## Friday, March 31, 2023

### Theoretical Ex-Rights Price (TERP): Definition, Formula, Calculation, Example, Meaning

The stock market can be a complex and intimidating place for investors. One of the lesser-known terms used in stock trading is Theoretical Ex-Rights Price (TERP).

The TERP is an estimate of what the price per share of stock will be after the rights issue has taken place.

Rights issues are when companies sell new, discounted shares to existing shareholders. By understanding how it works, investors can increase their chances of making profits from the stock market.

## What is the theoretical ex-rights price?

A theoretical ex-rights price or TERP is how much a stock will cost after a company offers more shares. Companies do this to give more shares to shareholders, usually at a lower price. The stock's price changes because there are now more shares available for people to buy.

The stock prices are affected by the new rights issue. This is why the TERP is important - it estimates how much a share of stock will cost after the rights issue has taken place.

These rights issues can be a great way for investors to increase their profits as the shares may be sold at a discounted price, making them attractive and easier to buy.

## How is the Theoretical Ex-rights Price Calculated

Here is the formula for calculating the TERP

TERP = [(New Shares × Issue Price) + (Old Shares × Market Price)] / New Shares + Old Shares

Where

New Shares: These are the new shares of stock being offered, usually at a discounted price.

Issue Price: This is the price for each new share being offered in the rights issue.

Old Shares: These are existing shares held by current shareholders before the rights issue took place.

Market Price: This is the market price per share of the stock before the rights issue took place.

The TERP is calculated by adding the total value of the new shares being offered at a discounted price and then adding them to the total value of existing shares in the market.

The sum is then divided by the total number of both old and new shares to get an estimate of what a share will cost after the rights issue.

## Example of Theoretical Ex-rights Price

For example, let's say company ABC is offering 1,000 shares at a discounted price of \$5 per share. The market price for the stock before the rights issue was \$10 per share and there are 10,000 existing shares in circulation.

Using the formula above, we can calculate that the TERP would be

TERP = [(1,000 × \$5) + (10,000 × \$10)] / 1,000 + 10,000

TERP = (\$5,000 + \$100,000) / 11,000

TERP = \$105,000/11,000

TERP = \$9.55 per share.

This means that each share of ABC stock will be worth \$9.55 after the rights issue takes place.

It is important to remember that this calculation is only an estimate and the actual price may differ from the TERP depending on market conditions at the time of the rights issue. Investors should do their research before investing in any stocks and be aware of the risks involved.

## Conclusion

The TERP is a useful tool for investors to estimate the stock price after rights issues and can help them make profitable investments. However, it is important to take into account other factors such as market conditions when making an investment decision. Doing so will increase the chances of success in the stock market.

## Thursday, March 30, 2023

### Goodwill on Acquisition: Definition, Calculation, Accounting, Journal Entry, Example

An acquisition is a process through which one company acquires another company. It usually occurs when the buyer purchases over 50% of the shares in another company. Sometimes, this percentage may vary based on the voting rights that come with the obtained stock. In most cases, the buyer pays more than the worth of those shares to complete the acquisition.

Accounting standards require companies to recognize goodwill on acquisition. Usually, it equals the premium paid for the shares purchased.

## What is Goodwill on Acquisition?

Goodwill on acquisition is an intangible asset that arises when one company acquires another company. Its value comes from the difference between the fair value of the acquired company's identifiable net assets and the price paid by the seller. In other words, goodwill represents the value of the synergies, reputation, customer base, and other intangible factors that the acquiring company believes it will gain from the acquisition.

In accounting, goodwill is an intangible asset that comes with strict standards. Companies cannot recognize it unless it is measurable and separately identifiable. However, an acquisition allows companies to meet these requirements. Goodwill on acquisition becomes a part of the consolidation process. It can have a significant impact on the company's assets and reputation.

## What is the accounting treatment for Goodwill on Acquisition?

The accounting treatment for goodwill on acquisition may differ between the IFRS and GAAP. Typically, companies must calculate goodwill based on the two values mentioned above. The net identifiable assets for a company come from its balance sheet. Usually, it equals the equity of the subsidiary. On the other hand, the purchase price is the sale proceeds. It may include various forms of compensation, including cash, shares, future payments, etc.

Once companies calculate the value of goodwill, they must identify it as an intangible asset. The accounting treatment for goodwill on acquisition also dictates companies check it for impairment at the end of each reporting period. Unlike other intangible assets, goodwill does not require amortization. If the parent company disposes of the other company, the residual goodwill becomes a gain or loss.

## What is the journal entry for Goodwill on Acquisition?

The journal entry for goodwill on acquisition is part of a complex accounting treatment. As mentioned above, it is the difference between the purchase price and net identifiable assets for the transaction. The difference between these two constitutes the goodwill portion of the journal entry. Overall, the journal entry for goodwill on acquisition is as follows.

 Dr Net identifiable assets Dr Goodwill Cr Sale proceeds

In the above entry, goodwill is an asset since the parent company pays more than the net identifiable assets. Sometimes, it may also be a credit if the opposite is true.

## Example

A company, Red Co., acquires another company’s 60% shares for \$500,000. At the time of the transaction, the net identifiable assets of the subsidiary were \$400,000. Based on the above information, the goodwill on acquisition will be \$100,000 (\$500,000 - \$400,000). Red Co. uses the following journal entry to record this amount.

 Dr Net identifiable assets \$400,000 Dr Goodwill \$100,000 Cr Sale proceeds \$500,000

## Conclusion

Goodwill is the value of the synergies, reputation, customer base, and other intangible factors in company acquisitions. It comes from the difference between the amount the parent company pays and the net identifiable assets of the subsidiary. Typically, companies record this amount when the acquisition occurs and must check it for impairment regularly.

## Wednesday, March 29, 2023

### Traceable and Common Fixed Costs: Definitions, Differences, Examples, Formula

A fixed cost is a type of expense that does not change. In accounting, it means the amount remains the same over several periods. Usually, companies view this cost according to the activity levels over that period. Therefore, a fixed cost is an expense that does not change regardless of activity levels over different periods.

A fixed cost is a classification of expense within managerial accounting. Companies may also further classify it into other types, including traceable and common. Before discussing the difference between them, it is crucial to view them individually.

## What is a Traceable Fixed Cost?

A traceable fixed cost is directly attributable to a specific segment, product, or department within a company. In other words, it is an expense associated with a responsibility center. Traceable fixed costs are the direct opposite of common fixed costs. These costs are easier to manage in managerial accounting as companies can trace them to their origin.

Traceable fixed costs are crucial for management decisions. They allow managers to make informed decisions about the profitability of a particular responsibility center. Due to their nature, these costs are easier to plan and budget since they depend on their specific center. Despite the link to that center, these costs are still static.

## What is a Common Fixed Cost?

Common fixed costs are similar to direct costs. These costs are not directly traceable to specific segments, products, or departments. In other words, these are expenses not directly associated with a responsibility center. Instead, various centers share these costs. An example of these costs is utilities, where several departments or segments use the same connection.

Like traceable fixed costs, common fixed costs affect management decisions. However, companies must allocate and divide these costs before further analysis. Usually, companies use costing methods and techniques to assign common costs to the responsibility centers. While still fixed, these costs may differ from one department to another based on the allocation basis used.

## What are the differences between Traceable and Common Fixed Costs?

The differences between traceable and common fixed costs come from the point below.

### Definition

Traceable fixed costs are directly linked or associated with a specific responsibility center. On the other hand, common fixed costs are shared by various areas or segments, making them untraceable to a particular one.

### Allocation

Allocating traceable fixed costs is straightforward. Companies assign the whole amount for the expense to the responsibility center to which it relates. However, common fixed costs do not originate from a specific area. Therefore, companies must use allocation techniques to assign them to different centers.

### Control

Controlling traceable fixed costs is straightforward as they relate to a specific segment or center. However, the same does not apply to common fixed costs. Since many factors contribute to the latter category, controlling and eliminating them is more challenging.

### Management

Typically, the management of traceable fixed costs lies within the center where it originates. For common fixed costs, the company or project maintains these costs.

## Conclusion

Traceable fixed costs are an expense that originates from a single area, whether segment, product, or department. Due to this feature, they are usually easier to allocate and manage. On the other hand, common fixed costs are shared by various areas within the company. Companies must assign these costs to the relative centers based on an allocation basis.

Article Source Here: Traceable and Common Fixed Costs: Definitions, Differences, Examples, Formula

## Tuesday, March 28, 2023

Bank drafts are a common type of payment used by businesses and individuals. It is a written order from a bank or other financial institution, instructing the drawee to pay a specific person or entity a specified sum of money on demand.

The recipient of the Bank Draft will receive the funds stated on the draft when they present it at their bank. It is both secure and cost-effective for buyers and sellers.

Bank drafts can also be used to save time, as many banks can electronically transfer funds from one account to another in a matter of minutes.

## What is a Bank Draft?

A bank draft is a negotiable instrument issued by a financial institution, such as a bank or credit union, that authorizes the payment of a specific amount from one party to another.

It is similar to a check but unlike checks, which can be returned due to insufficient funds or other reasons, bank drafts are not subject to the same types of risks and are considered to be more secure.

They are often used for large, one-time payments such as real estate transactions or international purchases and can be a convenient way to transfer funds from one account to another without the need for additional checks or money orders.

Bank drafts are also commonly accepted forms of payment by certain businesses and government agencies.

## How Bank Drafts Work

Understanding how bank drafts work is very simple - the financial institution that issued the draft will transfer a certain amount of money from one account to another.

The financial institution creating the bank draft is obligated to make good on the payment, regardless of whether or not they have sufficient funds in their accounts.

When a customer requests a bank draft, they provide information such as an account number, the payee’s name and address, and the amount of money to be transferred.

Once this information is recorded and verified by the financial institution, they will issue a bank draft in the customer’s name that can be used to make a payment or transfer funds between two parties.

Bank drafts are typically valid for up to six months, and the payee must present the draft with an official identification card to receive payment.

Bank drafts offer several advantages over other forms of payment.

First, they guarantee that the funds will be available at the time of payment since banks can only issue drafts if they have enough funds in their accounts to cover the amount of the draft.

Second, bank drafts are very secure and can be used for international payments without having to worry about currency exchange rates or other potential issues that may arise with a check.

Finally, since bank drafts do not require signatures or identification from the payee, they can be used to make payments to people or companies who may not have access to traditional banking services.

This makes bank drafts an ideal option for those making large purchases such as real estate transactions.

On the other hand, there are some potential drawbacks associated with bank drafts.

For starters, they can take longer to clear than other forms of payment such as checks or money orders. Additionally, the fees charged for bank drafts are typically higher than those associated with other forms of payment.

Finally, it can be subject to fraud if the bank draft is lost or stolen, as it can be difficult to trace where the money has gone.

## Conclusion

Bank drafts are a very convenient and secure way to make payments. They provide a guarantee that funds will be available at the time of payment, are not subject to risk like checks, and can be used for international payments. However, there are a few drawbacks to consider such as the possibility of fraud, higher fees, and longer clearing times. Ultimately, it is up to the individual to decide if using a bank draft is the best option for their particular situation.

## Monday, March 27, 2023

### Utility Expense: Definition, Accounting, Journal Entry, Example, Debit or Credit, Asset or Liability

Companies need a base to operate in the business environment. While many companies have adopted a model to promote remote work, one element has remained the same. Despite the changes in modern business frameworks, companies still need electricity, water, and other utilities to operate. These items fall under the utility expense in the income statement.

## What is Utility Expense?

Utility expense is a head used in the income statement that accumulates various expenses. Typically, it includes electricity, water, gas, internet, and phone services. Usually, companies record and report this item as an operating expense in the income statement. The amount of utility expense can vary depending on factors such as the size and location of the company and how much energy and resources it uses in its operations.

Managing utility expenses effectively is crucial for a company's profitability. Companies can reduce these expenses by implementing energy-efficient practices and investing in new technologies that use less energy. Over time, utility expense has decreased for most companies due to modern technology and better processes. However, it is still a crucial part of the income statement.

## What is the accounting for Utility Expenses?

Companies must record utility expenses as operating expenses. However, most companies use the items within this head. Practically, companies allocate their utilities to different departments. In some areas, the classification for these expenses may vary. Therefore, companies may need to assign utility expenses to those areas.

For example, companies must separate utilities relating to administrative work from that used in production. The latter becomes a part of the cost of sales while the remaining amount gets treated as an operating expense. The other side of the accounting treatment for utility expenses also varies. Companies must consider the compensation method to record utility expenses.

One final crucial aspect of utility expense is in accrual accounting. Companies must record this expense when it occurs rather than when compensated. Sometimes, companies may also estimate their utility expense to report in the financial statements if a reliable figure is unavailable.

## What is the journal entry for Utility Expense?

The journal entry for utility expenses is straightforward. It requires recording the expense in the relevant accounting along with the compensation. Usually, companies recognize utility expenses before paying them. Therefore, the journal entry would look as follows.

 Dr Utility expense Cr Accrued expenses or Accounts payable

Sometimes, companies may also pay these expenses through cash or bank when recording them. It happens when companies have automatic payments set up for their utility expenses. In that case, the journal entry is as follows.

 Dr Utility expense Cr Bank

## Example

A company, Red Co., incurs electricity expenses of \$10,000 for a year. Similarly, it pays an annual fee of \$2,000 for its phone and internet line. Usually, the company settles these bills within five days of receiving them. Therefore, Red Co. records these utility expenses as follows.

 Dr Electricity expense \$10,000 Dr Internet and phone expense \$2,000 Cr Utilities payable \$12,000

## Conclusion

Utility expense is a head in the income statement that combines various items. Usually, these include electricity, phone, gas, and water expenses. For companies, these are a necessity required for regular operations. The accounting treatment for these records is the expense and compensation for it. However, it is crucial to recognize utility expenses according to the accruals principle in accounting.

Originally Published Here: Utility Expense: Definition, Accounting, Journal Entry, Example, Debit or Credit, Asset or Liability

## Sunday, March 26, 2023

### Direct Labor and Indirect Labor: Definitions, Examples, Differences

The workforce is essential in many industries. Whether service- or product-based, businesses need employees in many areas. In manufacturing companies, these employees also help contribute during the production cycle. The work done by them falls under the definition of labor. It includes any effort, skill, and time employees put toward producing goods and services.

Companies must classify labor expenses into various categories based on different classifications. One of these includes differentiating between direct and indirect labor. Before discussing the differences, it is crucial to understand them individually.

## What is Direct Labor?

Direct labor includes the cost of employees directly involved in the production process. These employees are typically the ones who physically create or deliver the product. For example, they may consist of assembly line workers, machine operators, or delivery drivers. Any costs associated with these employees also become a part of the product good's cost.

Direct labor costs include the wages, salaries, and benefits paid to these employees. They can also include other labor-related expenses directly tied to the production process. For example, they may consist of training costs or equipment maintenance costs. Usually, direct labor is a variable cost and fluctuates with changes in activity levels over a specific time.

## What is Indirect Labor?

Indirect labor refers to the labor costs associated with running a business. It does not include employees not directly involved in creating or delivering a product or service. Usually, these employees and expenses back the production process. For example, it may include employees in finance, administration, and other departments. Although they support the production process, they are not directly a part of it.

In the production process, indirect labor falls under overhead. Essentially, it means these costs do not become a part of the cost of the underlying product. Nonetheless, indirect labor is still an expense incurred by a company. These costs are a part of the overall profitability of the company. Despite the name, indirect labor is still essential in running a business and its operations.

## What is the difference between Direct and Indirect Labor?

Direct and indirect labor differs in the following areas.

### Definition

Direct labor refers to the labor costs linked to employees directly involved in producing a good or service. Indirect labor refers to labor costs associated with employees supporting the production process.

### Behavior

Direct labor costs are typically variable costs because they increase or decrease with the production levels. In contrast, indirect labor costs are fixed costs because they do not fluctuate with activity levels.

### Allocation

Direct labor becomes a part of the product's cost. However, indirect labor falls under overheads. While both are crucial for the company, both play different roles in calculating profits.

### Identification

Companies can identify and trace direct costs to a specific product or service. However, tracking indirect costs and associating them with one item requires complex processes.

### Importance

Direct labor is a critical component of product costing and helps determine the cost of goods sold. In contrast, indirect costs are not as crucial. However, these costs still help measure the overall profitability of a company.

## Conclusion

Labor refers to the costs associated with employees and the work they do. Companies may divide these costs into several categories, including direct and indirect. However, both play a role in overall profitability. Direct labor usually includes employee costs associated with employees contributing to the production process directly. Any expenses that don't fall in that category get classified as indirect.

Originally Published Here: Direct Labor and Indirect Labor: Definitions, Examples, Differences

## Saturday, March 25, 2023

### Structured Finance: Definition, What It Is, Products, Meaning, Examples, Modeling

Structured finance is a type of financial engineering that involves the use of complex financial instruments to structure sophisticated transactions.

It is used to manage risk, raise capital and facilitate asset transfers. Structured finance can involve the securitization of assets or other forms of debt financing.

These structures are designed to maximize returns for investors while minimizing risks associated with the particular transaction or investment strategy.

## What is Structured Finance?

Structured finance is an advantageous approach when dealing with highly intricate investments that carry risks. It helps to manage and control these risks by creating a framework for financing activities.

Companies and other organizations with bigger needs sometimes ask for structured finance - this helps them get money for complicated or special projects or investments.

In simple words, structured finance is a type of financial technology that combines different components to create a customized financing solution. It involves the arrangement and organization of multiple entities to provide the necessary capital or liquidity.

The aim of structured finance is usually to develop a product that generates returns for investors while mitigating risks.

## How Structured Finance Works

Structured finance is mostly used by borrowers because it allows them to have access to funds that would otherwise not be available.

It works by rearranging the payments of debt and equity in a way that helps reduce the costs and risks associated with the loan while also providing higher returns for investors.

Structured finance also involves a process of risk management that helps to make sure that all parties involved can get their desired outcome.

The main benefit of structured finance is its ability to create custom financing solutions that help borrowers access capital and investors earn higher returns.

By taking advantage of structured finance, companies can take on bigger projects and investments without having to worry about the risks associated with them.

## Benefits of Structured Finance

Structured finance offers several benefits for both borrowers and investors.

For borrowers, it can help them access funds that may not otherwise be available. It also helps to reduce the costs associated with financing their project or investment.

For investors, structured finance helps to provide higher returns while mitigating risks. It also creates a framework for financing activities that helps to ensure fair returns for all parties involved.

In simple terms, structured finance can be a useful tool for both borrowers and investors as it helps to create custom financing solutions that provide benefits for all involved.

By taking advantage of structured finance, companies can undertake bigger projects and investments without having to worry about the risks associated with them.

This makes it an attractive option for those looking to access capital or invest in a more complex way. In addition, structured finance can provide financial security and stability to all parties involved.

## Examples of Structured Finance

Large companies looking for bigger loan options often turn to structured finance - this is because it helps them access capital that may not otherwise be available. Here are few a structured finance examples:

1. Syndicated loans

When financial institutions come together to provide a loan to a single business, the result is what's known as a syndicated loan.

This type of lending usually consists of both banks and non-banking entities, including CLOs (collateralized loan obligation structures), insurance companies, mutual funds, or pension funds.

1. Collateralized bond obligations (CBOs)

A collateralized bond obligation (CBO) is a structured finance product that pools together different types of fixed-income assets, such as junk bonds.

Putting different securities together can make them less risky for investors. This is called diversification - the new security will be safer than each one on its own.

1. Credit default swaps (CDSs)

A credit default swap (CDS) is a financial tool that permits an investor to switch or rebalance their credit risk with that of another person. To reduce risk, the lender purchases a CDS from another individual who vows to reimburse them in case the borrower defaults.

1. Collateralized mortgage obligations (CMOs)

A collateralized mortgage obligation (CMO) is a structured finance product that pools together different types of mortgage-backed securities.

This type of investment provides investors with the ability to diversify their investments while also providing them with security if the borrower defaults on their loan.

1. Collateralized debt obligations (CDOs)

A collateralized debt obligation (CDO) is an investment product that is made up of different loans and other things. It is sold to people who invest a lot in companies.

CDOs work by giving the investor security in case something goes wrong. In exchange, the lender receives a portion of the total debt repayment.

## Conclusion

Thanks to structured finance, borrowers and investors can both benefit from the creation of custom financing solutions. It helps borrowers access funds that may not otherwise be available while also providing higher returns for investors. It also helps to reduce costs associated with projects and investments while mitigating risks.

### How Reliable Is Out-of-Sample Testing?

Out-of-sample testing is a critical component of designing and evaluating trading systems. Trading systems are often developed and optimized using historical data, which can lead to overfitting - a situation where the system is excessively tuned to past data, resulting in poor performance on new, unseen data. Out-of-sample testing involves evaluating the trading system on data that was not used in the development process, allowing traders to gauge the system's performance on new data and assess its robustness to market changes. By testing the system on a separate and distinct dataset, traders can be more confident that the system's performance is not simply due to chance or overfitting, and that it is more likely to perform well in future market conditions.

Out-of-sample testing is a crucial step in designing and evaluating trading systems, allowing traders to make more informed and effective decisions in dynamic and ever-changing financial markets. But is it free of well-known biases such as overfitting, data-snooping, and look-ahead? Reference [1] investigated this issue. It pointed out,

In this paper, we examine the sources of excessively large Sharpe ratios associated with popular multifactor asset pricing models. Sharpe ratios remain too large to reconcile with leading economic models after applying simple, robust estimates of tangency portfolio weights, as well as under conventional pseudo-out-of-sample research designs that rely only on past data. We argue that the most compelling explanation behind these excessive Sharpe ratios involves a subtle form of look-ahead bias such that factors included in models, or alternatively the characteristics and portfolios from which factors are extracted, are selected based on prior research outcomes linking such characteristics with cross-sectional variation in returns…

Our results have a variety of implications. First, researchers should be cautious in interpreting common out-of-sample research designs as providing assessments of factor models that are free of hindsight bias, because the samples analyzed often overlap heavily with samples previously analyzed in the literature establishing anomalous return patterns. Given the continuous and organic nature of asset pricing research, it is difficult to conduct bias-free validation analyses, but our paper attempts to make progress in this direction. Second, we interpret the much smaller Sharpe ratios associated with popular multifactor models that we obtain using alternative evaluation approaches as good news. This is because real-time investors who ‘factor invest’ using these models after they are proposed do not achieve exorbitant Sharpe ratios.

In short, out-of-sample testing also suffers, albeit subtly, from biases such as overfitting, data-snooping, and look-ahead.

We agree with the authors. We also believe that out-of-sample tests such as walk-forward analysis also suffer from survivorship bias.

How do we minimize these biases?

Let us know what you think in the comments below or in the discussion forum.

References

[1] Easterwood, Sara and Paye, Bradley S., High on High Sharpe Ratios: Optimistically Biased Factor Model Assessments (2023). https://ssrn.com/abstract=4360788

Article Source Here: How Reliable Is Out-of-Sample Testing?

## Thursday, March 23, 2023

### Deferred Financing Costs: What They Are, Accounting, Journal Entry, Tax Treatment, Amortization, Example, Definition

The matching concept in accounting requires companies to match expenses to the revenues to which they relate. Therefore, companies may spread costs over several years to ensure that. A typical example of the matching principle affecting accounting is depreciation. Companies spread the cost of their assets over several years to reflect the revenues they help generate.

Another area where the matching concept applies is deferred financing costs. As the name suggests, these costs get delayed for later periods. Before discussing the accounting treatment of deferred financing costs, it is crucial to know what these costs are.

## What are Deferred Financing Costs?

Deferred financing costs are expenses a company incurs when obtaining financing, such as a loan or bond issuance. Usually, these costs occur upfront but get spread over the financing term. Some examples include fees paid to banks or other financial institutions for underwriting or arranging financing, legal and accounting fees, and other professional fees. These costs may also include preparing and filing documents with regulatory bodies.

When a company incurs deferred financing costs, it will record them as an asset on its balance sheet. These costs get amortized over the term of the financing, usually on a straight-line basis. Simply, it means the total amount is spread evenly over the financing period. The amortization of deferred financing costs is an increase in interest expense in the income statement.

## What is the accounting treatment of Deferred Financing Costs?

The accounting for deferred financing costs involves various steps. As mentioned above, the primary treatment for these costs is to recognize an asset. At this stage, the amount will be the same as the company incurs for the related expense. For example, if a company spends \$10,000 to acquire a loan, this amount will get recognized as an asset.

The second stage of the accounting for deferred financing involves amortizing the asset recognized before. As mentioned above, this process occurs on a straight-line basis. Essentially, this accounting treatment converts the asset to an expense in the income statement. The remaining deferred financing cost stays on the balance sheet until the final year of its life.

## What is the journal entry for Deferred Financing Cost?

As stated above, there are two stages to accounting for deferred financing costs. The first involves recognizing an asset for the amount of the costs incurred. At this stage, the journal entry will be as below.

 Dr Deferred financing cost Cr Cash or bank or account payable

Over the years, the amount gets amortized and converted into an expense. This process occurs from the end of each period until the final year. At this stage, the journal entry will be as follows.

 Dr Interest expense Cr Deferred financing cost

## Example

Red Co. incurs fees of \$50,000 to obtain a \$10 million loan. The company recognizes this amount as a deferred financing cost. Similarly, the company spreads this cost over ten years. In the first stage, Red Co. recognizes the whole amount as a deferred financing cost using the following journal entry.

 Dr Deferred financing cost \$50,000 Cr Bank \$50,000

Over the years, Red Co. amortizes the deferred financing cost. The amortized amount equals \$5,000 annually (\$50,000 / 10 years). Red Co. records this amortization as follows.

 Dr Interest expense \$5,000 Cr Deferred financing cost \$5,000

## Conclusion

Deferred financing cost is expense companies recognize as an asset and spread over several years. This requirement comes from the matching concept in accounting. However, the accounting for deferred financing costs occurs over several years. Companies record these costs as an asset and later keep amortizing them on a straight-line basis.

## Wednesday, March 22, 2023

### Price Discrimination: Definition, Examples, Types, First Degree, Second Degree, Monopoly

Pricing can be a major factor in the success of a business, and price discrimination is one strategy that many companies use to maximize their profits.

Price discrimination involves charging different prices for the same product or service based on consumer demand, perceived value, or any other factor, rather than offering a single set price.

Price discrimination can be beneficial for both businesses and consumers as it allows companies to tailor their prices to meet the needs of different customers.

## What is Price Discrimination?

Price Discrimination is a pricing strategy that businesses use to set different prices for the same product or service depending on consumer characteristics such as need, location, and purchasing power.

This means that customers in different markets can be charged different prices for the same product or service.

It also allows businesses to maximize their profits by charging a higher price to those willing and able to pay more, while still offering lower prices to those who need it most.

Price discrimination is used across many industries, from airlines and hotels to retail stores and online marketplaces.

The goal is to capture more value from customers who are willing and able to pay higher prices, while still providing competitive prices to those who need it most.

## Different Types of Price Discrimination

There are mainly three types of price discrimination, including

1. First-degree Price Discrimination

First-degree price discrimination involves charging each customer the maximum they are willing to pay for a product. This allows businesses to tap into their customers’ willingness to pay and charge them accordingly.

1. Second-degree Price Discrimination

Second-degree price discrimination includes offering different prices based on the quantity purchased. This allows businesses to offer discounts on bulk purchases and incentivize customers to purchase more.

1. Third-degree Price Discrimination

Third-degree price discrimination involves charging different prices based on consumer characteristics such as age or income level.

This type of price discrimination is used by many businesses to ensure that those who need it most can access products at a lower cost.

## Examples of Price Discrimination

Price discrimination is widely used across many different industries. Below are some examples of price discrimination.

Movie theaters use price discrimination when they offer discounted tickets depending on the age of the customer. Senior citizens, students, and children typically receive discounted tickets compared to adults.

Airlines would be another example of price discrimination. Airlines often offer discounts for bookings, senior citizens, students, and members of loyalty programs.

Retail stores may also use price discrimination when they give discounts to customers who buy in bulk or through loyalty programs. This encourages customers to purchase more items at one time and earn discounts on future purchases.

Other industries that use price discrimination include restaurants, hotels, and online retailers.

Restaurants may offer discounts for certain days of the week such as “kids eat free” nights or discounted prices for large groups.

Hotels often have different rates depending on the day of the week or season. Online retailers will offer discounts to customers who sign up for email newsletters or loyalty programs.

## Conclusion

Price discrimination can be beneficial for both businesses and consumers as it allows companies to capture more value from those willing and able to pay higher prices, while still offering competitive prices to those who need it most. By using this pricing strategy, businesses can increase their profits and provide more affordable options to consumers.

## Tuesday, March 21, 2023

### Bank Service Charge: Definition, Journal Entry, Accounting Treatment, Example

Companies and individuals use bank accounts to facilitate their transactions. These accounts also come with the safety of their money and other benefits. However, these parties must also pay the bank for their services. The payments constitute an expense for the account holder while being an income for the bank. In most cases, these fees fall under bank services charges.

## What is a Bank Service Charge?

A bank service charge is a fee that a bank charges its customers for the various services rendered. These services may include maintaining an account, processing transactions, issuing checks, etc. Usually, bank services charges cover the bank’s costs for providing these services and generating revenue. However, it may not be the primary income source for banks.

Banks deduct bank services from their customer's accounts. Depending on the type of fee, the charge may occur at different intervals. For example, some banks deduct a monthly maintenance fee for accounts. On the other hand, some may be an annual or per-transaction basis. For customers, these service charges represent a deduction in the account balance.

## What is the accounting for a Bank Service Charge?

Several factors determine the accounting treatment of bank service charges. The most crucial of these is the type of charge on the accounting. However, accounting standards may also dictate how companies account for these charges. Generally, this process involves recording an expense while decreasing the balance for the specific account in the cash book.

Companies may maintain a separate account for each type of bank service charge incurred. This division may help assess the type of expense for further analysis. However, all bank service charges appear under financial expenses in the income statement. In some cases, companies may also capitalize bank service charges. It occurs when accounting standards require companies to include these charges as a part of an asset's cost.

## What is the journal entry for a Bank Service Charge?

As stated above, the accounting treatment for a bank service charge may differ based on the underlying circumstances. In most cases, these charges are minimal expenses, often falling under financial expenses in the income statements. For these expenses, the journal entry is as follows.

 Dr Financial expense Cr Bank account

If accounting standards require capitalizing the expense, the journal entry will vary. In this case, the bank service does not become a financial expense. Instead, it becomes part of the underlying asset's cost. The journal entry to record it, in that case, will be as follows.

 Dr Asset Cr Bank account

## Example

A company, Red Co., maintains a bank account with a local bank. The company incurred an annual account service charge of \$100. As per the relevant accounting standards, this charge does not become a part of an asset’s cost. Therefore, Red Co. records it as an expense in its books using the following journal entry.

 Dr Financial expense \$100 Cr Bank account \$100

## Conclusion

A bank service charge is a fee that banks deduct from a bank account. Usually, it includes maintenance, processing, and other bank fees. The accounting for bank service charges may differ based on various conditions. In most cases, though, they are an expense that falls under financial expenses in the income statement. Companies must track these charges and regularly update the cash book accordingly.

Originally Published Here: Bank Service Charge: Definition, Journal Entry, Accounting Treatment, Example

## Monday, March 20, 2023

### Finance Lease: Definition, Journal Entry, Accounting Treatment, vs Operating Lease, Example

A lease is a contractual agreement between two parties. The lessor is the party that grants the use of an asset or property to another party, also known as the lessee. Usually, the lease agreement also includes other terms, for example, the duration, payment schedule, ownership, etc. In accounting, leases may fall into two categories, finance, and operating.

In the past, accounting standards required a series of checks to classify leases. After changes in those standards, most lease agreements fall under a finance lease. Therefore, it is crucial to understand what it is.

## What is a Finance Lease?

A finance lease is a type of lease agreement where the lessee assumes ownership of the underlying asset. Traditionally, this lease included contracts where the lessee reaps most of the rewards associated with that asset. Similarly, if they bear the risks associated with the leased asset, it constitutes a finance lease. However, new accounting standards do not have these requirements.

In the newer standards, most lease agreements that last longer than 12 months fall under finance leases. Therefore, the accounting definition of a finance lease under the new standard includes long-term lease agreements. Companies use this type of lease for machinery, plant, vehicles, and real estate. It is a type of finance that companies utilize to obtain long-term assets.

## What is the accounting for Finance Lease?

The accounting treatment for a finance lease requires the lessee to assume they have purchased the asset and taken on debt to pay for it. This accounting treatment goes with the essence of this lease agreement, which is primarily a type of financing. Nonetheless, this accounting treatment is complex and may require several calculations, including amortization.

For finance leases, companies must recognize the leased asset based on the present value of minimum lease payments. The amount after discounting those payments over the lease term constitutes the value of the asset obtained. It is also the amount for which the company must create a lease liability. Companies must further divide this liability into current and non-current portions.

Over time, companies must continue recognizing payments against the lease liability as per the repayment schedule. These payments get divided into their individual principal and interest portions. Usually, this process occurs at the end of each accounting period. Simultaneously, the company must keep depreciating the asset under the applicable accounting standards.

## What is the journal entry for Finance Lease?

The first step in the accounting treatment for a finance lease is the journal entry at its initial recognition. As stated above, the amount for this entry comes by discounting the minimum lease payments over the lease term. Once calculated, the journal entry at initial recognition is as below.

 Dr Asset Cr Finance lease

Over time, the company must keep amortizing the finance lease. As stated above, it involves dividing the payment into its interest and principal portions. Consequently, the journal entry would be as follows.

 Dr Finance lease (principal portion) Dr Interest expense Cr Bank or Cash

This process will also include depreciating the asset at the end of each period. The journal entry to record depreciation is as follows.

 Dr Depreciation Cr Accumulated depreciation

## Conclusion

A finance lease is a type of lease agreement companies use to acquire assets. Essentially, it is a financing method for long-term assets. It differs from operating leases which are usually short-term. The accounting for finance leases involves various stages. This treatment results in an asset and a liability recognized in the balance sheet.

Originally Published Here: Finance Lease: Definition, Journal Entry, Accounting Treatment, vs Operating Lease, Example

## Sunday, March 19, 2023

### Arrears: Definition, Meaning, Types of Payments, Examples

When it comes to payments, it is important to stay on top of any arrears. This means knowing if the payments are late or missed and being proactive in dealing with them.

Late payments can cause a financial strain and can negatively affect credit ratings. It is important to keep track of all payments that are due, as well as any arrears that may be owed.

If arrears occur, it is important to address the issue quickly and efficiently - speak with the lender or creditor directly to establish a payment plan or look into any possible payment assistance options.

## Definition of Arrears

Arrear is a financial term that refers to an unpaid debt or other financial obligation that has become overdue. They can arise for a variety of reasons, such as missed payments or unexpected expenses.

It could be anything from a credit card bill, a loan payment, or an invoice for services. In any case, arrears occur when the amount that was due on the specified date has not been paid in full and remains unpaid.

The risk of arrears increases when someone fails to make regular payments or misses out on important financial obligations like taxes or utility bills.

If the debt remains unpaid for an extended time, the interest and penalties can accumulate quickly, making it more difficult to pay off the balance that’s owed.

## Different Types of Arrears

There are different types of arrears in finance - here are some of the main ones

1. Annuities in Arrears

Annuities are payments made regularly over a certain period. For example, someone may pay \$200 every year for 10 years. Arrears is when these regular payments do not get paid on time.

This means that the full amount owed must be paid with additional interest payments to make up for the missed payment.

1. Dividend in Arrears

As the name suggests, a dividend in arrears is when a company fails to pay dividends regularly. This can occur if the company runs into financial difficulty and cannot cover its dividend payments.

This can lead to investors being owed money as they have not received their expected returns.

1. Interest in Arrears

Interest in arrears mostly happens in bonds - because the investor has not received their expected return, they accrue a larger amount of interest due to the missed payment.

This can have serious consequences on the financial standing of the individual or company - so it's important to stay up-to-date with payments and avoid long-term arrears.

1. Call in Arrears

Call-in arrears is money that a shareholder was supposed to pay but didn't. It's calculated by subtracting the amount paid from the total amount owed.

If someone does not pay, their shares can be taken away. If someone pays all the money they owe, then there will be no call-in arrears.

## Examples of Arrears

Examples of arrears would include a person missing their credit card payments, or not paying utility bills on time.

It could also include someone not making regular loan repayments, or failing to pay rent in full and on time. In each case, these missed payments become arrears - money that is owed which has not been paid.

If arrears remain unpaid for a long time, the interest and penalties can quickly add up, making it difficult to pay off the balance that’s owed. It's important to take steps to avoid becoming in arrears - otherwise, it can have serious financial consequences.

## Conclusion

In conclusion, arrears is the term used to describe a debt or financial obligation that has gone unpaid. It can be caused by missed payments, unexpected expenses, or failure to pay taxes or utility bills on time. Identifying these arrears and taking steps to avoid them is essential for keeping your finances in order.

Post Source Here: Arrears: Definition, Meaning, Types of Payments, Examples

## Saturday, March 18, 2023

### Pass-through Expense: Definition, Meaning, Journal Entry, How to Record, Examples

Companies incur expenses that are a part of daily operations. These expenses are crucial in running the business and ensuring the generation of revenues over time. In some industries, companies may also incur pass-through expenses. These expenses are not the same as the ones that occur through the usual course of business for companies.

## What is a Pass-through Expense?

A pass-through expense is a type of expense that one party passes through to another. This definition also matches the name it gets. Essentially, it is a cost incurred by one party but ultimately paid by the other party. In real estate, a pass-through expense can be an item the landlord incurs. However, the landlord passes the whole amount or a portion to the tenant.

With a pass-through expense, the party that initially incurs the expense passes it on to another party for payment. The receiving party may not control the expenses incurred but are responsible for paying for them. Usually, both parties agree to the incursion of these expenses beforehand. Therefore, the receiving party already knows or expects the first party to pass these expenses on when they occur.

## Who is responsible for paying Pass-through Expenses in a business transaction?

The responsibility for paying pass-through expenses can vary depending on the business transaction or contract. Generally, the party that incurs it is responsible for paying it initially. However, if the expense is a pass-through expense, the party that ultimately benefits from it will be responsible for paying it.

For example, if a supplier incurs shipping costs to deliver a product to a customer, the supplier may pass on a portion of those shipping costs to the customer as a pass-through expense. In this case, the customer would be responsible for paying the pass-through expense, even though the supplier incurred the original shipping costs.

## What is the accounting for Pass-through Expenses?

The party incurring a pass-through expense does not record it as an expense or revenue. They only recognize the portion that relates to them. For the amount passed through, the party incurring it creates a receivable in their accounts. Once they pass that expense to the other party, they record the receipt as a deduction in that receivable.

On the other hand, the receiving party must record the expense as soon as it occurs. This accounting treatment applies regardless of whether the other party has passed through the expense. Practically, this may not be possible as the receiver may not be aware of these expenses occurring. In those cases, the receiving party must record it as an expense when the first party passes it through.

## What is the journal entry for a Pass-through Expense?

The journal entry for a pass-through expense differs for both parties. For the party initially paying it, the amount does not categorize as an actual expense. Therefore, they must record it as a receivable from the receiving party. The journal entry to record it is as below.

 Dr Receivable Cr Bank or Cash

For the receiving party, the accounting treatment will be the same as other expenses. Therefore, the journal entry to recognize it will be as below.

 Dr Expense Cr Accounts payable

## Conclusion

A pass-through expense is a cost that one party incurs but passes through to another. The party receiving it is ultimately responsible for paying for it. Usually, it is common in commercial lease agreements where the landlord transfers the expense to the tenant. The accounting treatment for a pass-through expense differs for both parties.

Originally Published Here: Pass-through Expense: Definition, Meaning, Journal Entry, How to Record, Examples

### Inventory Sale: Definition, Journal Entry, Accounting Treatment, Formula

Companies sell products or services that help generated revenues. For the former category, some companies purchase items to sell them after adding a margin. Some others also manufacture those products. Either way, these companies hold products that they can sell later. These products are known as inventory for the company in business terms.

Usually, companies record sales in a revenue account. It holds a record of all items sold by a company. Some companies may also use a dedicated account for their inventory sales.

## What is Inventory Sale?

Inventory sale refers to goods sold by a company through its selling process. It includes any items a company provides its customers in exchange for compensation. However, inventory sales may also refer to the accounts companies use to record these sales. This account holds the sale proceeds received from finished goods a company sells during its usual course of business.

Sometimes, inventory sale may also refer to when a company sells its extra stock of products or goods to customers at a discounted price. Companies do so to dispose of stock they have held for a long time. This process is often prevalent in industries where finished goods have a limited period. For example, bakeries may offer their products at a cheaper rate when closing at the end of the day.

## What is the accounting for Inventory Sales?

The accounting for inventory sales includes two sides. The first includes recording the sale for the sale proceeds received from the customer. In this case, the company selling the goods must recognize the revenue or income in exchange for compensation. In some cases, this compensation may come later, which will also require recording a receivable.

The other side of this transaction involves recording a decrease in the goods the company has sold. It requires crediting the inventory account where the company has sold the finished goods. On the other hand, it also entails recognizing the cost of these goods as sold in the income statement. Overall, the accounting for inventory sales impacts the balance sheet and income statement.

## What is the journal entry for Inventory Sale?

The journal entry for inventory sales is straightforward. However, companies must ensure to record both sides of this transaction. As mentioned above, the first side involves recognizing the revenues received from the customer. In this case, the journal entry would be as below.

 Dr Accounts receivable or Bank or Cash Cr Inventory sale

The other side, as stated above, is to record the cost of those goods and the decrease in inventory. The journal entry for this side is as follows.

 Dr Cost of sales Cr Inventory

The first side only records the sale proceeds from the sale. On the other hand, the second recognizes the cost of the inventory sold. The difference between these two figures equals the gross profit or loss on the inventory sale.

## Conclusion

Inventory sale refers to the process of selling goods. However, it may also have other meanings based on the context. The accounting for inventory sales considers two aspects of the transaction. It records the sale proceeds while recognizing its cost in two journal entries. Inventory sale is a common process for companies that manufacture or resell items.

Article Source Here: Inventory Sale: Definition, Journal Entry, Accounting Treatment, Formula

## Thursday, March 16, 2023

### Implicit Costs: Definition, Examples, Formula, Calculation, Meaning

Implicit costs are expenses that appear on a company's balance sheet and represent the opportunity cost of using resources. Unlike explicit costs, which are actual out-of-pocket payments for goods or services, implicit costs do not involve any cash exchange.

As such, they can be difficult to recognize and measure accurately. Meaningful analysis of implicit costs requires knowledge and experience in the field.

## What is an Implicit Cost

An implicit cost is a cost that already happened but isn't shown. It's like an opportunity that was missed because the company used its resources for something without getting paid for it.

Implicit costs remain unseen, yet signify the potential revenue one would have earned. Despite not affecting one's profit directly, their presence is still felt and should be taken into account when evaluating any business venture.

Implicit costs can also include the depreciation of assets or supplies used within the business. What this means is that any reduction in the value of an item due to its usage could be considered an implicit cost.

This generally happens over some time, so it may not always be apparent until it's too late.

## How Implicit Costs Work

Implicit costs are also called imputed, implied, or notional costs. It is hard to figure out how much these costs are because businesses do not write them down on paper as they do with money.

This means that it is more difficult to understand and measure the effects of implicit costs.

These costs represent a loss of potential income and not the actual money spent by a business. This makes implicit costs different from explicit costs, which are those that result in a direct monetary exchange between two parties.

A company might not make money if they use its resources instead of letting someone else use them, also referred to as an implicit cost.

This means that if a company chooses to use its resources instead of having someone else do it, they are foregoing its potential income from the transaction.

Although implicit costs can't be tracked in a traditional way such as explicit costs, there is still value in understanding them and taking them into account. This helps businesses make more informed decisions about how best to use their resources.

By doing so, they can maximize their profits while minimizing the potential implicit costs.

## Example of Implicit Costs

As an example, let's say a company owns its factory and produces widgets.

The company has to pay for the workers, materials, and other overhead costs that go into producing the product.

These are all explicit costs incurred by the business, as they involve exchanges of actual money.

However, the company also needs to take into account the implicit cost of not being able to use the factory for any other purpose.

The opportunity cost associated with not being able to rent out the factory is an example of an implicit cost. The company may have missed out on a potential income by using its resources in that way instead of renting them out to someone else.

Implicit costs can also be seen in situations where a company forgoes money-making opportunities.

For example, if a company chooses not to make an investment that would have yielded positive returns, the implicit cost is the income it could have made from that investment.

In this case, the opportunity cost of not investing is the implicit cost incurred by the company.

Overall, implicit costs are an important consideration for any business. They may be difficult to measure, but taking them into account can help businesses maximize their profits and minimize potential losses.

## Conclusion

By understanding how implicit costs work and what they represent, businesses can make more informed decisions and be better prepared to manage their resources. This will ensure they are using the most cost-effective strategies that will lead to long-term success. Implicit costs can be difficult to measure, but businesses should still strive to understand them to make informed decisions about their operations and investments.

Originally Published Here: Implicit Costs: Definition, Examples, Formula, Calculation, Meaning

### How to Deal with Missing Financial Data

In the financial industry, data plays a critical role in enabling managers to make informed decisions and manage risk effectively. Financial data can come from a wide range of sources, including economic indicators, company financial statements, market data, customer transaction histories, and social media sentiment. By analyzing this data, financial professionals can identify trends, patterns, and opportunities that would be difficult or impossible to detect otherwise. This information can be used to inform investment decisions, optimize portfolio management, and develop more effective risk management strategies.

In today's data-driven world, access to high-quality, accurate financial data is essential. However, despite the critical importance of financial data, it is often missing or incomplete. Financial data can be difficult to obtain due to a lack of standardization and regulatory requirements. Incomplete or inaccurate data can lead to flawed analysis, incorrect decision-making, and increased risk. As a result, financial professionals must carefully consider the quality and completeness of the data they use and take steps to address any gaps or inconsistencies. Techniques such as data cleaning, imputation, and statistical modeling can be used to address missing data, but it is crucial to ensure that any assumptions or limitations are well understood and accounted for in the analysis.

Reference [1] studied the missing data in firms’ fundamentals and proposed methods for imputing the missing data. The authors pointed out,

This paper focuses on a very widespread yet rarely recognized issue of missing data in firm-specific characteristics. First, we document the systematic feature of missing data: it is pervasive and widespread among the overwhelming majority of firms. In our representative data set of the 45 most often used characteristics, more than 70% of firms are missing at least one of them at any given point of time. We show that firm fundamentals are not missing-completely-at-random, but display complex systematic patterns. We leverage the complicated cross-sectional and time-series dependence in firm characteristics to propose a new imputation method, which is easy to use, and substantially outperforms existing alternatives…

The problem of missing data is not limited to just firm characteristics, and is encountered universally in various applications in finance: I/B/E/S forecast data, ESG ratings of firms, and many others. It is also likely to be more severe in the international context. Given the growth in Big Data applications and new sources of information being available at an increasing speed, we suspect that the issue of missing data will become even more paramount going forward. We hope that our paper lays out foundations and general guidelines for imputing missing data that could be applied in many different settings in the follow-up work.

We think that the proposed data imputation methods can be applied not only to fundamental data but also to financial derivatives data such as options.

Let us know what you think in the comments below or in the discussion forum.

References

[1] Bryzgalova, Svetlana and Lerner, Sven and Lettau, Martin and Pelger, Markus, Missing Financial Data (2022). https://ssrn.com/abstract=4106794

Post Source Here: How to Deal with Missing Financial Data

## Tuesday, March 14, 2023

### Lease Incentives: Definition, Types, Examples, Accounting

Lease agreements are prevalent for properties throughout the world. These agreements involve two parties. Firstly, they include the property owner, also known as the landlord. On the other hand, they also contain the party that leases the landlord's property, also known as the tenant. Both parties receive benefits from these agreements.

The primary benefit that the landlord receives is the rent from the lease agreement. On the other hand, the tenant gets to use the property in exchange. Sometimes, the landlord may offer additional benefits to the tenant too. These may fall under lease incentives.

## What are Lease Incentives?

Lease incentives are discounts or benefits landlords offer tenants to encourage them to rent their property. These incentives may include reduced rent, waived security deposits, free parking, or access to facilities like a gym or pool. However, it's crucial for both parties to carefully review and understand the terms and conditions of any lease incentives offered.

The landlord benefits from offering these incentives because it can attract more tenants and reduce the time the rental property is vacant. The tenant receives more affordable rent or additional perks that make the rental more attractive. However, it may come with added costs to the tenant as landlords may include them in the rent price.

## How do Lease Incentives work?

Lease incentives work by providing financial incentives or concessions to tenants to encourage them to rent a property. These incentives can help make a rental property more attractive to potential tenants. Usually, these incentives are more common in competitive rental markets where many properties are available.

When a landlord offers lease incentives, they are reducing the cost of renting the property for the tenant. Lease incentives may be for a specified period, such as the first few months of a lease. Sometimes, they may even last for the entire lease agreement. The specifics of these incentives come from the lease agreement between both parties.

## What are the types of Lease Incentives?

There are several types of lease incentives that landlords may offer to tenants to encourage them to rent a property. Some of the common ones include the following.

### Rent discounts

Landlords may reduce the monthly rent amount for a specified period, such as the first few months of a lease.

### Waived security deposit

Landlords may waive the requirement for a security deposit, which can help to reduce the upfront costs for tenants.

### Free parking

Landlords may offer free or discounted parking to tenants, which can be a valuable perk in urban areas where parking is limited.

### Free utilities

Landlords may include utilities such as electricity, gas, or water in the rent amount, which can reduce the overall cost of living for the tenant.

### Move-in bonuses

Landlords may offer a cash bonus or gift card to tenants who sign a lease agreement within a specific timeframe.

## Conclusion

Lease incentives are rewards or benefits offered by landlords to their tenants. The objective of these rewards is to motivate tenants to rent a property. However, these incentives may come with some added costs to the rent. Lease incentives may also come in several forms. Some common ones include rent discounts, waived security deposits, free parking and utilities, and move-in bonuses.

Originally Published Here: Lease Incentives: Definition, Types, Examples, Accounting

## Monday, March 13, 2023

### Economy Pricing: Definition, Strategy, Examples, What It Is, Advantages and Disadvantages

Setting the price for a product or service can be a complicated task. From satisfying customers to staying competitive in the market, there’s a lot to consider. Economy pricing is one strategy that businesses can utilize to achieve their desired pricing objectives.

Economy pricing, also known as low-price or cost-based pricing, is a simple way for businesses to set prices based on costs alone.

It not only helps to attract a wide range of customers, but it can also help businesses save time and money by forgoing the need to assess market demand and analyze competitors’ pricing.

## What is Economy Pricing

Economy pricing is a strategic approach that allows businesses to offer goods and services at reduced costs to remain competitive. Through this cost-saving option, companies can benefit from lowered overhead expenses while still providing quality products and services.

This means that companies can save on variable and fixed costs such as manufacturing, marketing, research and development, and overhead expenses. By cutting down on these costs, businesses can keep their prices low while still earning a decent profit margin.

Economy pricing is usually used for simple products or services that don’t require a lot of customization or high-end features.

Examples include basic items such as grocery products, retail clothing, and fast food restaurants. Economy pricing also applies to services such as budget hotels and discount airlines.

## Understanding the Economy Pricing Strategy

The basic formula of price is - Production Cost + Profit Margin.

This means that companies set prices based on the cost of producing a product or service plus additional profit to make money. With economic pricing, businesses reduce their production costs and adjust their prices accordingly.

The goal of this strategy is to remain competitive in the market while still earning a decent profit margin. This means that companies have to consider factors such as suppliers’ costs, competitors’ pricing, and customer demand.

Companies should also consider the potential impact that economic pricing could have on their brand identity and reputation.

For example, some customers may view a lower price as an indicator of lower quality. Companies can counter this perception by emphasizing the value they offer to customers. It depends from company to company and how they want to balance between value and price.

## Benefits of Economy Pricing

The main benefits of economy pricing are

1. Low cost: By offering goods and services at lower prices, companies can attract more customers who are looking for good deals. This strategy is especially attractive to cost-conscious consumers and businesses that need to save money.
2. Increase in sales: Lower prices make products and services more accessible. Customers who were previously unable or unwilling to purchase goods or services due to price may be more willing to do so when prices are reduced.
3. Brand awareness: Economy pricing can be used as a marketing tool to attract new customers and build brand awareness. When customers see that prices are lower, they may be more likely to try the product or service.

## Downsides of Economy Pricing

Despite the potential benefits, there are also some drawbacks to economic pricing.

1. Profit margins: The lower prices may mean less profit for businesses. Companies should assess their production costs and profits carefully when deciding on their pricing strategy.
2. Quality perception: Low prices can sometimes lead customers to believe that a product or service is of lower quality, even if it isn’t. Companies should take steps to ensure their products and services live up to customer expectations.
3. Competition: Other companies may try to undercut each other by offering even lower prices, resulting in a price war. In this case, businesses may not be able to make a profit at all.

## Conclusion

In conclusion, economy pricing can be a viable option for companies looking to reduce costs and remain competitive. However, businesses need to assess their production costs and profits carefully before implementing this strategy. By understanding the potential pros and cons, businesses can make an informed decision about whether or not to use economy pricing.

### Issuance of Common Stock: Meaning, Accounting Treatment, Journal Entry, Example

Common stock is a type of equity ownership in a company. It is the primary instrument to indicate the shareholders' rights to a company's assets. Sometimes, they are also known as ordinary shares. Common stocks have various features, including voting rights, dividends, limited liability, etc. Companies use these instruments to raise finance and collect funds for several activities.

Companies provide common stock to shareholders in a process known as issuance. When companies issue shares, they must also account for the proceeds received. Before discussing that, it is crucial to understand what the issuance of common stock means.

## What does the Issuance of Common Stock mean?

Issuance of common stock refers to the process by which a company sells shares of its common stock to investors in exchange for cash or other assets. It can occur in several ways, including through an initial public offering (IPO) and a secondary offering. Overall, it is a critical mechanism for companies to raise capital and finance operations.

When a company decides to issue common stock, it hires an investment bank or underwriter to facilitate this process. The investment bank helps set the offering price and may also provide marketing and promotional services to attract investors. Once the shares are sold, they become "issued common stock". However, companies must consider various aspects of this transaction when accounting for it.

## What is the accounting for the Issuance of Common Stock?

Accounting for the issuance of common stocks involves several steps to record the transaction. The first step is to determine the stock's par value. While it is the base value for that stock, it does not reflect its market value. The second step during the process is to establish the issue or offering price. This price is usually higher than the par value and is what shareholders pay to receive it.

Companies must divide the proceeds received for the issuance of shares into two accounts. The first is the share capital or paid-in capital account, which only records the par value of those shares. On the other hand, the remaining amount for the transaction goes into the additional paid-in capital account. These values appear under shareholders' equity in the balance sheet.

## What is the journal entry for the Issuance of Common Stock?

The journal entry for the issuance of common stock reflects the accounting treatment discussed above. Usually, companies receive cash through the bank for the transaction. Therefore, the journal entry records the change in assets and equity. The equity part of the journal entry gets divided into two accounts, as mentioned above.

Overall, the journal entry for the issuance of common stock is as below.

 Dr Bank Cr Paid-in capital Cr Additional paid-in capital

## Example

A company, Green Co., issued 1,000 shares with a par value of \$10 to its shareholders. However, the company received \$30 per share, reflecting the stock's current market value. In total, Green Co. got \$30,000 from this transaction. The journal entry to record it is as follows.

 Dr Bank \$30,000 Cr Paid-in capital (\$10 x 1,000 shares) \$10,000 Cr Additional paid-in capital (\$20 x 1,000 shares) \$20,000

## Conclusion

The issuance of common stock is a process companies use to raise finance for their activities. This process involves issuing shares (known as common or ordinary stock) to shareholders. In exchange, companies receive cash through the bank. However, accounting for it requires recording the par and offering value in separate accounts.

Originally Published Here: Issuance of Common Stock: Meaning, Accounting Treatment, Journal Entry, Example

## Saturday, March 11, 2023

### Cash Over and Short: Definition, Journal Entry, Calculation, Accounting, Formula, Example

The use of physical cash has decreased due to banking and various online alternatives. However, some companies still use petty cash as a regular part of their activities. This practice may be more common in some industries than others, for example, banking. When handling cash, companies may experience discrepancies in the amount of physical cash and the value recorded in the books.

Companies can use accounting techniques or practices to account for the differences in cash. These practices can either provide a temporary solution or a permanent resolution to past cash discrepancies. Usually, companies record these amounts the cash over and short accounts.

## What is the Cash Over and Short Account?

Cash over and short refers to an account that records the differences in cash. This difference is between the expected amount in a cash register and the actual amount counted at the end of a shift or a day. If the latter is higher than the expected amount, it falls under cash over. However, if the actual cash amount is lesser, it is called cash short.

In practice, the cash over and short account can only have a debit or credit balance. In other words, the cash in the register can be higher or lower than the actual cash for classification in this account. It cannot be both at the same time. If a company has various cash drawer locations, the cash over and short account holds the net of these differences.

## What is the accounting and journal entry for Cash Over and Short Account?

The accounting for the cash over and short account is straightforward. It requires determining the difference between the value of monetary transactions recorded in the system with actual cash. As stated above, any discrepancy during this process goes into the cash over and short account. Two scenarios may occur.

If the physical cash amount is higher than what appears on the cash drawer records, it falls under cash over. In this case, the journal entry to record it is as follows.

 Dr Cash Cr Cash over and short account

If the cash recorded in the register is higher than the physical cash in hand, it falls under cash short. The journal entry for this accounting treatment is as follows.

 Dr Cash over and short account Cr Cash

In practice, this journal entry will also incorporate other aspects of the underlying transactions. For example, it will include receipts or expenses.

## Example

A company, Red Co., maintains a cash register to record its sales. This register includes all receipts from customers for over-the-counter sales. During closing the register, Red Co. counted its cash in the drawer, which amounted to \$520. However, the company only had sales of \$500 during the day. Based on this calculation, Red Co. had cash over \$20.

Before investigating the amount, Red Co. records the discrepancy as cash over in its accounts. The journal entry for it is as follows.

 Dr Cash \$520 Cr Cash over and short account \$20 Cr Sales \$500

## Conclusion

Cash over and short is an account to record cash discrepancies for companies dealing in cash transactions. It involves the difference between the value of cash transactions in the register versus the actual physical cash. However, it can cash over or short, but not both simultaneously. The accounting for these transactions is also straightforward, as discussed above.

### Hybrid Financing: Definition, Instruments, Examples, What It Is, Advantages

Financing is an essential component of any business’s operations. It helps to fund new investments, provide capital for expansion and support day-to-day operations.

Hybrid financing is an increasingly popular financial instrument that combines the characteristics of both debt and equity.

This makes hybrid financing an attractive option for businesses in need of capital but with limited access to other forms of finance.

## What is Hybrid Financing?

As the name suggests, hybrid financing is a financial instrument that combines features of both debt and equity.

Hybrid financing typically involves the combination of bond and stock offerings, or other forms of debt such as convertible bonds. It is also possible to combine traditional loans with features like warrants or options.

Unlike other forms of finance, hybrid instruments can be tailored to meet the specific needs of the business. This makes them an ideal option for businesses that have specific capital requirements but lack access to traditional funding options.

## How Hybrid Financing Works

At its core, hybrid financing is a debt instrument that has features of both debt and equity.

Debt instruments provide fixed payments over the life of the loan. Equity instruments, on the other hand, provide ownership in exchange for capital.

Hybrid financing combines these two elements by providing both a fixed payment structure as well as ownership in exchange for capital.

For example, a business might issue a hybrid instrument that pays out fixed payments over the life of the loan while also providing equity to the investor. In this case, the investor would have both debt and equity exposure to the business.

## Benefits of Hybrid Financing

Here are some of the key benefits of hybrid financing:

2. Flexibility: Unlike other forms of finance, hybrid instruments can be tailored to meet the specific needs of the business. This makes them an ideal option for businesses with specific capital requirements.
3. Sense of ownership: Hybrid financing also provides investors with a sense of ownership in the business. This is because they will have both debt and equity exposure to the business. This helps owners to have a stake in the business’s success.
4. Risk management: Hybrid financing can also help to reduce risk by diversifying exposure to different types of investments. By combining debt and equity, businesses can spread out their risk and manage it more effectively.
5. Increased cash flow: Hybrid financing can also provide businesses with additional cash flow. This is because the fixed payments of debt instruments have to be paid out regardless of the success or failure of the business.

## Conclusion

Overall, hybrid financing is an attractive option for businesses in need of capital but with limited access to other forms of finance. By understanding how hybrid financing works and leveraging its benefits, businesses can gain access to additional financing while also minimizing their risk and increasing cash flow.

## Thursday, March 9, 2023

### Activity-Based Depreciation Method: Definition, Formula, Calculation, Example

Depreciation is technique companies use to depreciate assets over their useful life. Usually, it consists of the straight-line method that divides the asset’s cost over that life. However, other depreciation methods also allow companies to comply with the accounting standards’ requirements. They are not as common as the straight-line method for depreciating assets.

One of the uncommon depreciation methods used by companies is activity-based depreciation. It follows a similar base to depreciating assets as activity-based costing in managerial accounting. In this case, though, the objective is different.

## What is the Activity-Based Depreciation Method?

Activity-Based Depreciation (ABD) is a method of calculating the depreciation of an asset based on its usage or activity. This method evaluates how much an asset is used in its life rather than just the passage of time. Unlike the straight-line method, it does not consider the asset’s useful life. Instead, it bases depreciation on the asset’s activity, which can be more accurate in some cases.

With activity-based depreciation, companies can depreciate assets more consistently. It also results in a more accurate depreciation for assets that wear down with more usage. However, it may require more work to determine an asset’s usage over time. The calculation for this method also differs from other methods. However, it is not as common as the others used in accounting.

## How is the Activity-Based Depreciation Method different from others?

Activity-based depreciation takes into account the usage or activity of an asset rather than just time or the passage of time. Given below are some of the differences between this method and the others.

### Straight-Line Depreciation

The straight-line depreciation method calculates depreciation as a fixed percentage of the asset's original cost over the asset's useful life. This method assumes that the asset depreciates evenly over time, regardless of the usage.

### Double-Declining Balance Depreciation

The double-declining balance depreciation method calculates depreciation as a fixed percentage of the remaining book value of the asset each year. This method assumes that the asset depreciates more heavily in the early years and less in later years.

### Sum-of-the-Years'-Digits Depreciation

The sum-of-the-years'-digits depreciation method calculates depreciation as a variable percentage of the asset's original cost over its useful life. It results in heavier weighting in the earlier years.

## How to calculate depreciation under the Activity-Based Depreciation Method?

Companies can use the formula for activity-based depreciation method to depreciate an asset. It may require some estimation initially. On top of that, it also entails determining the actual usage for that asset after every period. Nonetheless, the activity-based depreciation method formula is as below.

Depreciation cost = (Asset’s cost - Salvage value) / Estimated output for the asset x Units produced during the period

For example, Blue Co. purchases an asset with an estimated output over a lifetime of 100,000 units. Its cost minus salvage value is \$300,000. During this period, Blue Co. used the asset to produce 20,000 items. Under the activity-based depreciation method, the depreciation cost for that asset would be as follows.

Depreciation cost = (Asset’s cost - Salvage value) / Estimated output for the asset x Units produced during the period

Depreciation cost = \$300,000 / 100,000 x 20,000

Depreciation cost = \$60,000

## Conclusion

The activity-based depreciation method calculates an asset’s depreciation cost based on its activity or usage. It differs from other depreciation methods that result in linear or inconsistent depreciation. However, it may require a company to estimate the asset’s lifetime expected output. The activity-based depreciation method is not as common as the others mentioned above.

Article Source Here: Activity-Based Depreciation Method: Definition, Formula, Calculation, Example

## Wednesday, March 8, 2023

### Reliability Principle in Accounting: Definition, What It Is, Importance, Examples, Meaning

Accounting principles are guidelines and concepts that form the foundation of accounting practices and financial reporting. Regardless of the accounting standards used, accounting principles play a crucial role in the underlying fundamentals of financial reports. Primarily, accounting principles ensure consistency, accuracy, and transparency in financial statements.

One of the accounting principles focusing on the consistency of financial statements is the reliability principle. It forms the base of these reports. Before discussing its importance, it is crucial to understand what this principle is.

## What is the Reliability Principle in Accounting?

The reliability principle is a fundamental accounting principle that requires companies to report reliable and verifiable financial information. This principle entails companies using accounting information that is accurate, unbiased, and supported by evidence. Essentially, it enhances the trust and confidence that users can put in the financial statements and items reported in them.

Practically, the reliability principle means that companies must use reliable and objective methods for recording financial transactions. Similarly, they should be able to demonstrate that their records are accurate and complete. It can apply to various areas within accounting and financial reporting. For example, it may include using accounting standards, applying accounting policies consistently, and using supporting documentation.

## How does the Reliability Principle in Accounting work?

Companies use accounting principles and standards to report financial information. The more consistent they are in applying those elements, the better stakeholders can compare and understand financial reports. However, it is not a general rule but a principle in accounting falling under the name reliability. Other names for this principle include the objectivity or consistency principle.

The reliability principle in accounting works by requiring financial information to be reliable and verifiable. It means financial information should be accurate, unbiased, and supported by evidence, and companies must use accounting methods consistently. Overall, this principle is essential to maintaining the integrity of financial reporting and ensuring that stakeholders can trust the information provided in financial statements.

## Why is the Reliability Principle in Accounting important?

Financial statements are the primary source of information for a company’s stakeholders about its operations. However, they must be able to put an amount of trust in the information presented in these statements by the company. If this information is unreliable, stakeholders may make inaccurate or incomplete decisions. It can lead to negative consequences for the company and its stakeholders.

Similarly, the reliability principle helps companies avoid accounting errors, reduce the risk of fraud, and make better financial decisions based on more accurate financial information. It also helps companies comply with statutory and regulatory requirements better. The primary objective of this principle is to help the company and its stakeholders with the quality of financial information.

## Conclusion

Accounting principles are guidelines that help companies apply more consistent practices. One of these principles that focuses on consistency and accuracy is the reliability principle. As stated above, this principle focuses on presenting reliable and verifiable information. It plays a crucial role throughout the accounting and helps companies and their stakeholders.