aksoy
To record receivable from Mr. Aksoy as
Uncollectible Account Expense
Chapter 7
Mugan-Akman 2005
Debit
Credit
1,000
1,000
36-51
Financing with Accounts
Receivable
• Pledge of Accounts Receivable - used as a
guarantee in credit arrangements with financial
institutions to receive loans-IFRS requires that
pledge agreements should be disclosed in the
notes to the financial statements
• Factoring Accounts Receivable- selling
receivables to get cash before the maturity (due
date) of the receivables
• Credit Card Sales
Chapter 7
Mugan-Akman 2005
37-51
Factoring Accounts Receivable
• With recourse - factor can collect the receivable
from the seller if the customer does not pay the
receivable – risk with lies with the company
• Without recourse -risk of non-payment of the
customer lies with the factor
• Based on the risks involved rates differ
• In the case of with recourse factoring the entity
may become liable to the factor - this contingent
liability should be disclosed in the notes to the
financial statements
Chapter 7
Mugan-Akman 2005
38-51
Factoring Example-without
recourse
Fashion Giyim Sanayi sold its receivables of TL 3.500 to Firm Factoring
on 3 March 2005 without recourse and agreed to pay 5% factoring
expense- financing expense plus TL 150 for recourse liabilities and
TL 50 for possible sales discounts
Fashion Giyim Sanayi –without recourse
Date
Account Title and Description
3-Mar-05 Cash
Financing Expense*
Due from Firm Factoring
Accounts Receivable
To record the sale of accounts receivable to Firm
Factoring
Debit
Credit
3.125
325
50
3.500
* TL 3.500 x 5% = TL 175 plus TL 150 for recourse liability
Chapter 7
Mugan-Akman 2005
39-51
Factoring Example-with recourse
If Fashion Giyim Sanayi had sold its accounts receivable with recourse; Firm
Factoring keeps TL 50 for possible sales discounts and TL 150 for recourse
liabilities.
Fashion Giyim Sanayi –with recourse:
Date
Account Title and Description
3-Mar-05 Cash
Financing Expense
Due from Firm Factoring
Accounts Receivable
To record the sale of accounts receivable to Firm
Factoring
Debit
Credit
3.125
175
200
3.500
Yagmur Mensucat defaulted its payment of TL 100 on 5 September 2005 to Firm
Factoring
Date
Account Title and Description
5-Sep-05 Accounts Receivable- Yagmur Men.
Due from Firm Factoring
To record the default of an accounts receivable
Chapter 7
Mugan-Akman 2005
Debit
Credit
100
100
40-51
Factoring-without recourseFactor company entries
Firm Factoring–without recourse:
Date
Account Title and Description
3-Mar-05 Accounts Receivable
Financing Revenue
Due to Fashion Giyim Sanayi
Cash
To record the sale of accounts receivable to Firm
Factoring
Chapter 7
Mugan-Akman 2005
Debit
Credit
3.500
325
50
3.125
41-51
Factoring-with recourse-Factor entries
Date
Account Title and Description
3-Mar-05 Accounts Receivable
Financing Revenue
Due to Fashion Giyim Sanayi
Cash
To record the sale of accounts receivable to
Firm Factoring
Debit Credit
3.500
175
200
3.125
Firm Factoring-a customer defaulted:
Date
Account Title and Description
5-Sep-05 Due to Fashion Giyim Sanayi
Accounts Receivable- Yagmur Men.
To record the default of an accounts receivable
Chapter 7
Mugan-Akman 2005
Debit
Credit
100
100
42-51
Factoring with recourse-payment date
•
Assume none of the customers take sales discount and by 15 December 2005 Firm
Factoring collects all accounts receivable and pays Fashion Giyim Sanayi the
remaining amount.
Fashion Giyim Sanayi will make the following entry
Date
Account Title and Description
Debit Credit
15-Dec-05 Cash
100
Due from Firm Factoring
100
T o record receipt of amount withheld by the factor.
Firm Factoring
Date
Account Title and Description
15-Dec-05 Due to Fashion Giyim Sanayi
Cash
To record payment of the amount withheld by the factor.
Chapter 7
Mugan-Akman 2005
Debit Credit
100
100
43-51
Credit Card Sales
Gourmet Restaurant served dinner to various customers on 11 May 2005 and
collected TL 750 with the credit cards. Gourmet Restaurant’s agreement
with INVO Bank to collect the credit card slips is 21 days with 5% interest
rate
Date
Account Title and Description
11-May-05 Receivable from INVO Bank
Commission Expense
Revenues
To record the dinner served on 11 May 2005
1-Jun-05 Cash
Receivable from INVO Bank
To record the collection from INVO Bank
Chapter 7
Mugan-Akman 2005
Debit
Credit
712,5
37,5
750
712,5
712,5
44-51
Notes Receivable
• A promissory note is an unconditional
promise to pay a certain amount of money
in the future.
– To borrow money
– To settle an accounts receivable
• notes with maturity dates less than or
equal to 12 months are classified as shortterm
Chapter 7
Mugan-Akman 2005
45-51
Promissory Note-(IOU)
PROMISSORY NOTE
TL 8.300
Amount
2-Jun-05
Date
For value received, I promise to pay to the order of
Health Pharmacy Ankara Turkey
the amount of Eight thousand three hundred Turkish Lira
On
Plus
120 days after date
interest at an annual rate of 25%.
Animal Co. Ankara Turkey
Chapter 7
Mugan-Akman 2005
46-51
Accounting Entries Illustrated for Notes Receivable-1
When the Note Received
Date
Account Title and Description
2-Jun-05 Notes Receivable
Accounts Receivable
To record the notes received from Animal Co.
Debit
Credit
8.300
8.300
At the end of the Fiscal Year
Date
Account Title and Description
31-Aug-05 Interest Receivable
Interest Income(*)
To accrue for the interest on notes receivable
Debit
Credit
518,75
518,75
(*) Interest: 8.300*25%*90 days/360 days = TL 518,75)
Chapter 7
Mugan-Akman 2005
47-51
Accounting Entries Illustrated for Notes Receivable-2
When the Note is Paid
Date
Account Title and Description
30 Sept.
2005
Cash
Notes Receivable
Interest Income
Interest Receivable
To record the collection of the note
Debit
Credit
8.991,67
8.300,00
172,92
518,75
If the Note is Dishonored
Date
Account Title and Description
30 Sept.
2005
Accounts Receivables
Notes Receivable
Interest Income
Interest Receivable
To record the dishonored note
Chapter 7
Mugan-Akman 2005
Debit
Credit
8.991,67
8.300,00
172,92
518,75
48-51
Other Current Assets
• Value Added Taxes Deductible and
Carried Forward
• Advances Given
• Prepaid Taxes
• Prepaid Expenses
Chapter 7
Mugan-Akman 2005
49-51
Common Financial Ratios Used in
Management of Current Assets
Current Assets
Current Ratio =
Current Liabilities
Quick Ratio 
(Cash and Cash Eqvt  Accounts and Notes Rec.  Short term Security Investments
Current Liabilitie s
Net Sales
Accounts Receivable Turnover =
Average Accounts Receivable
365
Collection Period=
Accounts Receivable Turnover
Chapter 7
Mugan-Akman 2005
50-51
BREAK- How about coffee?
Chapter 7
Mugan-Akman 2005
51-51