(6) Notes Receivable / Payable

Transcription

1 (6) Notes Receivable / Payable 112 Review of PV Concepts 1. What is the present value of $10,000 to be received in 10 years; i=8% 2. What is the present value of $10,000 to be received in 5 years and $20,000 to be received in 10 years; i= 5% 3. What is the present value of an 20 year annuity of $1,000 per year; i=7% 4. What is the present value of a 10 year annuity of $5,000 with the first payment to be received 5 years from now; i=9% 5. You take out a loan in the amount of $100,000 with annual equal repayments of principal and interest over the next 20 years. What is your annual payment? What is the balance of the loan after the 8th payment? i=6% of 26 CMA Ontario, 2011

2 Promissory Notes usually includes interest when the note excludes interest or includes interest at a lower rate than market; the note must be discounted: first calculate the cash flows that are generated by the note - this is your only use for the interest rate implicit in the terms of the transaction then discount these cash flows at an imputed rate of interest the imputed rate of interest is the more clearly determinable of the following two rates: (a) the prevailing rate for a similar instrument of an issuer with a similar credit rating, or (b) a rate of interest that discounts the nominal amount of the instrument to the current cash sales price of the goods or services. 114 Promissory Notes - cont d the effective interest method is used for notes recorded at a discount: the interest revenue in a given period is equal to the carrying value of the notes times the imputed rate any difference between the interest revenue and the cash received is applied against the carrying value of the note ASPE: option of using either the effective interest method or the straight line method of amortization (or any other systematic allocation method) of 26 CMA Ontario, 2011

3 Promissory Notes - Example You sell equipment with a list price of $100,000 on January 1, 20x1. The imputed rate = 8%. How would you account for this transaction under the following independent terms: i. 0% interest, pay $100,000 in 2 years ii. 2% payable annually, $100,000 payable in 4 years iii. 0% interest in years 1-2, 5% interest in years 3-5, pay $100,000 in 5 years iv. equal annual payments of principal and interest over 4 years at an interest rate of 3% v. 0% interest, pay $100,000 in three years. You do not know the discount rate, but the current cash price of the equipment is $80, of 26 CMA Ontario, 2011

4 (7) Inventory 117 Inventories - Definitions inventories are assets: (a) held for sale in the ordinary course of business; (b) in the process of production for such sale; or (c) in the form of materials or supplies to be consumed in the production process or in the rendering of services of 26 CMA Ontario, 2011

5 Measurement of Inventories cost = all costs of purchase, costs of conversion and other costs incurred in bringing the inventories to their present location and condition includes purchase price, import duties, freight, handling should be net of trade discounts and rebates goods in transit: FOB shipping point vs. FOB destination retail method can be used if it approximates cost 119 Costs of Conversion " all direct costs: labour + materials plus a systematic allocation of fixed and variable production costs allocation of fixed is based on normal capacity = production expected to be achieved over a number of periods under normal circumstances actual production can only be used it it approximates normal capacity under/overallocated overhead is expenses standard costs can be used if they approximate cost of 26 CMA Ontario, 2011

6 Application of Lower of Cost or Market market is defined as net realizable value - the sales price of the inventory item less any costs incurred in order to sell the item at the reporting date, the cost of each inventory item is compared to its net realizable value if market value is less than cost, the inventory item is written down if, at a subsequent period, NRV>cost, the write down can be reversed (limited to the original write-down) 121 Application of Lower of Cost or Market cont d grouping of items is allowed under the following condition: items that cannot be practically evaluated separately from other items in the product line, i.e. inventory relating to the same product line having similar purposes and used which are produced in and marketed in the same geographical area of 26 CMA Ontario, 2011

7 Application of Lower of Cost or Market Example Item Cost NRV A $ 3,500 $4,800 B 16,400 14,200 C 4,600 4,400 D 6,700 9,800 E 9,400 8,800 Total $40,600 $42, Inventory Cost Flow Methods specific identification is required if the items are not ordinarily interchangeable, or goods are provided and segregated for a specific project. otherwise: FIFO or Average Cost the same cost formula must be used for all inventories having a similar nature and use to the entity for inventories with a different nature or use, different cost formulas may be justified of 26 CMA Ontario, 2011

8 FIFO Assigns the more recent purchase price to the statement of financial position inventory account; the older costs go to the COGS account convenient and produces an inventory asset value close to current cost no differences in inventory cost and COGS under the periodic and perpetual methods 125 Average Cost Assigns the available cost equally to the inventory asset and to cost of goods sold expense two versions: annual weighted average for periodic systems and moving weighted average for perpetual systems periodic: unit cost = cost of goods available for sale / units available for sale perpetual: unit cost is recalculated every time a purchase is made = cost of all goods on hand / number of units on hand of 26 CMA Ontario, 2011

9 Inventory Example Units Cost/ Price Opening Inventory 1,000 $4.00 Sale # 1 (600) 6.00 Purchase # Sale # 2 (700) 6.50 Purchase # 2 1, Gross Profit Method of Estimating Inventory used to estimate interim inventory values only; cannot be used to calculate inventory at the reporting date based on the (1) COGS formula and (2) the gross profit percentage of 26 CMA Ontario, 2011

10 Gross Profit Method Example On June 15, a company s warehouse was destroyed by a fire. Use the following information to estimate the value of the ending inventory: Sales to June 15 $4,500,000 Opening inventory 450,000 Purchases to June 15 3,250,000 Gross profit % 28% of 26 CMA Ontario, 2011

11 (8) Property, Plant and Equipment & Intangible Assets 130 Property, Plant and Equipment defined as tangible items that: are held for use in the production or supply of goods and services, for rental to others, or for administrative purposes; and are expected to be used during more than one period (IAS 16.6) general recognition principle - the cost of an item of property, plant and equipment can be classified as an asset if, and only if: it is probable that future economic benefits associated with the item will flow to the entity, and the cost of the item can be measured reliably (IAS 16.7) of 26 CMA Ontario, 2011

12 Property, Plant and Equipment the general recognition principle applies to (i) the initial recognition of an asset, (ii) when parts of that asset are replaced, and (iii) when costs are incurred relative to that asset during its useful life. assets acquired for safety or environmental reasons should be capitalized as property, plant and equipment even though these do not meet the strict definition set out in IAS16.7. This is because these expenditures have to be incurred in order for the productive assets to generate future benefits. 132 ASPE - Property, Plant and Equipment capitalization of future costs are subject to a different standard than the initial capitalization of costs these are called betterments and are capitalized only when they increase the service potential of an asset. This occurs when: there is an increase in the previously assessed physical output or service capacity, operating costs are lower, the life or extended useful life is extended, or the quality of the output is improved of 26 CMA Ontario, 2011

13 Component Approach significant parts of an assets have to be capitalized and depreciated separately (IAS 16.9) these are generally parts that have a significant cost in relation to the total cost of the asset 134 Initial Cost of an Asset the purchase price the amount of cash or cash equivalents paid or the fair value of the other consideration given to acquire the asset if the asset is acquired in exchange for a note payable, the asset is recorded at the present value of the note purchases of groups of assets: the purchase price is allocated to the assets based on their relative fair market values of 26 CMA Ontario, 2011

14 Initial Cost of an Asset - cont d directly attributable costs these are defined as costs necessary to bring the asset to the location and condition necessary for it to be capable of operating in the manner intended by management (IAS 16.20), i.e. costs of employee benefits arising from the construction or acquisition of the item of property, plant and equipment costs of site preparation initial delivery and handling costs installation and assembly costs costs of testing whether the asset is functioning properly professional fees 136 Initial Cost of an Asset - cont d the following costs are specifically excluded (IAS and 16.20): costs of opening a new facility, such as an open house. These costs are incurred after the asset is capable of being used. costs of introducing a new product or service, including costs of advertising and promotional activities. administrative and other general overhead costs. costs incurred while waiting for the asset to be used, but subsequent to the asset being capable of being used. operating losses incurred in the initial stages of operating the asset of 26 CMA Ontario, 2011

15 Initial Cost of an Asset - cont d the cost of dismantling, removal or restoration (decommissioning costs) this refers to the asset retirement obligation that is set up when the acquisition of an asset requires subsequent costs to dismantle, remove or restore 138 Decommissioning Costs existing legal or constructive obligations associated with the retirement of tangible assets recorded in period the asset is acquired as the present value of the obligation; recorded both as an asset and as a liability (asset retirement obligation) since liability is discounted, we accrue interest of 26 CMA Ontario, 2011

16 Asset Retirement Obligation Example You invest $100,000,000 in a project on Jan 1, 20x1 and estimate the asset retirement obligation to be $50,000,000 in 25 years (the end of the useful life of the project). If the relevant discount rate is 6%, prepare the journal entries relative to this project for the first two years. On January 15, 20x26 the actual asset retirement costs amount to $54,000,000. Prepare the journal entry to record the realization of the ARO. 140 ASPE - Asset Retirement Obligations they are only set up for legal or contractual obligations the amount set up as an ARO is the best estimate of the expenditure required to settle the present obligation the change in ARO in a given year is as follows: first, a discount rate is applied to the opening balance - this is charged to Accretion Expense (not interest expense), second, the ARO balance is adjusted to the year end estimated amount. Any changes go to the related asset of 26 CMA Ontario, 2011

17 Self-Constructed Assets costs include: direct materials direct labour variable overhead incremental fixed overhead borrowing costs (mandatory) 142 Borrowing Costs a qualifying asset is defined as an asset that necessarily takes a substantial amount of time to get ready for its intended use or sale (IAS 23.5). This includes intangible assets and inventory, but excludes inventories that are routinely manufactured or otherwise produced in large quantities or on a repetitive basis, i.e. items that take some time to manufacture but that are sold as standard items such as residential housing, subway cars, aircraft, etc of 26 CMA Ontario, 2011

18 Borrowing Costs - cont d borrowing costs are defined as interest on short-term and long-term debt and includes any amortization of discounts and premiums and finance charges on leases borrowing costs are first applied from loans taken out specifically to construct the qualifying asset;any excess required come from general borrowings 144 Borrowing Costs - cont d the capitalization rate is defined as the annual borrowing costs divided by the weighted average debt (general borrowings) that generated borrowing costs the capitalization rate is applied to the weighted average expenditures made on qualifying assets. The resulting amount is the amount of borrowing costs to be capitalized to the asset (after borrowing costs on asset specific loans have been taken into account) capitalization of borrowing costs is mandatory of 26 CMA Ontario, 2011

19 ASPE - Borrowing Costs capitalization of borrowing costs is not mandatory, but optional if opted for, the amount of interest capitalized has to be disclosed of 26 CMA Ontario, 2011

20 Problem 12 - Property, Plant and Equipment - Borrowing Costs The Sullivan Corporation started the construction of an asset on March 1, 20x4. The accumulated investment in the asset as of December 31, 20x4 was $3,600,000, including $150,000 of capitalized borrowing costs. Direct costs (other than borrowing costs) incurred on the construction of the asset in 20x5 was as follows: January 15 $400,000 February ,000 March ,000 June ,000 August 31 1,000,000 The asset was completed and put into productive use on August 31, 20x5. The company's borrowings include: a $2,500,000, 8% loan taken out to finance the construction of the asset. The loan was taken out on March 1, 20x4 and repaid on August 31, 20x5 bank loan of $15,000,000, 6.5%. This loan was outstanding all year. the company had an issue of bonds payable with a face value of $10,000,000 bearing an annual coupon of 5% (payable semi-annually) outstanding at the beginning of the year. The bonds were refunded on June 30 (on the last coupon payment date). The carrying value of the bonds on December 31, 20x4 was $10,040,000. Required - Calculate the carrying value of the self-constructed asset at December 31, 20x5. 20 of 26 CMA Ontario, 2011

21 Subsequent Expenditures when a component is replaced, the cost of the new component is capitalized and depreciated over its estimated useful life - the old component is de-recognized the cost of major inspections or overhauls are also capitalized as long as they meet the recognition criteria the cost of the day to day servicing of an asset is expensed to repairs and maintenance 147 Subsequent Expenditures - Example A building was purchased at a cost of $5,000,000 on January 2, 20x1. Part of the cost ($200,000) was allocated to the furnace which had an estimated useful life of 20 years with no salvage value. On December 31, 20x14, the furnace was replaced at a cost of $260,000. The estimated useful life of the new furnace is 15 years. Assume the straight-line depreciation method is used of 26 CMA Ontario, 2011

22 Land if land is purchased with an old building on it, any demolition costs less salvage value is charged to land landscaping is charged to land land improvements with a limited life are recorded in a separate Land Improvement account 149 Leasehold Improvements leasehold improvements occur when the lessee pays for improvements on the leased property amortized over the lesser of the remaining lease life and the useful life of 26 CMA Ontario, 2011

23 Problem 5 Statement of Cash Flow The comparative statements of financial position and income of Worsley Ltd. are shown below. WORSLEY LTD. Statement of Financial Position as at December 31 20x3 20x2 Current assets Cash $ 137,000 $ 116,000 Accounts receivable 371, ,000 Inventory 460, ,000 Prepaid expenses 26,000 17, , ,000 Property, plant and equipment 2,836,000 2,445,000 Accumulated depreciation (1,121,000) (1,034,000) 1,715,000 1,411,000 $ 2,709,000 $ 2,394,000 Current liabilities Accounts payable $ 436,000 $ 492,000 Unearned revenues 56,000 78,000 Interest payable 104,000 99,000 Income taxes payable 31,000 35,000 Dividends payable 35,000 23, , ,000 Bonds payable 800,000 1,000,000 Mortgage payable 400, ,000 1,200,000 1,250,000 Shareholders equity Common shares 500, ,000 Retained earnings 347, , , ,000 $ 2,709,000 $ 2,394, of 26 CMA Ontario, 2011

24 WORSLEY LTD. Income Statement for the year ended December 31, 20x3 Sales $ 4,971,000 Cost of goods sold (4,112,000) Depreciation expense (155,000) Operating expenses (471,000) Interest expense (84,000) Income tax expense (36,000) Gain on repayment of bonds payable 3,000 Loss on disposal of capital assets (4,000) Net income $ 112,000 Additional information 1. On January 10, 20x3, Worsley issued 10,000 common shares for property, plant and equipment. The property, plant and equipment acquired had a current market value of approximately $75, On March 16, 20x3, Worsley sold a capital asset that cost $112,000. Required a. Prepare a cash flow statement for the year ending December 31, 20x3. Use the indirect approach to report the operating activities. b. Prepare the cash flow from operations using the direct approach. 24 of 26 CMA Ontario, 2011

25 Week 3 Homework File Suggested study plan for this week: Primary List Secondary List 1. Review what we did in class on Saturday. 2. Notes Receivable / Payable Prepare In-Class Problem 11 Florida Developments Inc.. It will be taken up in class next week. Problem 2, 3, 5, 6, 8 Problems 4, 7 3. Inventory MCQ, Problems 1, 2, 6, 7, 9, 11, 12 Problems 3, 4, 5, 8, Property, Plant and Equipment & Intangibles Problems 3, 5 5. Prepare the Week 3 Quiz. 25 of 26 CMA Ontario, 2011

26 Problem 11 Notes Receivable/Payable Assume that Florida Developments Inc., having bought a large tract of land in a swampy area near an established resort, sold lots for a payment of $1,000 down and the balance of $30,000 due in 25 years at an interest rate of 5%. Suppose that at the time the imputed interest rate was 19%. How would Florida Developments Inc. record the sale of such a lot on January 2, 20x3. How would the first two interest payments be recorded? Assume that interest is paid annually on December of 26 CMA Ontario, 2011