Calling Accountants: Checks Written in Excess?

Mark Robertson on

Rip, Ira, Laurie, et al.

During our group study of Lifeway Foods (LWAY), Charles Bard
noted a balance sheet entry that I'm not familiar with and
wondered if you could shed any light.

Checks Written in Excess of Bank Balances = $342,976

Is that what it sounds like? (Overdraft conditions)

What is it? How should this be considered during the
analysis of any company?

Thanks!

Mark Robertson

Laurie Frederiksen on

It would mean that at the end of the accounting period, there

was a credit (negative) cash balance in a Cash Accounting ledger.

Perhaps they recorded check payments but had not yet recorded bank deposits in the same account.

It is a liability. It could be something that will be covered by a bank overdraft advance but it could also be covered by the cash and cash equivalents in the Assets section.

One effect of reporting things in this manner is that the value for cash and cash equivalents looks higher than it might and the amount shown for Accounts Payable looks lower than it might.

Rip is traveling with limited Internet access but he asked me to convey the message that he thinks this is an unusual entry and something that should be checked into further, perhaps by calling the company.

It’s also interesting to me that the Allowance for doubtful accounts decreased so much between 2008 and 2009, especially since Receivables increased. If this was optimistic, it might affect earnings in the future.

Laurie

Patricia S. Baillif on

Mark,

I would consider this a red flag. As you suggested, it is a
bank overdraft, but it could be on paper only. The Accounts
Payable department may have written the checks and recorded
them on the General Ledger, but not sent them out. If this
happened at year-end, it could have left the cash balance
negative on paper. Perhaps the actual deposit that covered
those checks wasn't recorded until after the end of the
fiscal year. Since auditors won't record a negative asset
(cash) the balance is recharacterized as a liability.
Although, most companies I've worked with normally show an
increase in the Accounts Payable balance rather than
describe it as "Checks in excess." One other possibility is
that the company uses a Zero Balance Account (ZBA), meaning
that it is funded from another account only by as much as
checks came in to clear the bank that day. In that case the
General Ledger balance for that account would always be
negative, unless every check had cleared. In my experience
the auditors net that against other cash on hand, though,
and don't show it as a liability.

One last possibility is that it might be related to their
acquisition of Fresh Made, and they inherited that company's
overdraft.

As to the Allowance For Doubtful Accounts, this is another
red flag. If you haven't already called the company, you
might ask them what is their policy for bad debt reserves?
The Financial Notes are a little vague. If it is
customer-specific and tied to a credit rating, they might
have a lot of receivables tied up in one or two customers
with good credit ratings. Or it might be one way the
company is massaging earnings to smooth out a bad spot in
the financials.

Anyway, things to think about.

Regards,

Patricia S. Baillif
Women's Investment Network (WIN)
Dallas

Mail