Week 5 Lecture paper

School: Colorado State University, Fort Collins - Course: BUS 614 - Subject: Accounting

Video 1 This video is to show how sales on credit and uncollectible receivable transactions affect financial statements.Net realizable value (NRV) = A/R balance - allowance for doubtful accounts balance.The amount we estimate that we will collect.If a company has a total accounts receivable of $40,000 and estimates that $3,000 of it will not be collected, the net realizable value of receivables is $37,000.We have to estimate this or the financial statements will not be correct.This is called the allowance method.The allowance method has 3 E's: estimate uncollectible expense, entry to record estimate transaction (this reduces net A/R), and entry to record write-off transaction for specific accounts (this has no effect on net A/R, balance sheet or income statement.You can use a percentage of revenue to estimate how much we think we are not going to collect.This has to be recorded and estimated in the same period as the revenue that it corresponds to. There are two allowance method approaches, the income statement approach (percentage of revenue method), and the balance sheet approach (percentage of receivables method, single percentage or aging schedule).In year 2 we decide to write off specific account amounts. Nothing happens to balance sheet or income statement.The same amount is in net realizable value before the write off and after the write off.If it is a recovery, reverse the entry.You would reinstate the receivable.No affect on net A/R.You would then have them pay you and record cash.The balance sheet is estimating the ending balance of what the uncollectable accounts should be.You take the accounts receivable balance multiplied by the percentage estimated of what will not be collected and that is what the ending balance should be. Video 2 This video covers accrued interest revenue, credit card sales, and notes receivable. Companies do not charge interest on accounts receivable but do on notes receivable if the company is extending credit for a long time.Interest revenue = (principal * annual interest rate * time).Interest rates are quoted on 12 months.The interest receivable will go up when earned and interest revenue will go up when collected.There are six characteristics of notes receivable: principal (amount of money loaned), interest (economic benefit earned by the payee for loaning the principal), maturity date (date on which the maker must repay the principal and interest), maker (person responsible for making payment on the due date), payee (person to whom the note is made payable), and collateral (assets that are assigned as security).This is an investing activity on the statement of cash flows.The interest received is an operating activity on the statement of cash flows.The asset and the contra asset are totaled together to equal the net realizable value of accounts receivable. Many companies find it efficient to accept credit cards rather than offering promissory notes.A credit card company deducts a fee (usually between 2 and 8 percent) from the gross amount of sales and pays the merchant the net balance in cash.If a credit card company charges a fee, that is automatically expensed on income statement.Once a company collects from credit card company, this is an operating activity on the statement of cash flows. Video 3

This video is how inventory cost flows affect financial statements.Companies usually buy inventory throughout the year.Those prices fluctuate throughout the year as well.In January a company might buy a bike helmet for $200 but in June those same helmets might cost $300. There are four acceptable methods (costing methods) for determining the cost: specific identification; first-in, first-out (FIFO); last-in, first-out (LIFO); and weighted average.All of these methods are GAAP. Specific identification is for unique items, such as diamond jewelry or other luxury products. The first-in, first-out (FIFO) method is assuming that for costing purposes that the cost for the first items in are the costs for the first items out to cost of goods sold.Last-in, first-out (LIFO) is assuming that for costing purposes that costs for the last items in are the first costs out to cost of goods sold.Weighted-average cost assumes that for costing purposes an average: weighted average = total cost of goods available for sale/total number of units available for sale.This can be different than physical flow of inventory.All of these methods significantly affect the gross margin reported in the income statement.When prices are rising in a period, FIFO will have the highest gross margin and LIFO would have the lowest.If prices are decreasing, this would switch.Under FIFO the balance sheet looks better if prices are rising.The FIFO allocation of the cost of goods available for sale between cost of goods sold and ending inventory.We are trying to allocate that cost of goods available for sale.What costs of goods are on the balance sheet and what are on the income statement.LIFO is the opposite and start with the last cost in and work your way backwards to the first cost.Since prices are rising, you expect cost of goods sold to be higher.Weighted average should be the number in the middle of FIFO and LIFO. Statement of cash flows will remain the same, it is actual cash and not just costing methods.