Cash, Marketable Securities, and Receivables

I. Current Assets-economic benefits owned by a firm that are reasonably expected to be converted into cash or consumed during the entitys operating cycle, or one year, whichever is longer II. Cash & Cash Equivalents -Cash includes: 1) coin and currency on hand including petty cash, 2) negotiable paper, 3) money market funds, 4) passbook savings account, 5) deposits held as compensating balances, 6) checks written by the enterprise, 7) time certificates of deposit with maturities of < 3 months -Legally restricted deposits and time certificates of deposit with maturities > 3months are not cash. Overdrafts are liabilities, postdated checks are receivables, and postage is supplies or prepaid expenses III. Investments in Securities -Uses-Funds not needed for the daily operations of the business are usually invested in short-term marketable securities to generate additional income 1. Temporary-meet two tests: 1) marketability, and 2) intention by management to dispose of the investment for cash or other current assets if the need arises 2. Long-Term-all investments not meeting those two criteria -Acquisition Cost-Securities are recorded at cost (including brokers fees, taxes, and any other direct cost of acquisition -Accounting Methods for Securities-the degree of influence that the investor is deemed to have over the investee by virtue of the investment determines the method of accounting for that investment. When a company owns stock in another corporation, one of the three following methods should be used: 1. Cost Method-Appropriate where the investor is NOT deemed to have a significant level of influence (<20%), where the investment is in nonvoting (preferred) stock, or the investment is temporary. Income will be recognized as cash dividends are received. If security is AFS, and have a gain its reported in OCI. If Trading, a gain is reported in current income. Upon disposal, a realized gain or loss should be recognized to the extent that the proceeds received differ from the carrying amount of the investment. 2. Equity Method-Required where the investor is deemed to have significant influence (20-50%) (or representation on the board, participation in policy-making decisions, level of intercompany transactions, and concentration of ownership in the hands of a small group of stockholders). Recognize income as its pro rata share of the investees earnings, while cash dividends received reduce the carrying amount of the investment. A loss should be recognized if other than temporary. Continue to write down until $0. If more losses occur, make memo entries and offset future gains with these. The investors investment in common stock s/b disclosed as a single line item on the balance sheet. The investors share of the investees earnings is disclosed as a single line item on the income statement. An exception arises for investees extraordinary items and prior period adjustments. If material, these s/b separated and reported in the investors financial statements. The following adjustments must be made after acquisition:

-Periodically, recognize its share of the investees earnings by debiting the investment account and crediting investment income -Dividends-Record dividend declaration by debiting a Rec. and crediting the Investment account -Excess Purchase Price-Debit investment income and credit the investment account to account for amortization -Intercompany-Profits and Loss-Eliminated until realized. Rec. and Pay-Eliminate -Capital Transactions-Sales by investees at a price > BV results in an increase in the carrying amount of the investment and a corresponding increase in the investors additional PIC. No income is recorded if the investee declares stock dividends or splits -Deferred Income Taxes-S/B recognized for the temporary difference caused by the difference between the income recognized using the equity method and the dividends received from the investee -Changes in Common Stock Market Value-do NOT affect the Investment or Investment Income accounts -If there is a change in the % of ownership, a change to/from the equity/cost method is warranted 3. Consolidated Financials-Required when a company owns >50% IV. Investments in Marketable Securities (SFAS 115) -SFAS applies to investments in equity securities that have a readily determinable FV and to all investments in debt securities. The focus is on portfolios rather than individual stocks. -Securities are one of the following: 1. Trading-Debt and equity securities that are bought and held principally for the purpose of selling them in the near term. The objective is on short-term price differences. They are reported at fair value and any unrealized holding gains and losses are included in current earnings. 2. AFS-Not classified as Trading or HTM. Reported at fair value and unrealized gains/losses are reported in OCI 3. HTM-Entity has positive intent and ability to hold to maturity. Reported at amortized cost and not adjusted for unrealized gains/losses, although fair value must be disclosed. -Acquisition Cost-For debt securities purchased between interest dates, accrued interest is NOT part of the cost of the securities. The discount or premium on temporary investments in debt securities is not recorded separately in the accounts and not amortized because the investment is ordinarily held for only a short time and hence any amortized cost would be immaterial. -Year-End Valuation-HTM securities are reported at amortized cost. Trading and AFS securities are accounted for at fair value, determined at the balance sheet date. -Other Than Temporary Decline in FV-write security down to fair value that becomes the new cost basis and a realized loss is recognized in current earnings. If later FV increase, debit Market Adjustment and credit Unrealized

Holding Gain or Loss (OCI) account. If a later decrease, debit Unrealized Holding Gain or Loss (OCI) and credit Market Adjustment. -Transfers between categories: -Transfer From Trading-Unrealized holding gain/loss should not be reversed. Security s/b transferred @ FV with a gain or loss recognized upon transfer -Transfer to Trading-Gain/Loss recognized immediately -From HTM to AFS-Gain/Loss recognized in OCI -From AFS to HTM-Gain/Loss recognized in OCI and amortized over the securities remaining life -Sale-no regard is given to previously recognized losses or recoveries or to the amount accumulated in the Market Adjustment account. Reclassification adjustments avoid double counting in comprehensive income. Reclassification adjustments may be summarized on the face of the financials or disclosed in the notes.

V. Financial Instruments and Derivatives -Definitions: -Financial Instrument-Cash, evidence of ownership interest, or a contract that 1) imposed a contractual obligation on an entity and 2) gives the second entity the contractual right to receive cash or exchange other financial instruments -Derivative Instrument-Contract that 1) has at least 1 underlying and at least one notional amount or payment provision, 2) requires no initial net investment, and 3) requires or permits net settlement -Underlying-Specified interest rate, security price, commodity price, foreign exchange rate, index of prices or rates, or other variables. It may be a price or rate of an asset or liability, but is not the asset/liability itself -Notional Amount-Number of currency units, shares, bushels, pounds, or other units specified in a derivative instrument -Firm Commitment-Agreement w/an unrelated part, binding on both parties that has significant terms and disincentive for nonperformance -Forecasted Transaction-Transaction expected to occur for which there is no firm commitment -Fair Value Hedge-Hedge of the exposure to changes in fair value -Cash Flow Hedge-Hedge of the exposure to variable cash flow -Foreign Currency Hedge-Hedge of foreign currency -Derivative Instruments and Hedging Activities (SFAS 133, 138, 149)

-Derivatives: Recognized as assets or liabilities, reported at FV, Non-hedge derivatives are reported as gains/losses in earnings -Hedge Derivatives: 1) FV Hedge-reported in earnings, 2) Cash Flow Hedge-effective portion reported in OCI and ineffective portion in earnings, 3) Hedge of Net Investment in Foreign Operations-effective=OCI, ineffective=earnings -The ability to settle a derivative in a gain position by receiving cash is evidence of the right to a future economic benefit and indicates the instrument is an asset. If cash payment is required to settle a derivative in a loss position creates evidence of the duty to sacrifice assets in the future and indicates the instrument is a liability. -Embedded derivatives must be separately valued if their economic characteristics and risks are not clearly and closely related to the economic characteristics and risks of the host contract -Derivatives that are intended to be fair value or cash flow hedges and be effective must 1) Have formal documentation of the hedging relationship and the entitys risk management, 2) the hedge must be highly effective in achieving offsetting changes in FC or cash flows attributable to the hedged risk, and 3) gain potential -Fair Value Hedged Criteria: 1) hedged item is specifically identified, 2) is a single asset/liability, and 3) presents an exposure to changes in fair value for the hedged risk that could affect reported earnings -Cash Flow Hedged Criteria: 1) single transaction, 2) the forecasted transaction is probable and will occur w/insignificant variance, and 3) transaction is with an external third party -Unrealized Gains and Losses: -Non-Hedging Derivative- Gain/Loss recognized in earnings -FV Hedge-Earnings in period of change. Net losses/gains in the hedging activity indicates the effectiveness of the hedge; if loss or gain is $0, the hedge was highly effective. -Cash Flow Hedge-Effective portion of the gain/loss is initially reported as a component of other comprehensive income and subsequently reclassified into earnings when the forecasted transaction affects earnings. Overhedged ineffective portion is reported in earnings immediately -Foreign Currency Hedge -Foreign Currency Fair Value Hedge-Gain/Loss is recognized currently in earnings. Gain/loss on the hedged item adjusts the carrying amount of the hedged item and is also recognized currently in earnings -Foreign Currency Cash Flow Hedge-Effective Portion=OCI, Ineffective Portion=Earnings. Effectiveness is defined as the degree that the gain/loss for the hedging instrument offsets the loss/gain on the hedged item -Hedge of Net Investment in Foreign Operations-Gain/loss reported in OCI to the extent it is effective as a hedge -Disclosures for Hedges

-Must disclose its 1) objectives for holding or issuing the instruments, context needed to understand the objectives, and strategies for achieving those objectives, 2) distinguish between the instruments, 3) description of risk management, 4) the purpose, 5) For fair value hedges disclose the net gain/loss recognized in earnings and the gain/loss excluded from the assessment of hedge effectiveness and a description of where the net gain/loss is reported in the financial statements, 6) for cash flow hedges disclose the gain/loss recognized in earnings and any excluded from the assessment of hedge effectiveness, a description of the transactions, maximum length of time over which the entity is hedging its exposure to the variability in future cash flows, and the amounts of gains/losses reclassified into earnings, 7) for foreign currency hedges disclose the amount of gains/losses included in the cumulative translation adjustment, 8) amount reported in OCI, and 9) the beginning and ending accumulated gain/loss -Exceptions-1) Regular-Way Security Trades (delivery of a security w/in time generally established by regulations in the marketplace), 2) Normal Purchases and Sales (purchase or sale of something other than financial instruments) and 3) Certain Insurance Contracts (entitles the owner to be compensated only if the holder incurs a liability) are not subject to SFAS 133 requirements. -Disclosures (SFAS 107) -FV of financial instruments and significant assumptions used to estimate the FV, the evidence used, concentrations of credit risk, market risk -If it is not practicable to disclose info, disclose the pertinent info (carrying amount, effective interest rate, and maturity), and also the reasons why not practicable -Transfers & Servicing of Financial Assets & Extinguishments of Liabilities (SFAS 140)-an entity must recognize the financial and servicing assets it controls and the liabilities it has incurred, derecognize financial assets when control has been surrendered, and derecognize liabilities when extinguished -Accounting for Transfers and Servicing of Financial Assets-A transfer in which control is surrendered by the transferor shall be accounted for as a sale to the extent that consideration other than beneficial interests in the transferred assets is received in exchange. To be surrendered, 1) transferred asset must be isolated from the transferor, 2) either the transferee obtains the right to pledge or exchange the transferred assets, or the transferee is a qualified special purpose entity and the holders of the beneficial interest of that special purpose entity can pledge the interest, 3) transferor does not maintain effective control over the transferred assets through repurchase -Sale VS Collateralized Borrowing-If the above conditions are met, the transfer is a sale (measured at FV). If not all conditions are met, account for it as collateralized borrowing VI. Accounts Receivable -Valuation-Accounts Receivable should be valued at net realizable value. -Failure by the purchaser to take advantage of the discount should be considered interest revenue -If freight is borne by the seller, an expense account is charged. If freight is ultimately charged to the customer, the freight charges are included in the receivable. FOB shipping point-buyer is responsible for freight. FOB destination-seller is responsible for freight -There are two different methods for recognizing the amount of uncollectible receivables and bad debts.

-Percentage-Of-Sales Method-bad debts expense is calculated as a % of credit sales for a period. The amount estimated is charged to Bad Debts Expense and credited to Allowance for Uncollectible Accounts. This is income statement oriented because it attempts to match bad debt expense with revenues generated by the credit sales in the same period -Percentage-Of-Outstanding-Receivables-based on the balance in the trade receivables accounts and attempts to value the accounts receivable at their future collectible amounts. The percentage is applied to the ending balance of the gross accounts receivable to obtain the desired ending balance of the allowance for uncollectible accounts. The amount of bad debt expense recognized is the difference between the existing balance in the allowance account and the desired ending balance. This is balance sheet oriented because it attempts to achieve a proper carrying amount for the accounts receivable at the end of a period because they are reported at their net realizable value. -Interim-The total amount of bad debt expense recognized for the year is the amount of bad debt expense recognized during the year plus the amount recognized at the end of the year to adjust the existing balance in the allowance account to its desired ending balance VII. Notes Receivable -Claims usually not arising from sales in the ordinary course of business. This claim is evidenced by a note representing an unconditional promise to pay. -Interest-Bearing Notes-the present value = face value -Exchanged for Cash-present value=cash given up. If exchanged for cash and a promise to provide merchandise at a discount, issuer records at present value. The difference between fair value and cash payments is recognized as interest revenue over the contract life and is recorded as part of the cost of the related merchandise -Non-Interest or Unrealistic Stated Interest Rate-the receivable must be reported at PV or FV of merchandise exchanged, whichever is more evident. If material, the discount or premium should be amortized over the life of the note by use of the interest method. Interest is calculated by applying the prevailing rate at the time of issuance to the carrying amount of the note at the beginning of the period -Impairment-A loan is impaired when based on current information and events, it is probable that the creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement. -Measure the impaired loan using one of three methods: 1) Present Value Method, 2) Market Price Method, 3) Fair Value of Collateral Method -If the measure of the impaired loan is less than the recorded investment in the loan, the creditor creates or adjusts an existing valuation allowance account with a corresponding charge or debit to the bad debts -Subsequent Recognition of Income or Expense

-An increase in PV due to passage of time is interest revenue, entire change in PC of future cash flows is reported as an increase or reduction in bad debt expense, and use of the cost recovery method does not alter the total income recognized on the loan; it merely delays the timing of income recognition

-If the initial impairment was measured by the observable market prices of the impaired loan, or by the fair value of the collateral. A decrease in the measure of the impaired loan is an addition to the bad debts expense, and an increase in the measure of the impaired loan is a reduction in bad debts expense -Subsequent Changes-If there is a change in future cash flows the creditor should remeasure the impairment amount, and adjust accordingly the valuation allowance and the bad debt expense account -Disclosure-Total receivable must be disclosed, the related allowances, and the reconciliation must be disclosed. How interest income was recognized as well as the amount of cash received for the period and how it was recognized must be disclosed VIII. Receivables as Immediate Sources of Cash -The holder of receivables can immediately convert them into cash by discounting, assigning, factoring, and pledging -Discounting: sale of a note to a third party. These sales usually are on a with recourse basis, which means that upon default of the debtor the seller of the note becomes liable for the maturity value. Prior to discounting, the interest and the proceeds needs to be determined. The contingent liability assumed by the seller of the note must be disclosed. -Assignment of A/R-Formal arrangement whereby the rights to A/R are assigned to a financial institution in exchange for cash. Assignment usually includes with recourse and non-notification clauses. With recourse means that the assignor remains liable for the collection of the receivables. Non-notification means that the debtors are not notified of the assignment, and therefore continue making payments to the seller. The sellers equity in the receivables is represented as the difference between the accounts assigned and the related liability. -Factoring-similar to a sale of receivables, but generally w/o recourse. It is accounted for as any other sale of an asset: debit cash, credit receivables, and record as a gain or loss -Pledging-receivables may be pledged as security for loans. Collections on the receivables are usually required to be applied to a reduction of the loan. Where receivables are pledged, adequate disclosure must be made in the financials