CHAPTER -FOUR

CASH AND RECIEVABLES

Since cash is the asset most likely to be used improperly by employees, exposed for embezzlement and
many business transactions either directly or indirectly affect it, it is therefore necessary to have
effective control of cash.
MEANING OF CASH
Cash includes money on deposit in banks and other items that a bank will accept for immediate deposit.
Money on deposit in banks includes checking and saving accounts. Other items such as ordinary checks
received from customers, money orders, coins and currency and petty cash also are included as cash.
Banks do not accept travel advances to employees, notes receivable or post-dated checks as cash.
Characteristics Of Cash
The following are some of the characteristics of cash:
a) Cash is used as medium of exchange
b) Cash is the most liquid asset
c) Cash is mostly affected by business transactions
d) Cash is used to measure the value of other assets
e) Cash is mostly exposed to embezzlement
Because of the above characteristics cash needs internal control and cash management.
Control of Cash through Bank Accounts
Bank accounts are one of the most important means of controlling cash that provide several advantages
such as:
- Bank accounts reduce the amount of cash on hand.
- Cash is physically protected by the bank,
- A separate record of cash is maintained by the bank and the company.
If a company uses a bank account, monthly statements are received from the bank showing beginning
and ending balances and transactions occurring during the month including checks paid, deposits
received, and service charges. These monthly statements (reports) received from the bank are called
bank statements. Bank statements generally are accompanied by checks paid and charged to the
accounts during the month, debit and credited memos, which inform the company about changes in the
cash accounts. For a bank, the depositor’s cash balance is a liability, the amount the bank owes to the
firm. Therefore, a debit memo describes the amount and nature of decrease in the company’s cash
accounts. A credits memo indicates an increase in the cash balance of the depositor that it has with the
bank.
Reconciliation of Bank and Book Cash Balances
Monthly reconciling of the bank balance with the depositor’s cash accounts balance is essential cash
control procedure. To reconcile a bank statement means to verify that the bank balance and the
accounting records of the depositor are consistent. The balance shown in a monthly bank statement
seldom equals the balance appearing in the depositor’s accounting records. Certain transactions recorded
by the depositor may not have been recorded by the bank and vice versa.
 The most common examples that cause disparity between the two balances are:

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Differences between the company and bank balance may arise because of a delay by either the
company or bank in recording transactions. For example, there is normally a time lag of one or more
days between the date a check is written and the date that it is paid by the bank.
Likewise, there is normally a time lag between when the company mails a deposit to the bank (or uses
the night depository) and when the bank receives and records the deposit.
Differences may also arise because the bank has debited or credited the company’s account for
transactions that the company will not know about until the bank statement is received.
Finally, differences may arise from errors made by either the company or the bank.
Petty Cash Fund
Petty cash fund, which is part of the total cash balance, is used to handle many types of small payments
such as employee transportation costs, purchase of office supplies, purchase of postage stamps, and
delivery charges. Many businesses find it convenient to make minor expenditures instead of writing
checks. Thus, it is desirable to control such payments. However, writing a check for each small payment
is not practical. Instead, a special cash fund, called a petty cash fund, is used. The petty cash amount
various from Br. 50 or less to more than Br. 1,000, which will cover small expenditures for a period of
two or three weeks.
A petty cash fund is established by estimating the amount of payments needed from the fund during a
period, such as a week or a month.
Establishment of Petty Cash
To establish a petty cash fund a check is issued to a bank. This check is cashed and the money is kept on
hand in a petty cash box. One employee is designated as custodian of the fund. The issuance of the
check for establishment is recoded by debiting petty cash account and crediting cash.
To illustrate, assume that a petty cash fund of $500 is established on August 1. The entry to record this
transaction is as follows:

Aug1 Petty Cash 500

Cash 500
Replenishment of Petty Cash
During the period, the custodian makes small payments from the petty cash fund and obtains a receipt or
prepares a petty cash voucher. This petty cash voucher explains the nature and amount of every
expenditure and is kept with the fund. When the fund runs low or at the end of the company’s fiscal
period, a check is issued to reimburse the fund for the expenditures made during the period. The
issuance of this check is recorded by debiting the appropriate expense accounts and crediting cash or
vouchers payable. At the end of August, the petty cash receipts indicate expenditures for the following
items:
Office supplies $380
Postage (debit Office Supplies) 22
Store supplies 35
Miscellaneous administrative expense 30
Total $467
 Petty Cash is not debited when the fund is replenished. Instead, the accounts affected by the
petty cash disbursements are debited.
The entry to replenish the petty cash fund on August 31 is as follows
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 Aug. 31 Office Supplies 402
Store Supplies 35
Miscellaneous Administrative Expense 30
Cash 467
RECEIVABLES
The term receivables includes all money claims against other entities, including people, business firms,
and other organizations. These receivables are usually a significant portion of the total current assets.
The receivables that result from sales on account are normally accounts receivable or notes receivable.
Classifications of Receivables
Many companies sell on credit in order to sell more services or products. The receivables that result
from such sales are normally classified as accounts receivable or notes receivable.
Accounts receivable are amounts owed by customers on account. They result from the sale of goods
and services on account. Companies generally expect to collect these receivables within 30 to 60 days.
Accounts receivable are the most significant type of claim held by a company.

Notes receivable are claims for which formal instruments of credit are issued as proof of the debt. A
note receivable normally extends for time periods of 60–90 days or longer and requires the debtor to pay
interest.
Notes and accounts receivable that result from sales transactions are often called trade receivables.
Other receivables include non trade receivables. Examples are interest receivable, loans to company
officers, advances to employees, and income taxes refundable. These do not generally result from the
operations of the business. Therefore companies generally classify and report them as separate items in
the balance sheet.
Internal Control of Receivables
The four functions which are related to receivables, credit approval, sales, accounting, and collections,
should be separated. The individuals responsible for sales should be separate from the individuals
accounting for the receivables and approving credit. By doing so, the accounting and credit approval
functions serve as independent checks on sales. The employee who handles the accounting for
receivables should not be involved with collecting receivables. Separating these functions reduces the
possibility of errors and misuse of funds.
To illustrate the need to separate functions, assume that the accounts receivable billing clerk has access
to cash receipts from customer collections. The clerk can steal a customer’s cash payment and then alter
the customer’s monthly statement to indicate that the payment was received. The customer would not
complain and the theft could go undetected.
Accounting for Uncollectible Accounts
In prior chapters, we described and illustrated the accounting for transactions involving sales of
merchandise or services on credit. A major issue that we have not yet discussed is uncollectible
receivables from these transactions.
Businesses attempt to limit the number and amount of uncollectible receivables by using various
controls. The primary controls in this area involve the credit-granting function. These controls normally

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involve investigating customer creditworthiness, using references and background checks. Companies
may also impose credit limits on new customers.
Once companies record receivables in the accounts, the next question is: How should they report
receivables in the financial statements? Companies report accounts receivable on the balance sheet as an
asset. But determining the amount to report is sometimes difficult because some receivables will
become uncollectible.
Each customer must satisfy the credit requirements of the seller before the credit sale is approved.
Inevitably, though, some accounts receivable become uncollectible. For example, a customer may not be
able to pay because of a decline in its sales revenue due to a downturn in the economy. Similarly,
individuals may be laid off from their jobs or faced with unexpected hospital bills. Companies record
credit losses as debits to Bad Debts Expense, Uncollectible Accounts Expense or Doubtful Accounts
Expense. Such losses are a normal and necessary risk of doing business on a credit basis.
There is no general rule for when an account becomes uncollectible. Some indications that an
account may be uncollectible include the following:
1. The receivable is past due.
2. The customer does not respond to the company’s attempts to collect.
3. The customer files for bankruptcy.
4. The customer closes its business and The company cannot locate the customer.
If a customer doesn’t pay, a company may turn the account over to a collection agency. After the
collection agency attempts to collect payment, any remaining balance in the account is considered
worthless.
The two methods of accounting for uncollectible receivables are as follows:
1. The direct write-off method records bad debt expense only when an account is determined to be
worthless.

2. The allowance method records bad debt expense by estimating uncollectible accounts at the end of
the accounting period.

The direct write-off method is often used by small companies and companies with few receivables. The
allowance method emphasizes reporting uncollectible accounts expense in the period in which the
related sales occur. This emphasis on matching expenses with related revenue is the preferred method of
accounting for uncollectible receivables. There are situations, however, where it is impossible to
estimate, with reasonable accuracy, the uncollectible at the end of the period.
Notes Receivable
A note has some advantages over an account receivable. By signing a note, the debtor recognizes the
debt and agrees to pay it according to its terms. Thus, a note is a stronger legal claim.
Characteristics of Notes Receivable
A promissory note is a written promise to pay the face amount, usually with interest, on demand or at a
date in the future. Characteristics of a promissory note are as follows:
1. The maker is the party making the promise to pay.
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2. The payee is the party to whom the note is payable.
3. The face amount is the amount the note is written for on its face.
4. The issuance date is the date a note is issued.
5. The due date or maturity date is the date the note is to be paid.
6. The term of a note is the amount of time between the issuance and due dates.
7. The interest rate is that rate of interest that must be paid on the face amount for the term of the note.
a) Due Date
The date a note is to be paid is called the due date or maturity date. The period of time between the
issuance date and the due date of a short-term note may be stated in either days or months. When the
term of a note is stated in days, the due date is the specified number of days after its issuance.
The term of a note may be stated as a certain number of months after the issuance date. In such cases,
the due date is determined by counting the number of months from the issuance date. As an example, a
five-day note dated January-1 matures and is due on Jannuary-6. A 90-day notes dated March-10,
matures on Jun-8. This due date, June-8, is computed as below: -
Term of the Note--------------------------------------------90
Days in March---------------------------31
Minus the date of the note-------------10
Days remaining in March------------------------21
Add days in April---------------------------------30
Add days in May----------------------------------31 82
Number of days remaining to equal 90-days
(90 – 82 = 8)------------------------------------------------8
Therefore, Due date is June-8.
The period of a note is sometimes expressed in months. When months are used, the note matures and is
payable in the month of its maturity on the same date of the month as its original date
A three-month note dated March-10, for instance, is payable on June-10.
b) Interest
A note normally specifies that interest be paid for the period between the issuance date and the due date.
Notes covering a period of time longer than one year normally provide that the interest be paid
semiannually, quarterly, or at some other stated interval. When the term of the note is less than one year,
the interest is usually payable on the due date of the note.
The interest rate on notes is normally stated in terms of a year, regardless of the actual period of time
involved. Thus, the interest on $2,000 for one year at 12% is $240 (12% of $2,000). The interest on
$2,000 for one-fourth of one year at 12% is $60 (1/4 of $240). The basic formula for computing interest
is as follows:
Face Amount (or Principal) × Rate ×Time = Interest
To illustrate the formula, the interest on the $10,000, 12%, 60 day note is computed as follows:
$ 10,000 X 12% X 60/360 = 200
In computing interest for a period of less than one year, agencies of the federal government and many
financial institutions use the actual number of days in the year, 365. In the preceding computation, for
example, the time would have been stated as 90/365 of one year. To simplify computations, however,
we will use 360 days.

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 c) Maturity Value
The amount that is due at the maturity or due date is called the maturity value. The maturity value of a
note is the sum of the face amount and the interest. For example, in the above illustration, the maturity
value is $10,200($10,000 face amount plus $200interest).
Accounting for Notes Receivable
As we mentioned earlier, a note may be received from a customer to replace an account receivable. To
illustrate, assume that a 30-day, 12% note dated November 21, 2006, is accepted in settlement of the
account of XYZ Co., which is past due and has a balance of $6,000. The entry to record the transaction
is as follows:
Nov. 21: Notes Receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6,000
Accounts Receivable - XYZ Co. . . . . . . . . . . . . . . . . . . 6,000
(Received 30-day, 12% note dated November 21, 2006)
When the note matures, the entry to record the receipt of $6,060 ($6,000 principal plus $60 interest) is as
follows:
Dec. 21: Cash . . . . . . . . . . . . . . . . . . . . . 6,060
Notes Receivable . . . . . . . . . . . . . . . . . 6,000
Interest Revenue . . . . . . . . . . . . . . . . . 60
(Received principal and interest on matured note)