AC116 Accounting II

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AC116 Accounting IIAC116 Accounting II

Seminar 3Seminar 3

Jim Eads, CPA, MST, MSFJim Eads, CPA, MST, MSF

ReceivablesReceivables

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Receivables:

all money claims against other entities, including people, business firms, and other organizations.

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Account receivable:

Short term, interest free trade credit extended to buyers of a firms products or services.

Typically not evidenced by a formal loan agreement.

Normally expected to be collected with a relatively short period, such as 30 or 60 days.

Classified as a current asset.

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A note receivable:

A written agreement to pay:A written agreement to pay: a specific amount of money (face a specific amount of money (face

amount)amount) on demand or at a definite time on demand or at a definite time to an individual or a business to an individual or a business

((payeepayee), or to the bearer or holder of ), or to the bearer or holder of the note.the note.

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Methods of accounting for receivables that are expected to be uncollectible:

• The direct write off method

• The allowance method

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Direct write off method:

records bad debt expense only when an account is judged to be worthless.

Allowance method:

records bad debt expense by estimating uncollectible accounts at the end of the accounting period. Required by GAAP.

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Direct Write Off MethodDirect Write Off Method

On May 10, a $4,200 accounts receivable from D. L. Ross has been determined to be uncollectible.

May 10:

Bad Debt Expense 4,200

Accounts Receivable—D. L. Ross 4,200

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Direct Write Off MethodDirect Write Off Method

The amount written off is later collected on November 21.

November 21:

Accounts Receivable 4,200

Bad Debt Expense 4,200

Cash 4,200

Accounts Receivable 4,200

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Allowance MethodAllowance Method

On December 31, ExTone Company estimates that a total of $40,000 of the $1,000,000 balance in her company’s Accounts Receivable will eventually be uncollectible.

December 31:

Bad Debt Expense $40,000

Allowance for Doubtful Accounts $40,000

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The net amount that is expected to be collected, $960,000 ($1,000,000 – $40,000), is called the net realizable value (NRV).

The adjusting entry reduces receivables to the NRV and matches uncollectible expenses with revenues.

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On January 21, John Parker’s account totaling $6,000 is written off because it is uncollectible.

January 21:January 21:

Allowance for Doubtful Accounts6,000

Accounts Receivable—John Parker6,000

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On April 4, John Parker pays the past due $6,000.

April 4:April 4:

Accounts Receivable – John Parker 6,000

Allowance for Doubtful Accounts 6,000

Cash 6,000

Accounts Receivable – John Parker 6,000

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Allowance MethodsAllowance Methods

Methods of estimating uncollectible Methods of estimating uncollectible amounts:amounts:

1.1. Percentage of salesPercentage of sales

2.2. Analysis of receivablesAnalysis of receivables(AKA “Aging of receivables”)(AKA “Aging of receivables”)

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Percentage of Sales MethodPercentage of Sales Method

Based on past dealings, the company has Based on past dealings, the company has a pretty good idea of the percentage of a pretty good idea of the percentage of sales that will not be collected. sales that will not be collected.

If credit sales for the period are $3,000,000 and it is estimated that 1½ % will be uncollectible, the Bad Debt Expense is debited for $45,000 ($3,000,000 x .015).

Bad Debt ExpenseBad Debt Expense $45,000$45,000Allowance for Bad DebtAllowance for Bad Debt $45,000$45,000

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Example Exercise 9-3 Example Exercise 9-3 (page 405)(page 405)

At the end of the current year, Accounts Receivable has a balance of $800,000; Allowance for Doubtful Accounts has a credit balance of $7,500; and net sales for the year total $3,500,000. Bad debt expense is estimated at ½ of 1% of net sales.

Determine (a) the amount of the adjusting entry for uncollectible accounts; (b) the adjusted balances of Accounts Receivable, Allowance for Doubtful Accounts, and Bad Debt Expense; and (c) the net realizable value of accounts receivable.

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(a)(a) $17,500 ($3,500,000 x .005)

Adjusted Balance

(b) Accounts Receivable $800,000Allowance for Doubtful Accounts ($7,500 + $17,500) 25,000Bad Debt Expense 17,500

(c) $775,000 ($800,000 – $25,000)

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Analysis of ReceivablesAnalysis of Receivables

The longer an account receivable is The longer an account receivable is outstanding, the less likely that it will outstanding, the less likely that it will be collected. be collected.

Basing the estimate of uncollectible Basing the estimate of uncollectible accounts on how long specific amounts accounts on how long specific amounts have been outstanding is called have been outstanding is called aging aging the receivablesthe receivables..

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If it is estimated that $3,390 of the If it is estimated that $3,390 of the receivables will be uncollectible and receivables will be uncollectible and the the Allowance forAllowance for UncollectibleUncollectible AccountsAccounts currently has a credit currently has a credit balance of $510, thebalance of $510, the Bad DebtBad Debt ExpenseExpense must be debited for $2,880 must be debited for $2,880 ($3,390 ($3,390 –– $510). $510).

Bad Debt ExpenseBad Debt Expense $2,880$2,880Allowance for Bad DebtAllowance for Bad Debt $2,880$2,880

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At the end of the current year, Accounts Receivable has a balance of $800,000; Allowance for Doubtful Accounts has a credit balance of $7,500; and net sales for the year total $3,500,000. Using the aging method, the balance of Allowance for Doubtful Accounts is estimated as $30,000.

Determine (a) the amount of the adjusting entry for uncollectible accounts; (b) the adjusted balances of Accounts Receivable, Allowance for Doubtful Accounts, and Bad Debt Expense, and (c) the net realizable value of accounts receivable.

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(a) $22,500 ($30,000 - $7,500)

Adjusted Balance

(b) Accounts Receivable $800,000Allowance for Doubtful Accounts 30,000Bad Debt Expense 22,500

(c) $770,000 ($800,000 – $30,000)

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Note Interest RatesNote Interest Rates

Interest rates are stated as an Interest rates are stated as an annual rate. annual rate.

$10,000 12% note due in 90 days.$10,000 12% note due in 90 days.

$10,000 x 12% x 90/360 = $300 $10,000 x 12% x 90/360 = $300 interest.interest.

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Accounts Receivable TurnoverAccounts Receivable Turnover

The accounts receivable turnover measures how frequently during the year the accounts receivable are being converted to cash.

Net credit sales / Average Accounts Receivable

Note: Use net sales if net credit sales is not available.

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Questions?Questions?

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One last thought….One last thought….

Make sure you read through Make sure you read through Chapter 10 Chapter 10 beforebefore next week’s next week’s seminar.seminar.

Documents

AC116 Accounting II