Receivable Financing PDF

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RECEIVABLE FINANCING -

Way of accumulating cash through selling of receivables

Rationale of Receivable Financing ▪ Immediate need for cash (due to unexpected events) ▪ Efficient asset management (loans and other debts may be more costly) FORMS I.

Pledge of Accounts Receivable → Accounts Receivable are pledged as collateral security; general → Pledging also known as Hypothecation a. • • b.

Process and Effect The lender agrees to give loan to a borrower, and in case of default, the collection of receivable is used to retire the debt Accounts Receivable is unaffected, but the pledge should be disclosed Illustration On January 1, 2020, Jin Woo borrowed P500,000 from Ahjin Guild maturing 1 year and carrying a 10% interest. As part of the terms, Jin Woo pledged its P1,000,000 accounts receivable. *Accounts Receivable is unchanged, only disclosed Journal Entries Jan. 1 Dr. Cash 500,000 Cr. Loans Payable 500,000 Dec. 31 Dr. Loans Payable 500,000 Dr. Interest Expense 50,000 Cr. Cash 550,000

II.

Assignment of Accounts Receivable → Specific Accounts Receivable is assigned as collateral to a loan → Also known as Formal Pledging a. • • • • •

Process and Effect The lender agrees to give loan to a borrower, and the collection of receivable is applied to settle the loan Loan granted is normally a percentage of AR - assigned Accounts Receivable – Assigned account is recorded but total accounts receivable is unchanged Equity in Assigned should be disclosed (Assigned minus Outstanding balance of loan) ✓

b.

Notification basis (customer will directly pay to the bank; normally, the lender will send periodic or monthly report to the entity that will be the basis of accounting entries) ✓ Nonnotification basis (customer will still pay to the entity) Illustration ▪ On December 1, 2020, Bamassigned its P500,000 receivable from Rachel to Zahard Bank. Zahard Bank advances 70% and charged P1,000 for services. The loan bears 12% interest. ▪ On December 31, Rachel paid P200,000 cash net of P20,000 sales discounts. ▪ On January 31, 2020, Rachel paid P250,000. The P30,000 balance deemed worthless. Dec. 1

Journal Entries Dr. Cash Dr. Service Charge Cr. Loans Payable

*Total AR is unchanged. AR + AR Assigned

349,000 1,000 350,000

IN SOME PROBLEMS:

Dec. 31

Dr. Accounts Receivable – Assigned 500,000 Cr. Accounts Receivable 500,000 Dr. Cash 200,000 Dr. Sales Discount 20,000 Cr. Accounts Receivable – Assigned 220,000 Dr. Loans Payable Dr. Interest Expense Cr. Cash

*If silent, cash collection is first allocated to interest expense, what remains goes to Loans Payable (350,000 x 12% x 1/12) *If stated, cash collection goes to the Principal (200,000 & 3,500)

196,500 3,500 200,000

DISCLOSURE: Equity in Assigned – P126,500 (AR - LP) 500,000 – 220,000 = 280,000 AR minus 350,000 – 196,500 = 153,500 Jan. 31

> IF after paying the loan, there is still remaining AR – Assigned

Dr. Cash 250,000 Cr. Accounts Receivable – Assigned 250,000 Dr. Allowance for Doubtful Accounts 30,000 Cr. Accounts Receivable – Assigned Dr. Loans Payable Dr. Interest Expense Cr. Cash 153,500 x 12% x 1/12 = 1,535

III.

a.

ENTRY: Dr. Accounts Receiavble xxx Cr. Accounts Receivable – Assigned xxx

30,000

153,500 1,535 155,035

Factoring of Accounts Receivable → Sale of Accounts Receivable Process and Effect An entity sells a particular accounts receivable to a factor (entity who bought the AR; can be a bank, financial institutions or not) • Selling Price is normally a portion of Accounts Receivable – Factored • There may be a Factor’s Holdback – portion of sales that is retained by the factor and is eventually given back if no problem occurs; for sales returns and discounts • Accounts Receivable is derecognized •

b.

Types of Factoring 1) As to frequency or occurrence a) Casual Factoring – unusual factoring where loss is recognized Illustration: On January 1, 2020, Arthur factored its P1,000,000 receivable from Lucas to Sylvie Lending (factor). Sylvie paid Arthur P900,000. Arthur reported an allowance for doubtful accounts of P100,000.

Jan. 1

Journal Entries Dr. Cash Dr. Loss on Factoring Cr. Accounts Receivable – Lucas

900,000 100,000 1,000,000

*If ADA is in general, do not consider *IF ADA is indicated for the AR sold, it is considered b) Continuing Agreement – part of cash management, where commission expense (balancing figure) is recognized *Accounting treatment: No difference Illustration: On January 1, 2020, Nie LI factored its P800,000 receivable from Xiao Ning’er to Ye Ziyun Company (factor). The factor charged 5% fee and retained 10% of the receivable as holdback. Nie Li previously recognized doubtful accounts from this receivable amounting to P10,000.

Jan. 1

Journal Entries Dr. Cash Dr. Allowance for Doubtful Accounts Dr. Commission Expense Dr. Receivable from Factor Cr. Accounts Receivable – Xiao Ning’er 800,000 x 95% = 760,000 cash 800,000 x 10% = 80,000 holdback 760,000 – 80,000 = 680,000 cash recorded

680,000 10,000 30,000 80,000 800,000

2)

As to liability a) Without recourse – factor bears the loss in case of default b) With recourse – factor collect from the seller of the accounts receivable in case of default where recourse obligation is recognized Illustration: On January 1, 2020, Lin Feng factored its P500,000 receivable from Liu Fei to Meng Qing Bank (factor). Meng Qing charged Lin Feng 8% and withheld 12% as factor’s holdback. The fair value of recourse obligation is P50,000. Journal Entries With recourse

Jan. 1

IV.

Dr. Cash Dr. Receivable from Factor Dr. Loss on Factoring Cr. Accounts Receivable – Liu Fei Cr. Recourse Liability

400,000 60,000 90,000 500,000 50,000

Without recourse Dr. Cash Dr. Receivable from Factor Dr. Loss on Factoring Cr. Accounts Receivable – Liu Fei

400,000 60,000 40,000

500,000 x 92% = 460,000 cash 500,000 x 12% = 60,000 holdback 460,000 – 60,000 = 400,000 cash recorded

500,000 x 92% = 460,000 cash 500,000 x 12% = 60,000 holdback 460,000 – 60,000 = 400,000 cash recorded

BALANCING FIGURE *Loss on Factoring (Casual Factoring) *Commission expense (Continuing Agreement)

BALANCING FIGURE *Loss on Factoring (Casual Factoring) *Commission expense (Continuing Agreement)

500,000

Discounting of Notes Receivable → Sale of Notes Receivable

a.

Process and Effect • An entity sells a particular notes receivable through endorsement (of negotiable instruments- such as NR)

b.

Types of Discounting 1) Without recourse – derecognition of Notes Receivable Illustration: On January 1, 2020, Cruz received a 12-month, 10%, P1,000,000 note from a customer. On February 29, 2020, Zian discounted note at 15%. COMPUTATION: Maturity Value = Principal + Interest MV = 1,000,000 + 100,000 = 1,100,000 I = 1,000,000 x 10% x 12/12 = 100,000 Discount = Maturity Value x Discount Rate x Remaining Life Discount = 1,100,000 x 15% x 10/12 = 137,500 Proceeds = Maturity Value – Discount Proceeds = 1,100,000 – 137,500 = 962,500

Feb. 29

Journal Entries Dr. Cash Dr. Loss on Discounting Cr. Notes Receivable Cr. Interest Income

962,500 54,167 1,000,000 16,667

1,000,000 x 10% x 2/12 = 16,667 Interest Income (held for 2 months)

2)

With recourse a) Conditional Sale – disclosure of contingent liability Illustration: On January 1, 2020, Alleria received a 9-month, 10%, P1,000,000 note from a customer. On February 29, 2020, Ace discounted Alleria’s note at 15%. COMPUTATION: Maturity Value = Principal + Interest MV = 1,000,000 + 75,000 = 1,075,000 I = 1,000,000 x 10% x 9/12 = 75,000 1,000,000 CONTINGENT LIABILITY DISCLOSURE

Discount = Maturity Value x Discount Rate x Remaining Life Discount = 1,075,000 x 15% x 7/12 = 94,063 Proceeds = Maturity Value – Discount Proceeds = 1,075,000 – 94,063 = 980,937

Feb. 29

Journal Entries Dr. Cash Dr. Loss on Discounting Cr. Notes Receivable - Discounted Cr. Interest Income

980,937 35,730 1,000,000 16,667

1,000,000 x 10% x 2/12 = 16,667 Interest Income (held for 2 months) Notes Receivable - Discounted (CONTRA ACCOUNT) b) Secured Borrowing – recognition of liability Illustration: On January 1, 2020, Alleria received a 90-day, 12%, P1,000,000 note from a customer. On March 1, 2020, Ace discounted Alleria’s note at 18%. COMPUTATION: Maturity Value = Principal + Interest MV = 1,000,000 + 30,000 = 1,030,000 I = 1,000,000 x 12% x 90/360 = 30,000

BANKER’S RULE – 360 DAYS

Discount = Maturity Value x Discount Rate x Remaining Life Discount = 1,030,000 x 18% x 30/90 = 15,450 (31-1) +29+1 = 60 days 90 days – 60 days = 30 days remaining

WEIGHTED AVERAGE DAYS TO MATURITY – 365 DAYS ***In counting days, exclude the 1st day, include the last day

Proceeds = Maturity Value – Discount Proceeds = 1,030,000 – 15,450 = 1,014,550

Feb. 29

Journal Entries Dr. Cash Dr. Interest Expense Cr. Liability from discounting Cr. Interest Income

1,014,550 5,450 1,000,000 20,000

1,000,000 x 12% x 60/360 = 20,000 Interest Income (held for 2 months)...