Receivables

Chapter 8 Receivables Accounting, 21st Edition Warren Reeve Fess

PowerPoint Presentation by Douglas Cloud Professor Emeritus of Accounting Pepperdine University

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Objectives Objectives 1. List the common classifications of receivables. 2. Summarize and provide examples of internal control After studying this After studying this procedures that apply to receivables. chapter, you should chapter, you should 3. Describe the nature of and the accounting for uncollectible receivables. be be able able to: to: 4. Journalize the entries for the allowance method of accounting for uncollectibles, and estimate uncollectible receivables based on sales and on an analysis of receivables.

Objectives Objectives 5. Journalize the entries for the direct write-off of uncollectible receivables. 6. Describe the nature and characteristics of promissory notes. 7. Journalize the entries for notes receivable transactions. 8. Prepare the Current Assets presentation of receivables on the balance sheet. 9. Compute and interpret the accounts receivable turnover and the number of days’ sales in receivables.

Classification of Receivables  Accounts Receivable—used for selling merchandise or services on credit, and normally expected to be collected in a relatively short period.  Notes Receivable—used to grant credit on the basis of a formal instrument of credit, called a promissory note.  Other Receivables—include interest receivable, taxes receivable, and receivables from officers and employees.

Separating Separating the the Receivable Receivable Functions Functions

Credit Approval

Credit Info.

Collections Goods or services

Sales

Acctg. Info.

Invoice

Accounting

Acctg. Info

Uncollectible Uncollectible Receivables Receivables Companies Companies often often sell sell their their receivables receivables to to other other companies. companies. This This transaction transaction isis called called factoring factoring the the receivables, receivables, and and the the buyer buyer of of the the receivables receivables isis called called aa factor. factor.

Uncollectible Uncollectible Receivables Receivables The The Allowance Allowance Method Method  This method is consistent with the matching principle.  Management makes an estimate each year of the

portion of accounts receivable that may not be collectible.  Uncollectible Accounts Expense is debited and Allowance for Doubtful Accounts is credited.  Actual accounts that prove to be uncollectible are debited to Allowance for Doubtful Accounts and credited to Accounts Receivable.

The The Allowance Allowance Method Method On On December December 31, 31, Cynthia Cynthia Richards Richards estimates estimates that that aa total total of of $4,000 $4,000 of of the the $105,000 $105,000 balance balance in in her her company’s company’s Accounts Accounts Receivable Receivable will will eventually eventually be be uncollectible. uncollectible. Adjusting Entry Dec. 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts

4 000 00 4 000 00

The The Allowance Allowance Method Method The The net net amount amount that that isis expected expected to to be be collected, collected, $101,000 $101,000 ($105,000 ($105,000 –– $4,000), $4,000), isis called called the the net net realizable realizable value value (NRV). (NRV). The The adjusting adjusting entry entry reduces reduces receivables receivables to to the the NRV NRV and and matches matches uncollectible uncollectible expenses expenses with with revenues. revenues.

The The Allowance Allowance Method Method The The adjusting adjusting entry entry fills fills the the bucket. bucket.

Adjusting Entry

Allowance for Doubtful Accounts

The The Allowance Allowance Method Method

e nc wa L lo r Al fo TFU s t UB un DO co ac

Writing Writing off off accounts accounts empties empties the the bucket. bucket.

The The Allowance Allowance Method Method Jan. 21 Allowance for Doubtful Accounts Accounts Receivable—John Parker To write off the uncollectible account.

On On January January 21, 21, John John Parker’s Parker’s account account totaling totaling $610 $610 isis considered considered to to be be uncollectible. uncollectible.

610 00 610 00

The The Allowance Allowance Method Method Jun. 10 Accounts Receivable—John Parker Allowance for Doubtful Accounts To reinstate the account written off on Jan. 21.

An made to On June 10, the An entry is made to reinstate reinstate Onentry Juneis 10, the written-off written-off John Parker’s account. account isis collected. John Parker’s account. account collected.

610 00 610 00

The The Allowance Allowance Method Method Jun. 10 Cash

610 00

Accounts Receivable—John Parker To record collection on account.

A A second second entry entry isis made made to to record record receipt receipt of of the the cash. cash.

610 00

The The Allowance Allowance Method Method Estimating Estimating Uncollectible Uncollectible Accounts Accounts Expense Expense The allowance method uses two ways to estimate the amount debited to Uncollectible Accounts Expense. 1. Estimate based on a percentage of sales. If credit sales for the period are $300,000 and it is estimated that 1% will be uncollectible, the Uncollectible Accounts Expense is $3,000.

The The Allowance Allowance Method Method Adjusting Entry Dec. 31 Uncollectible Accounts Expense

3 000 00

Allowance for Doubtful Accounts

Based Based on on aa Percentage Percentage of of Sales Sales

3 000 00

The The Allowance Allowance Method Method Estimating Estimating Uncollectible Uncollectible Accounts Accounts Expense Expense The allowance method uses two ways to estimate the amount debited to Uncollectible Accounts Expense. 2. Estimate based on analysis of receivables. If it is estimated that $3,390 of the receivables will be uncollectible and the Allowance for Uncollectible Accounts currently has a balance of $510, the Uncollectible Accounts Expense must be debited for $2,880 ($3,390 – $510).

The The Allowance Allowance Method Method Adjusting Entry Dec. 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts

2 880 00 2 880 00

Based Based on on an an Analysis Analysis of of Receivables Receivables

Accounts Receivable Aging and Uncollectibles

Customer

Balance

Ashby & Co. B. T. Barr Brock Co.

$ 150 610 470

Saxon Woods

160

Total

$86,300

Not Past Due

Days Past Due 1-30

31-60

61-90 91-180 181-365

over 365

$ 150 $ 350

$260

$ 470 160 $75,000 $4,000

$3,100 $1,900 $1,200

Total Total accounts accounts receivable receivable shown shown by by age. age.

$800

$300

Accounts Receivable Aging and Uncollectibles

Customer

Balance

Ashby & Co. B. T. Barr Brock Co.

$ 150 610 470

Saxon Woods

160

Total

$86,300

Not Past Due

Days Past Due 1-30

31-60

61-90 91-180 181-365

over 365

$ 150 $ 350

$260

$ 470 160 $75,000 $4,000

$3,100 $1,900 $1,200

$800

$300

10%

50%

80%

Uncollectibles PERCENT

2%

5%

20%

30%

Uncollectible percentages based on experience and industry averages.

Accounts Receivable Aging and Uncollectibles

Customer

Balance

Ashby & Co. B. T. Barr Brock Co.

$ 150 610 470

Saxon Woods

160

Total

$86,300

Not Past Due

Days Past Due 1-30

31-60

61-90 91-180 181-365

over 365

$ 150 $ 350

$260

$ 470 160 $75,000 $4,000

$3,100 $1,900 $1,200

$800

$300

5%

10%

50%

80%

$200

$310

Uncollectibles PERCENT

2%

AMOUNT $3,390 = $1,500

20% $380

30% $360

$400

$240

Year-End Year-End Adjustment Adjustment for for Uncollectibles Uncollectibles General Ledger Accounts Receivable A 86,300 Allowance for Doubtful Accts. 510 A 2,880 B 3,390 C Uncollectible Accts. Expense B

2,880

Balance Sheet Accounts receivable Less allowance for doubtful accounts

$86,300

Net realizable value

$82,910

A

3,390 C

Balances before adjustment

B Year-end adjustment: $3,390 – $510 = $2,880 C

Balance after adjustment

Accounting for Uncollectible Accounts Receivable The Direct Write-Off Method  This method is not consistent with the matching principle.  Accounts that prove to be uncollectible are written off in the year they become worthless.  Uncollectible Accounts Expense is debited and Accounts Receivable is credited for each such transaction.

The The Direct Direct Write-Off Write-Off Method Method May 10 Uncollectible Accounts Expense

420 00

Accounts Receivable—D. L. Ross To write off an uncollectible account.

On On May May 10, 10, D. D. L. L. Ross’ Ross’ account account was was determined determined to to be be uncollectible. uncollectible. The The $420 $420 balance balance isis written written off off the the books. books.

420 00

The The Direct Direct Write-Off Write-Off Method Method Nov. 1 Accounts Receivable—D. L. Ross

420 00

Uncollectible Accounts Expense To reinstate account written off on May 10.

1st Entry In In November, November, D. D. L. L. Ross Ross remits remits aa check check for for $420 $420 in in payment payment of of his his account. account.

420 00

The The Direct Direct Write-Off Write-Off Method Method Nov. 1 Cash

420 00

Accounts Receivable—D. L. Ross To record collection on account.

2nd Entry A A second second entry entry isis needed needed to to record record receipt receipt of of the the cash. cash.

420 00

Notes Notes Receivable Receivable 2,500.00 $_____________

Payee Payee Fresno, California______________20___ March 16 06

Ninety days ________________ _AFTER DATE _______ PROMISE TO PAY TO We THE ORDER OF ____________________________________________ Judson Company Two thousand five hundred _________________________________________________DOLLARS 00/100--------------------------PAYABLE AT City National Bank ______________________________________________ Maker Maker VALUE RECEIVED WITH INTEREST AT 10% ____ NO. _______ 14 DUE___________________ June 14, 2006

H. B. Lane TREASURER, WILLIARD COMPANY

Notes Notes Receivable Receivable A promissory note is a written document containing a promise to pay:   aa specific specific amount amount of of money money (principal) (principal)   to to aa specific specific person person or or company company (payee) (payee)   at at aa specific specific place place   on on aa specific specific date date or or upon upon demand demand   plus plus interest interest at at aa specific specific percentage percentage of of the the principal principal (face) (face) amount amount per per year year

Notes Notes Receivable Receivable Let’s determine The date aa note be Let’s determine the The date note isis to tothe be paid paid isis called the due ItIt isis also due date 90-day called thefor dueaadate. date. also due date for 90-day referred to as the maturity date. referred to as the maturity note dated March 16. note dated March 16. date.

Notes Notes Receivable Receivable Total days in note Number of days in March Issue date of note Remaining days in March Number of days in April Number of days in May Residual days in June

90 days 31 March 16 –15 days 75 days –30 days 45 days –31 days 14 days

Answer: June 14

Notes Notes Receivable Receivable The The amount amount that that isis due due at at the the maturity maturity or or due due date date isis called called the the maturity maturity value. value.

Notes Notes Receivable Receivable Received Received aa $6,000, $6,000, 12%, 12%, 30-day 30-day note note dated dated November November 21, 21, 2006 2006 in in settlement settlement of of the the account account of of W. W. A A Bunn Bunn Co. Co.

Notes Notes Receivable Receivable Interest Calculation Principal x Rate x Time = Interest $6,000 x 12% x 30/360 = $60.00 Maturity Value Calculation Principal + Interest = Maturity Value $6,000 + $60.00 = $6,060.00

Accounting Accounting for for Notes Notes Receivable Receivable Nov. 21 Notes Receivable Sales

6 000 00 6 000 00

Received 30-day, 12% note dated November 21, 2006.

A A $6,000 $6,000 30-day, 30-day, 12% 12% note note dated dated November November 21 21 isis received received from from W. W. A A Bunn Bunn Company Company in in exchange exchange for for merchandise. merchandise.

Accounting Accounting for for Notes Notes Receivable Receivable Dec. 21 Cash

6 060 00

Notes Receivable

6 000 00

Interest Revenue Received principal and interest on matured note.

On On December December 21, 21, when when the the note note matures, matures, the the firm firm receives receives $6060 $6060 from from W. W. A. A. Bunn Bunn Company Company ($6,000 ($6,000 plus plus $60 $60 interest). interest).

60 00

Accounting Accounting for for Notes Notes Receivable Receivable Dec. 21 Accounts Receivable—Bunn Co. Notes Receivable Interest Revenue To record dishonored note and

6 060 00 6 000 00 60 00

interest.

IfIf W. W. A. A. Bunn Bunn Company Company fails fails to to pay pay the the note note on on the the due due date, date, itit isis considered considered aa dishonored dishonored note note receivable receivable.. The The note note and and interest interest are are transferred transferred to to the the customer’s customer’s account. account.

Accounting Accounting for for Notes Notes Receivable Receivable Dec. 1 Notes Receivable Accounts Receivable—Crawford Company Received note in settlement of

4 000 00 4 000 00

account.

A A 90-day, 90-day, 12% 12% note note dated dated December December 1, 1, 2006, 2006, isis received received from from Crawford Crawford Company Company to to settle settle its its account, account, which which has has aa balance balance of of $4,000. $4,000.

Accounting Accounting for for Notes Notes Receivable Receivable Dec. 31 Interest Receivable

40 00

Interest Revenue Adjusting entry for accrued interest.

Assuming Assuming that that the the accounting accounting period period ends ends on on December December 31, 31, an an adjusting adjusting entry entry isis required required to to record record the the accrued accrued interest interest of of $40 $40 ($4,000 ($4,000 xx 0.12 0.12 xx 30/360). 30/360).

40 00

Accounting Accounting for for Notes Notes Receivable Receivable Mar. 1 Cash

4 120 00

Notes Receivable Interest Receivable Interest Revenue Received payment on note and interest.

4 000 00

$4,000 $4,000 xx 0.12 0.12 xx 60/360 60/360

On On March March 1, 1, 2004, 2004, $4,120 $4,120 isis received received for for the the note note ($4,000) ($4,000) and and interest interest ($120). ($120).

40 00 80 00

Receivables on the Balance Sheet

Crabtree Co. Balance Sheet December 31, 2006 Assets Current assets: Cash Notes receivable Accounts receivable Less allowance for doubtful accounts Interest receivable Merchandise inventory

$119,500 250,000 $445,000 15,000430,000 14,500 714,000

Highlighted items are receivables

Financial Analysis and Interpretation Accounts Receivable Turnover Net sales Average accounts receivable

Accounts Accounts Receivable Receivable Turnover Turnover Net sales on account Accounts receivable (net): Beginning of year End of year Total Average Accounts receivable turnover

2006 2005 $36,000,000 $32,500,000 $ 1,080,000 1,220,000 $2,300,000 $1,150,000 31.3 times

$1,050,000 1,080,000 $2,130,000 $1,115,000 29.1 times

Use: Use: To To assess assess the the efficiency efficiency in in collecting collecting receivables receivables $36,000,000 $32,500,000 and and in in the the management management $1,150,000 $1,115,000 of of credit. credit.

Number Number of of Days’ Days’ Sales Sales in in Receivables Receivables Accounts receivable, end of year Average daily sales Accounts receivable, $1,220,000end of year =12.4 days Average daily sales on account ($36,000,000 ÷ 365 days)

Use: Use: To To assess assess the the efficiency efficiency in in collecting collecting receivables receivables and and in in the the management management of of credit. credit.

Chapter 8 The The End End