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Intermediate Accounting Volume 1

CHAPTER 1 The Development of the Accounting Profession


The primary purpose of accounting is to provide quantitative information, about economic entities, that is
to be used as the basis for formulation of economic decisions.
A branch of accounting called management accounting is designed to meet the information needs of these
internal users.
Internal Users
Active Owners and Managers
The general purpose reports provided to external users are called the financial statements, which are the
product of a broad branch of accounting called financial accounting.
External Users
Inactive Users
Creditors and Lenders
Suppliers
Potential Investors
Taxing Authorities
Regulatory Bodies
Employees and Employees Unions
Financial Analyst
Advisers and General Public
Users may also categorized as direct or indirect
Direct Users use financial information as a tool to protect their own interest in the
enterprise.
Owners
Managers
Creditors
Suppliers
Customers
Employees
Taxing Authorities
Indirect Users use accounting information to provide advice to or protect the interest of
a direct user.
Regulatory Agencies protect the interest of the investors and the public
Labor unions protect the interest of the employees
Financial and Legal Consultants provide advices and assistance to their clients
who may be customers, lenders or suppliers of the firm
Accounting primarily provides information that can be measured and expressed in terms of units of
measure. The monetary unit is generally the unit of measure used in communicating accounting
information.
Accounting Entity Concept the concept that separates the personality of the enterprise from that of its
owners and other stake holders. An accounting entity is capable of controlling its own economic resources
and incurring economic obligations.
Branches of Accounting
Financial Accounting
o The broadest branch of accounting focusing on the needs of external users.
o It is concerned with the recognition, measurement and communication of economic
resources, economic obligations and changes in economic resources and economic
obligations.
o Should conform to the accounting standards as developed by standard setting bodies.
Management Accounting
o Serves the information needs of the internal users. The managers and active owners use
accounting information in making and implementing short-term and long-range plans for
the enterprise.
o Because the information required by the management may vary based on the specific
needs at a particular time, the information provided is not structured and is not
necessarily conforming to the accounting standards.
Cost Accounting
o Concerned with the measurement and recognition of cost of service provided or products
manufactured.
o It is ordinarily associated with manufacturing companies as a tool of both financial
accounting and management accounting.
Tax Accounting
o Is concerned with the computation of taxes and preparation of tax returns submitted to a
taxing authority.
Government Accounting
o Encompasses the process of analyzing, classifying, summarizing and communicating all
transactions involving the receipt and disposition of the government funds and property
and interpreting the result thereof.
Bookkeeping refers only to one phase of accounting, the recording phase.
Other phases of accounting include classifying, summarizing and communication
information and interpreting the result thereof.
Auditing - refers to an independent examination of the financial statements conducted
by a certified public accountant for the purpose of rendering an opinion as to the fairness
of the presentation of the financial statements.
THE DEVELOPMENT OF THE ACCOUNTING PROFESSION AND THE STANDARD SETTING
PROCESS
Luca Pacioli who introduce the system of recording business transactions into debit and credit
parts which is popularly called double entry bookkeeping system.
IASC (International Accounting Standards Committee)
IAS (International Accounting Standards) set of uniform global accounting standard.
IASB (International Accounting Standards Board)
IFRS (International Financial Reporting Standards) the standards that originated from IASB
PICPA (Philippine Institute of Certified Public Accountant) organized the Accounting
Standard Council
SFAS (Statements of Financial Accounting Standards) accounting standards developed by
ASC
FRSC (Financial Reporting Standard Council) - successor of SFAS
BOA (Board Of Accountancy) the body that regulates the practice of accountancy in the
Philippines.
PFRS (Philippine Financial Reporting Standard)

THE CONCEPTUAL FRAMEWORK FOR FINANCIAL REPORTING


Conceptual Framework facilitate the consistent and logical formulation of PFRS. It also
provides a basis for the use of judgement in resolving accounting issues.
In case of conflict between a PFRS and the conceptual framework, the requirements of the
specific PFRS shall prevail.
Accrual Basis
- The Financial Statement are based on the accrual basis of accounting. The accrual basis
recognizes the effects of the transactions when the transaction occur, rather than when cash
is receive and paid.
- Revenues are recorded when earned, that is, generally when goods are sold or when service are
performed. Expenses are recorded when incurred, not necessarily when cash is paid.
Going Concern
- Entities are presumed to continue operations in the future, unless there indications in the
contrary
Qualitative Characteristics of Accounting Information
A. Fundamental Qualitative Characteristics
a. Relevance relevant information influences the judgement and evaluation of the user.
Relevant information possesses three qualities: confirmatory value (feedback value),
predictive value and materiality.
i. Confirmatory Value the quality of value that confirms earlier expectation
ii. Predictive Value enables its users to make forecasts and plan their future actions.
iii. Materiality provides a threshold or cutoff point for recognition.
b. Faithful Representation An information is faithfully represented when it depicts the actual
events or effects of events and not merely their legal form. Faithful Representation is the
quality of being honest to the users.
i. Completeness A complete depiction shall include all information necessary for a
user to understand the phenomenon being depicted.
ii. Neutrality Neutral Information is impartial and not biased toward the particular
needs or desires or specific users. It is not manipulated to induce a particular decision
or evaluation by the users.
iii. Freedom from Error - means that the process used to produce the information has
been carefully selected and appropriately applied.

B. Enhancing Qualitative Characteristics


a. Comparability Comparable information enables users to identify similarities and
differences between different sets of economic circumstances.
b. Verifiability means reaching consensus if another knowledgeable and independent
observers use the same measurement process.
i. Direct Verification applies direct observation, as counting cash
ii. Indirect Verification means redoing the process of measurement
c. Timeliness Timely information is provided early enough for the users to use it as a basis for
making decision.
d. Understandability Understandable financial information is presented using forms and
terminologies that are adapted to the users range of understanding.
Elements of Financial Statements
Asset These are the resources controlled by the entity as a result of past events and from which future
economic benefits are expected to flow to the enterprise.
Liability a present obligation of an enterprise arising from past events, the settlement of which is
expected to result in an outflow from the entity of the economic resources embodying economic benefits.
Equity the residual interest in the assets of the entity after deducting all its liabilities.
Income is the increase in economic benefits during an accounting period in the form of inflows or
enhancements of assets or decreases of liabilities that result in increase in equity, other than those relating to
contributions from equity participants. Revenues arise from major or central activities of the enterprise while
gains arise from incidental activities.
Expenses the decrease in economic benefits during the reporting period in the form of outflows or
depletion of assets or incurrence of liabilities that result in decreases in equity, other than those relating to
distributions to equity participants.
Recognition Principles
The Conceptual Framework identifies two general criteria for the recognition of financial statement
elements. They are as follows.
1. It is probable that there is an inflow or outflow of economic benefits.
2. The element has a cost or value that could be reliably measured.
The Conceptual Framework identifies four measurement bases:
1. Historical Cost the cost of acquisition
2. Current Cost (Fair Value) the amount of cash or cash equivalents that would have to be paid if the
same asset or an equivalent asset is acquired currently.
3. Realizable Value the assets disposal value reduced by disposal costs, or the liabilities settlement
amount including settling cost.
4. Present Value discounted future cash flow
Other cost:
1. Sunk Cost cost that have already been incurred and will be changed or avoided by any future decision.
2. Committed Cost cost resulting from an organization structure or use of facilities and its basic organization
structure.
3. Discretionary Cost cost resulting from management decision to spend a particular amount of money for
specific cost
4. Common Cost the mutually beneficial cost
5. Joint Cost the cost incurred in a single process that yields two or more products.
6. Opportunity Cost theses represents the benefit foregone because one force of action is chosen over another.
The Concepts of Capital and Capital Maintenance
Concepts of Capital
A. Financial Concept of Capital financial assets are measured at fair value, while PPE, intangible assets,
depending on the accounting policy adopted by the enterprise, maybe measured using historical cost or
revalued amount (which considers fair value at the date of revaluation).
B. Physical Concept of Capital defines capital as the operating capacity of the enterprise and requires the use
of the current cost as measurement basis for an enterprises assets and liabilities.
Capital Maintenance
Capital Maintenance Concept measures profit as the amount of capital that the enterprise can distribute to
its owners and be as well of the period as it as in the beginning.
A. Financial Capital Maintenance Concept measures profit as the excess of the financial amount of net assets at
the end of the period over the financial amount of the net assets at the end of the period over the financial
amount of net assets at the beginning of the period, after deducting contributions from owners and adding
back distributions to owners.
B. Physical Capital Maintenance Concept measures profit as the excess of the productive capacity of the
enterprise at the end of the period over the productive capacity at the beginning of the period, measured in
terms of current cost, after excluding the effects of transactions with owners.
CHAPTER 2 Cash and Cash Equivalents
Nature and Composition of Cash
Cash is any item that is used as standard medium of exchange, refers to currency and coins that are in
circulation. An item is considered as cash if it is acceptable by the bank or other financial institution for deposit at face
value
Demand Credit Instruments - Document that serves as a written order by a drawer to a drawee to pay a
specified sum on its presentment.
Checks - A check is a written, dated and signed instrument that contains an unconditional order
from the drawer that directs a bank to pay a definite sum of money to a payee.
Bank Drafts - A bank draft is a payment on behalf of a payer that is guaranteed by the issuing
bank. A draft ensures the payee a secure form of payment. During a payers reconciliation of his
bank account, he notices a decrease in the account balance because of the money withdrawn
from the account.
Money Order - A money order is a certificate, usually issued by governments and banking
institutions, that allows the stated payee to receive cash on-demand.

To be reported as cash, an item must be unrestricted in use.


An entity shall classify an asset as current when the asset is cash or cash equivalent unless it is restricted
from being exchanged or used to be settle a liability for at least twelve months after the end of the
reporting period, that means that the cash must readily available in the payment of the current
obligations and not be subject to any restrictions.
The following items are included in cash:
1. Cash on Hand
a. Undeposited cash collections
b. Customers Checks
c. Managerss Checks
d. Travelerss Checks
e. Bank Drafts
f. Money Orders
2. Cash in Bank
a. Demand Deposit
b. Saving Deposit ( unrestricted as to widrawal)
3. Cash Fund
a. Petty Cash Fund
b. Change Fund
c. Payroll Fund
d. Dividend Fund
e. Tax Fund
f. Interest Fund
Cash Equivalents short term and highly liquid investments that are highly convertible into cash and so near
their maturity that they present insignificant risk of changes in value because of changes in interest rates. Only
high liquid investments that are acquired three months before maturity can qualify as cash equivalents.
Temporary investments in equity shares, generally are not included as part of cash equivalents
because this securities do not have maturity dates, they are shown as equity investments at fair
value.
Preference shares with specified redemption date and acquired three months before the redemption
date can qualify as cash equivalents.
WHAT IS IMPORTANT IS THE DATE OF PURCHASE WHICH SHOULD BE THREE
MONTHS OR LESS BEFORE THE MATURITY.
Presentation And Measurement Of Cash In The Statement Of Financial Position
Cash - measured at face value.
Cash in foreign currency rate - measured at the current exchange rate
If the bank or financial institution holding the funds of an entity is in bankruptcy or financial difficulty,
cash should be written down to estimated realizable value if the amount recoverable is estimated to
be lower than the face value and reclassified as receivable.

Excess Cash may be invested in time deposits, money market instruments and treasury bills for the
purpose of earning interest income.
Classification of investments
If the term is three months or less such instruments are classified as cash equivalents
If the term is more than three months but within one year such investments are
classified as short-term financial asset or temporary investments and presented
separately as current assets.
If the term is more than one year such investments are classified as non-current or
long term investments.
Foreign Currency
o Foreign Currency and deposit in foreign countries which are not subject to any foreign exchange
restrictions should be translated to Philippine pesos using the current exchange rate and are
included in cash.
o Deposits in foreign bank which are subject to foreign exchange restrictions, if material should
be classified separately among non-current assets and the restrictions are clearly indicated
Customers postdated checks and NSF( No Sufficient Fund) and IOUs ( I owe you)
o Should be reported as receivables and not cash.
o NSF checks are oftentimes describe as DAIF ( drawn against insufficient funds ) or DAUD
( drawn against unclear deposit)
Postage Stamps and expenses advances
o Not cash but reported as prepaid expenses.

Bank Overdraft
o A bank overdraft that cant be offset against another account is reported as liability.
o It occurs when a depositor has written checks for a sum greater than the amount in the depositors
bank account, resulting credit balance in that cash account.
o A bank overdraft may be offset against a positive balance in another bank account with the
same bank if a right of offset exists between the bank and the depositor, in such case the
depositor reports the net positive amount as cash.
o If the net amount represents an excess of cash balance over the credit balance, it is shown as
cash, while if the net amount represents an excess of overdrawn account over the cash
balance, it is shown under the liabilities.
o An overdraft can also be offset against the other bank account if the amount is not material.

Undelivered or unreleased checks


o The companys drawn and recorded as disbursed but are not actually issued or delivered to
the payees as of the reporting date.
o It should not be deducted from the companys cash balance until they have been mailed
otherwise delivered.
o As a result, liabilities that the checks are intended to liquidate still exist and should be reported
as current payables
Companys postdated checks
o cannot be considered as cash yet because these checks are unacceptable by the bank for deposit
and immediate credit or outright encashment. A post dated check is a check on which the issuer
has stated a date later than the current date. It is acceptable only by the bank at the date written on
it.
o Has been recorded as issued and delivered to payee before or at the end of the reporting period
should be reverted to cash and the corresponding liability shall continue to recognized because
there are no actual payment, as of that date.
Compensating Balances
o Minimum amounts that the company agrees to maintain in a bank checking account as support or
collateral loan by the depositor
o When the compensating balance is not legally restricted as to withdrawal by the depositor and
the loan for which it is used as collateral is a short-term loan, the amount is reported as cash
o A compensating balance that is legally restricted should be classified separately either as
current asset (cash held as compensating balance) or non-current asset ( noncurrent
investment) depending on the nature of the loan for which the compensating balance is set up.
Cash set aside for long term specific purpose or for acquisition of a non-current asset
o If the cash fund is set aside for use in current operations or for the payment of current
obligation, it is a current asset.
o Bond Sinking Fund and Plant Expansion, is reported as non-current financial asset.
Sinking Fund
Preference Share Redemption Fund
Contingent Fund
Insurance Fund
Fund for acquisition of PPE
o The classification of a cash fund should parallel the classification of the related liability.

Stale Checks or check long outstanding


o A check not encashed by the payee within a relatively long period of time.
o Reasonable time consideration must be made regarding the nature of the instrument, the usage
of trade or business, if any, with respect to such instrument and the facts of the particular case.
In banking practice within six months from the time of issuance
o Even after three months only, the entity may issue a stop payment order to the bank for the
cancellation of the previously issued check.
If the amount of stale check is immaterial, it is simply accounted for as miscellaneous
income.
If the amount of stale check is material and liability is expected to continue, the cash is
restored and the liability is again set up.

Windows Dressing
o Is a practice of opening the books of accounts beyond the close of the reporting period for the
purpose of showing a better financial position and performance.
o The entries made to window dress must be reversed to correct the statements.

Lapping
o Consist of misappropriating a collection from one customer and concealing this defalcation by
applying a subsequent collection made from the other customer, it involves series of
postponements of the entries for the collection of receivables.
Kiting
o Occurs when a check drawn against a first bank and depositing the same check in the second
bank to cover the shortage in the latter bank.
Cash Management

The cash short or over account is only a temporary or suspense account. When the financial statements are
prepared the same should be adjusted. If the amount of cash shortage is not material, it can be debited to
miscellaneous expense.
Imprest System - a system of control of cash which requires that all cash receipts should be deposited intact and
making disbursements through issuance of checks.
Voucher System - a system to control cash disbursements, all disbursements must be supported by properly
approved vouchers, which must be recorded in the voucher register. Actual payment are recorded in the check
register.

Receivables
Receivables are financial assets that represent a contractual right to receive cash or another financial asset from
another entity.
Trade receivables refer to claims arising from sale of merchandise or services in the ordinary course of
business .

Account Receivable are open accounts or those not supported by promissory notes.
o Another name for account receivable
Customers accounts
Trade Debtors
Trade Accounts Receivable
Notes Receivable are those supported by formal promises to pay in the form of notes.

Nontrade receivables represents claims arising from sources other than the sale of merchandise or
services in the ordinary course of business.
Current Receivables
Trade Receivables which are expected to be realized in each within the normal operating cycle or one year
whichever is longer.
Nontrade Receivables which are expected to be realized in cash within one year
Non-Current Assets
Nontrade Receivables that is collectible beyond one year.
Examples of nontrade receivables

Advances to or receivables from shareholders, directors, officers, or employees - If collectible in one year,
should be classified as current assets, otherwise classified as non current assets
Advances to affiliates usually treated as long term investments
Advances to suppliers current assets
Subscription Receivable current if collectible in one year, otherwise shown as deduction from
subscribed share capital
Creditors debit balance result of overpayment or returns and allowances, or advances to
creditors(prepaids for supplies, inventories etc.), classified as current assets. If the balance is immaterial,
an offset maybe made against creditors accounts credit balances and only the net payable may be
presented.
Special deposits on contract bids normally classified as non-current assets, if collectible currently
classified as current assets
Accrued Income dividends receivable, accrued rent income, accrued royalties income, and accrued
interest income currebt assets
Claims Receivable- claims against common carriers, for the losses or damages, claims for rebates and tax
refunds, claims from insurance entities current assets
Initial measurements of Receivables
Financial assets shall be recognize initially at fair value (which is usually the transaction price) plus
transaction cost that is directly attributable to the acquisition.
For short-term receivables, the fair value is equal to the face value or the original invoice account. It is
not discounted because discounting is usually immaterial. Accounts receivables shall be measured
initially at face value.
For long-term receivables that are interest bearing, the fair value is equal to face value.
For long-term receivables that are noninterest bearing, the fair value is equal to present value of all the
future cash flows discounted using the prevailing market rate of interest for similar receivables.
Initially, long-term interest bearing notes receivables shall be measured in face value, and long-term
non-interest bearing notes receivables are measured in present value.
Accounts Receivables
Account Receivables are open accounts arising from sale of merchandise or services in ordinary course of
business. It is measured initially at face value or original invoice amount, however subsequently account receivable shall
be measured at net realizable value, meaning the amount of cash expected to be collected or the estimated recoverable
amount.
Accordingly, in estimating the net realizable value if trade accounts receivables, the following deductions are
made:

Allowance for freight charge


Allowance for sales returns
Allowance for sales discount
Allowance for doubtful accounts

Terms related to Fright Charge


o FOB Destination the ownership of the goods purchased is vested in the buyer upon receipt
thereof. The seller is responsible for the freight charge up to destination
o FOB shipping point the ownership of the goods purchased is vested in the buyer upon shipment
thereof. The buyer is responsible for the freight charge from the shipment to the point of
destination.
o Freight collect the freight charge on the good shipped is not yet paid, the freight charge is
actually paid by the buyer
o Freight prepaid the freight charge on the goods shipped is already paid by the seller.

Sales Discount
o Trade Discount volume or quantity discounts, are means of converting catalog list price to the
prices actually charge to the buyer. To state simply, both account receivable and the related
revenue are always recorded net of trade discounts.
o Sales Discount a reduction from an invoice price by reason of prompt payment.

Methods of recording Credit Sales

Gross Method the account receivable and sales are recorded at gross amount of the
invoice. No accounting recognition of the available cash discount until it is actually
taken.
Net Method The account receivables and the sales are recorded at net amount of the
invoice, meaning the invoice price minus the cash discount.
The sales allowance forfeited account is classified as other income.
Allowance Method the accounts receivable is recorded at the gross sales price, the sales
revenue is recorded at net amount and the available cash discount and recorded as credit
in the valuation account, allowance for sales discount.
Accounting for Bad Debts
Two methods of accounting uncollectible accounts
o Allowance Method requires recognition of a bad debt loss if the accounts are doubtful
of collections. If the doubtful accounts are subsequently found to be worthless or
uncollectible, the account is written off. If the collection is made on account previously
written off as uncollectible, the customary procedure is first to recharge the customers
account with the amount collected and possibly with the entire amount previously
charged off if it is now expected that collection will received in full.

o Direct write-off method requires recognition of bad debt loss only when account proved
to be worth less or uncollectible.

Methods of estimating doubtful accounts


o Aging the accounts receivable involves an analysis where the accounts are classified
into not due or past dues.
o Percent of accounts receivable a certain rate is multiplied by the open accounts at the
end of the period in order to get the required allowance balance. The rate used is usually
determined from the past experience of the entity.
o Percent of sales the amount of sales is multiplied by a certain rate to get the doubtful
accounts expense. The rate may be applied on credit sales or total sales. The rate to be
used is computed by dividing the bad debt losses in prior years by the charge sales of
prior years. If this method is used, the resulting amount of the computation is already the
amount of doubtful account, in contradiction with the two methods.

Major Argument Objection

More accurate and scientific,


Violates the matching process, time
account receivable is fairly
Aging the Accounts Receivable consuming if a large number of
presented in the SFP at net
accounts are involved
realizable value
Violates the matching principle, the
Presents the account receivable at
Percent of Accounts Receivable rate may be difficult to obtain and
estimated NRP, simple to apply
may not be reliable
Proper matching of cost against
The allowance for doubtful account
Percent of Sales revenue is achieved, income
may be excessive or inadequate
statement approach

Correction in allowance for doubtful accounts


The correction is to be reported in the income statement either as an addition to or subtraction
from doubtful account expense. If the discrepancy is more than the debit balance in the doubtful accounts
expense account, the difference shall not be treated as a prior period but included in the determination of
the income of the current period.
Debit balance on account receivable
The debit balance does not indicate that the allowance is inadequate because the accounts written
off during the year and charged to the allowance may have arisen from current year sales.
Impairment of Accounts Receivable
An account receivable is considered impaired if a loss event indicates a negative effect on the
estimated cash flows to be received from the customer.
Impairment Assessment

Individually significant account receivable should be considered for impairment


separately and if impaired, the impairment loss is recognize.
Accounts receivable not individually significant should be collectively assessed for
impairment.
Accounts receivable not considered impaired should be included with other accounts
receivable with similar credit-risk characteristics and collectively assessed for
impairement.
It is reliably determined that a composite rate of 5% is appropriate to measure impairment on all
other accounts receivable.
Doubtful Accounts in the income statement

Distribution cost the granting of credit and collection of accounts are under the charge
of the sales manager.
Administrative Expense the granting of credit and collection of accounts are under the
charge of an officer other than the sales manager. In the absence of any contrary
statement, doubtful accounts shall be classified as administrative expense.
Notes Receivable
Notes receivables are claims supported by formal promises to pay usually in the form of notes. The note may be
payable in demand or at a definite future date. The term notes receivable represents only claims arising from sale of
merchandise or service in the ordinary course of business. The notes received from officers, shareholders and affiliates
shall be designated separately.
Dishonored notes when a promissory note matures and is not paid, it is said to be dishonored.
Dishonored notes shall be removed from notes receivable account and transferred to accounts receivable at
an amount to include, if any, interests and other charges.
Initial measurement of notes receivable
Conceptually, notes receivable are measured initially at present value. The present value is the sum of all
the future cash flows discounted using the prevailing interest for similar notes, it is actually the effective
interest rate, however short-term notes receivable are measured at face value. The initial measurement of long-
term notes will depend on whether the notes are interest bearing or non-interest bearing. Interest bearing long-
term notes are measured at face value which is actually the present value upon issuance. Non-interest bearing
long term notes are measured at present value which is the discounted value of the future cash flows using the
effective interest rate.
Subsequent measurement
Subsequently, long-term notes receivable shall be measured at amortized cost using the effective
interest method.
The amortized cost is the amount at which the note receivable is measured initially:

Minus principal repayment


Plus or minus cumulative amortization of any difference between the initial carrying
amount and the principal maturity amount
Minus reduction for impairment or uncollectibility

For long-term non-interest bearing notes receivable, the amortized cost is the present value plus
amortization of the discount, or the face value minus the unamortized unearned interest income.
Loan Receivable
A loan receivable Is a financial asset arising from a loan granted by bank or other financial institution to a
borrower or client.

Initial measurement of loan receivable


At initial recognition, an entity shall measure a loan receivable at fair value (transaction price, the
amount of loan granted) plus transaction costs that are directly attributable to the acquisition of financial asset (includes
direct origination costs).Indirect origination costs should be treated as outright expense.
Subsequent measurement of loan receivable
A loan receivable is measured at amortized cost using the effective interest method
The amortized cost is the amount at which the loan receivable is measured initially:

Minus the principal payment


Plus or minus cumulative amortization of any difference between the initial carrying
amount and the principal maturity amount
Minus reduction for impairment or uncollectibility

If the initial amount recognized is lower than the principal amount, the amortization of the difference is
added to carrying amount. if the initial amount recognized is higher than the principal amount, the
amortization of the difference is deducted from the carrying amount.
Origination Fees - The fees charged by the bank against the borrowers for the creation of the loan.
It includes, Compensation for activities ( evaluating the borrowers financial condition, evaluating
guarantees, collateral and other security, negotiating the terms of loan, preparing and processing documents and closing
the loan transaction).
Accounting for Origination Fees
The origination fees received from borrower are recognized as unearned interest income and amortized
over the term of the loan. If the origination fees are not chargeable against the borrower, the fees are known as direct
origination cost, deferred and also amortized over the term of the loan. Preferably, the direct organization costs are offset
directly against any unearned origination fees received.
If the origination fees received exceed the direct origination costs, the difference is unearned interest
income and the amortization will increase interest income. If the direct origination costs received exceed the origination
fee, the difference is charged to direct origination costs and the amortization will decrease interest income.
The origination fees received and the direct origination costs are included in the measurement of the loan
receivable.
Inventories
Inventories are assets which are held for sale in the ordinary course of the business, in the process of
production for such sale or in the form of materials or supplies to be consumed in the production process or in
the rendering of services. It encompasses goods purchased and held for resale it also encompasses finished
goods produced, goods in process and materials and supplies awaiting use in the production. In case of service
provider, inventories includes the cost of service for which the entity has not yet recognized the related
revenue. The cost of service consists primarily of the labor and other cost of personnel directly engaged in
providing the service, including supervisory personnel and attributable overhead.
Classes of inventories
Inventories of a trading concern is one that buys and sells goods in the same form
purchased. The term merchandise inventory is generally applied to goods held by a
trading concern.
Inventories of manufacturing concern is one that buy goods which are altered and
converted into another form before they are made available for sale.
o Finished goods are completed products which are ready for sale.
Finished goods have been assigned their full share of manufacturing
costs.
o Goods in process partially completed products which require further
process or work before they can be sold.
o Raw materials are goods to be used in the production process. No work
or process has been done on them as yet by the entity inventorying them.
It is restricted to materials that will be physically incorporated I the
production of other goods and which can be traced directly to the end
product of the production process.
o Factory or manufacturing supplies similar to raw materials but their
relationship to the end product is indirect. These supplies may be referred
to as indirect materials. It is indirect because it is not physically
incorporated in the products being manufactured.
Goods includible in the inventory
As a rule, all goods to which the entity has title shall be included in the inventory, regardless of
location. Where title has already passed from the seller to the buyer, the goods form part of the inventory
of the latter. The phrase passing of the title is a legal language which means the point of time at
which ownership changes.
o Goods owned and on hand
o Goods in transit and sold FOB destination
o Goods in transit and purchased FOB shipping point
o Goods out on consignment
o Goods in the hands of salesman or agents
o Goods held by customers on approval or on trial
*exemption on legal test : the goods sold on installment are included in the inventory of the buyer and
excluded from that of the seller.

Maritime Shipping terms


FAS or Free alongside - A seller who ships FAS must bear all expenses and risk involved in
delivering the goods to the dock next to or alongside the vessel on which the goods are to be shipped.
The buyer bears the cost of loading and shipment and thus, title passes to the buyer when the carrier
takes possession of the goods.
CIS or Cost, Insurance and Freight under the shipping contract, the buyer agrees to pay lump
sum the cost of the goods, insurance cost and freight charge. The shipping contract may be modified as
CF which means that the buyer agrees to pay lump sum the sots and freight charge only. In either case
the seller must pay for the cost of loading. Thus, the title and risk of loss shall pass to the buyer upon
delivery of the goods to the carrier.
Ex-ship a seller who delivers the goods ex-ship bears all expenses and risk of loss until the
goods are unloaded at which time title and risk of loss shall pass to the buyer.
Consigned goods
A consignment is a method of marketing goods in which the owner called the consignor transfers
physical possessions of certain goods to an agent called the consignee who sells them on the owners
behalf. Consigned goods shall be included in the consignors inventory and excluded from the
consignees inventory. Freight and handling charge on goods out on consignment are part of the cost of
goods consigned. When the consigned goods are sold by the consignee, a report made to the consignor
together with a cash remittance for sales minus commission and other expenses chargeable to the
consignor.
Accounting for inventories
Periodic system calls for the physical counting of goods on hand at the end of the
accounting period to determine quantities and then multiplied by the corresponding unit
costs to get the inventory value for the balance sheet purposes.
Perpetual system requires the maintenance record called stock cards that usually offer a
running summary of the inventory inflow and outflow. Inventory increases and decreases
are reflected in the stock cards and the resulting balance represents the inventory. In an
ideal perpetual system, the stock cards are kept to reflect and control both units and costs.
Inventory shortage and overage
The inventory shortage is usually closed to cost of goods sold because this is often the result of
normal shrinkage and breakage in the inventory. However, abnormal and material shortage shall be
separately classified and presented as other expenses.
Cost of inventories
Cost of purchases the cost of purchase of inventories comprises the purchase price,
import duties and irrecoverable taxes, freight, handling, and other costs directly
attributable to the acquisition of finished goods, materials, and services. Trade discounts
rebates and other similar items are deducted in determining the cost of purchases. It shall
not include foreign exchange differences which arise directly from the recent acquisition
of inventories involving a foreign currency. However, when inventories are purchased
with deferred settlement terms, the differences between the purchase price for normal
credit terms and the amount paid is recognized as interest expense over the period of
financing
Cost of conversion includes cost directly related to the units of production such as
direct labor. It also includes systematic allocation of fixed and variable production
overhead that is incurred in converting materials into finished goods.
o Fixed production is the indirect cost of production that remains relatively
constant regardless of the volume of the production. (depreciation, and
maintenance of factory bldg. and equipment and the cost of factory management
administration
o Variable production in the indirect cost of production that varies directly with
the volume of production. (indirect labor and indirect materials)
Allocation of fixed production overhead
The allocation of fixed production overhead to the cost of conversion is based on
the normal capacity of the production facilities. Normal capacity is the production
expected to be achieved on average over a number of periods or seasons under normal
circumstances taking into account the loss capacity resulting from planned maintenance.
Unallocated fixed overhead is recognized as expense in the period in which it incurred.
Allocation of Variable production overhead
Variable production overhead is allocated to each unit of production on the basis
of the actual use of the production facilities. When the costs of conversion are not
separately identifiable they are allocated between the products on a rational and
consistent basis.
Other Cost other cost included in the cost of inventories only to the extent that it is
incurred in bringing the inventories to their present location and condition.
The following costs are excluded from the costs of inventories and recognized as
expenses in the period when incurred
o Abnormal amounts of wasted materials, labor and other production costs.
o Storage costs, unless theses costs are necessary in the production process prior to
a further production stage. Thus, storage costs on goods in process are capitalized
but storage costs on finished goods are expensed
o Administrative overheads that do not contribute to bringing inventories to their
present location and condition.
o Distribution or selling costs.
Cost of inventories of service provider
Labor and other costs relating to sales and general administrative personnel are
not included but are recognized as expenses in the period in which they incurred.
Inventory Valuation
Measurement of inventory inventories shall be measured at the lower of cost and net realizable value it
is known as LCNRV. The cost of inventories shall comprise all costs of purchase, costs of conversion and other
costs incurred in bringing the inventories to their present location and condition.
Cost Formulas
First In, First out assumes that the goods first purchased are first sold and
consequently the goods remaining in the inventory at the end of the period are those most
recently purchased or produced. The inventory is thus expressed in terms of recent or
new prices while the cost of goods sold is representative of earlier or old prices.

Weighted Average
o Periodic the cost of the beginning inventory plus the total costs of purchases
during the period is divided by the total unit purchased plus those in the beginning
inventory to get a weighted average unit costs. Such weighted average unit cost Is
then multiplied by the units on hand to derive the inventory value. Divide the
total goods available for sale by the total number of units available for sale.
o Perpetual when used in the conjunction with the perpetual system, the weighted
average method is popularly known as the moving average method. The weighted
average may be calculated on a periodic basis or as each additional shipment is
received depending upon the circumstances of the entity. Under this method a
new weighted unit cost must be computed after every purchased and purchased
return. The total cost of goods available after every purchase and purchase return
is divided by the total units available for sale at this time to get a new weighted
average unit cost and multiplied by the units on hand to get the inventory cost.
Specific Identification means that specific costs are attributed to identified items of
inventory. The cost of inventory is determined by simply multiplying the units on hand by
their cost. This requires records which will clearly determine the actual costs of goods on
hand.
Net Realizable Value is the estimated selling price in the ordinary course of business less the estimated
cost of completion and the estimated cost of disposal.