Cash and receivables

Cash and receivables are the most liquid assets and, for Northlake, two of the largest: sensor stations are often sold on credit to municipalities and farms, and some customers pay over years. ACCT-101 covered bank reconciliations, internal control over cash and the basic allowance method for doubtful accounts. This lesson moves to intermediate questions: what counts as cash and how restricted cash is reported; how receivables are measured when there are discounts and long payment terms; how credit losses are estimated under the expected credit loss models; how notes receivable are carried at amortized cost using the effective interest method; and when selling receivables to a factor removes them from the balance sheet.

Cash, cash equivalents and restricted cash

Cash includes coins, currency, bank deposits available on demand and negotiable instruments such as cheques received but not yet deposited. Cash equivalents, defined in lesson 3, are short-term, highly liquid investments with original maturities of about three months or less. Items that are not cash include postdated cheques from customers (receivables), IOUs from employees (receivables), postage stamps (prepaid expenses) and travel advances (prepaid expenses or receivables). Cash in foreign currencies is translated at the closing exchange rate.

Restricted cash, such as deposits held in escrow or cash that must be used for a specified purpose, is reported separately if material and classified as current or non-current depending on when the restriction lapses. Compensating balances, minimum deposits a bank requires as part of a loan arrangement, are disclosed. A bank overdraft is normally a current liability; under IAS 7 it may be included in cash and cash equivalents for the cash flow statement when it is repayable on demand and forms an integral part of cash management.

Recognizing and measuring receivables

Trade receivables arise from selling goods and services on credit; other receivables include loans to employees, interest and dividends receivable, tax refunds and amounts due from related parties. A trade receivable without a significant financing component is initially measured at the transaction price (lesson 4). Trade discounts, reductions from list price offered to classes of customers, are simply deducted: the receivable and revenue are recorded at the net price. Cash (sales) discounts for early payment, such as 2/10, net 30, are variable consideration: the entity estimates the discounts customers will take and records revenue net of them, adjusting the estimate as customers pay.

A receivable due beyond twelve months that contains a significant financing component is measured at the present value of the cash flows, using the market rate for the customer's credit, as in the farm cooperative example in lesson 5. After initial recognition, trade receivables are measured at amortized cost under IFRS 9 (or at amortized cost under ASPE Section 3856), less a loss allowance.

Expected credit losses

IFRS 9, Financial Instruments, replaced the old incurred-loss model with an expected credit loss (ECL) model in 2018. A loss allowance is recognized from the start, before any loss event occurs, based on forward-looking information. For most financial assets IFRS 9 uses a general three-stage approach: stage 1 assets (no significant increase in credit risk since initial recognition) carry an allowance equal to 12-month expected credit losses; stage 2 assets (significant increase in credit risk) and stage 3 assets (credit-impaired) carry lifetime expected credit losses, with interest on stage 3 computed on the net carrying amount. For trade receivables and contract assets without a significant financing component, IFRS 9 requires a simplified approach: always use lifetime expected credit losses, typically estimated with a provision matrix based on historical loss rates by ageing category, adjusted for current conditions and forecasts.

ASPE keeps an incurred-loss approach: under Section 3856, a financial asset is assessed for impairment when there are indications of impairment, such as significant financial difficulty of the debtor or a breach of contract, and written down to the higher of the present value of expected cash flows and the amount realizable from selling it or any collateral. In practice, private enterprises still use an allowance based on ageing and specific accounts, but they do not need forward-looking loss estimates for all receivables.

# Provision matrix for trade receivables (illustrative loss rates)
ageing = {               # bucket: (balance, historical loss rate)
    "Current":        (6_200_000, 0.004),
    "1-30 days":      (1_500_000, 0.015),
    "31-60 days":     (  600_000, 0.050),
    "61-90 days":     (  250_000, 0.120),
    "Over 90 days":   (  150_000, 0.400),
}
forward_adjustment = 1.15    # forecasts point to a weaker farm economy
total_bal = total_allow = 0
for bucket, (bal, rate) in ageing.items():
    allow = bal * rate * forward_adjustment
    total_bal += bal; total_allow += allow
    print(f"{bucket:<13} {bal:>10,}  rate {rate*forward_adjustment:6.2%}  allowance {allow:>9,.0f}")
print(f"Total receivables {total_bal:,}; required allowance {total_allow:,.0f}")
existing = 120_000
print(f"Existing allowance {existing:,}; credit loss expense this period {total_allow - existing:,.0f}")

Current        6,200,000  rate  0.46%  allowance    28,520
1-30 days      1,500,000  rate  1.72%  allowance    25,875
31-60 days       600,000  rate  5.75%  allowance    34,500
61-90 days       250,000  rate 13.80%  allowance    34,500
Over 90 days     150,000  rate 46.00%  allowance    69,000
Total receivables 8,700,000; required allowance 192,395
Existing allowance 120,000; credit loss expense this period 72,395

The provision matrix applies historical loss rates by age, increased by 15 per cent because forecasts point to a weaker farm economy. Northlake needs an allowance of about $192,000 against $8.7 million of receivables; with $120,000 already in the allowance, it records credit loss expense of about $72,000. The forward-looking adjustment is the step that distinguishes the expected loss models from the older practice of relying only on history.

Write-offs, recoveries and presentation

When an account is determined to be uncollectible, it is written off against the allowance: debit the allowance, credit the receivable. The write-off does not change net receivables or expense, because the loss was already provided for. If a written-off account is later collected, the write-off is reversed (debit receivable, credit allowance) and the cash collection recorded. Credit loss (impairment) expense is presented as a separate line or disclosed; IFRS requires impairment losses on financial assets, including reversals, to be presented as a separate line in the statement of profit or loss. Notes disclose the allowance movements, the ageing of receivables, concentrations of credit risk and the methods and assumptions used.

Notes receivable and the effective interest method

A note receivable is a written promise to pay a specified amount, often with interest, at a future date. Northlake accepts notes from municipalities and farm cooperatives that cannot pay for networks immediately. If the stated interest rate equals the market rate for the customer's credit, the note is recorded at face value. If the stated rate is below market, or the note carries no interest at all, it is recorded at the present value of its cash flows discounted at the market rate, and the discount is recognized as interest income over the term using the effective interest method: interest income each period equals the carrying amount at the start of the period times the market (effective) rate; the difference between that and the cash interest received increases the carrying amount.

# Note receivable at amortized cost: effective interest method
face, stated, market, years = 300_000, 0.02, 0.06, 3
cash_interest = face * stated
pv = sum(cash_interest / (1 + market) ** t for t in range(1, years + 1)) + face / (1 + market) ** years
print(f"Initial carrying amount (present value): {pv:,.0f}  discount {face - pv:,.0f}")
carrying = pv
print(f"{'Year':<5}{'Cash':>10}{'Interest income':>17}{'Amortization':>14}{'Carrying':>12}")
for y in range(1, years + 1):
    income = carrying * market
    amort = income - cash_interest
    carrying += amort
    print(f"{y:<5}{cash_interest:>10,.0f}{income:>17,.0f}{amort:>14,.0f}{carrying:>12,.0f}")

Initial carrying amount (present value): 267,924  discount 32,076
Year       Cash  Interest income  Amortization    Carrying
1         6,000           16,075        10,075     277,999
2         6,000           16,680        10,680     288,679
3         6,000           17,321        11,321     300,000

Northlake sells a network to a town for a $300,000 three-year note at 2 per cent when the town's market borrowing rate is 6 per cent. The note is worth $267,924 at inception, so revenue is $267,924, not $300,000; the $32,076 discount is interest that Northlake earns over three years. Interest income rises each year (about $16,075, $16,680 and $17,321) because it is computed on a growing carrying amount, which reaches $300,000 at maturity.

Transfers of receivables

Companies can turn receivables into cash before customers pay by selling them to a factor or securitizing them, or by borrowing against them. The accounting question is whether the receivables are derecognized (removed from the balance sheet, with any gain or loss recognized) or remain on the balance sheet with a liability for the cash received (a secured borrowing). Selling receivables without recourse, where the factor bears the credit risk, usually qualifies as a sale. Selling with recourse, where the seller must compensate the factor for uncollectible accounts, often does not.

Under IFRS 9 the test focuses on risks and rewards, then control. If the entity transfers the contractual rights to the cash flows (or passes them through under strict conditions) and transfers substantially all the risks and rewards of ownership, it derecognizes the receivables. If it retains substantially all the risks and rewards, for example through full recourse, it continues to recognize them and records the proceeds as a liability. If it neither transfers nor retains substantially all the risks and rewards, it derecognizes if it has lost control (the transferee can sell the assets) or otherwise continues to recognize the assets to the extent of its continuing involvement. ASPE Section 3856 uses a control-based test closer to the older US model.

Analysing receivables

Receivables turnover (net credit sales ÷ average net receivables) and days sales outstanding (365 ÷ turnover, or average receivables ÷ sales × 365) show how quickly customers pay. A rising DSO can signal weaker customers, looser credit terms or aggressive revenue recognition: receivables that grow much faster than sales are a warning sign analysts watch for. For Northlake, with sales of $61 million and average receivables of $8.1 million, turnover is about 7.5 and DSO about 48 days. Its stated terms are net 30 for most customers and longer for municipalities, so 48 days is plausible but worth monitoring as the farm economy weakens.