CHAPTER 8 OUTLINE
LEARNING OBJECTIVES
8-1
1
Explain how companies recognize accounts
receivable.
2
Describe how companies value accounts receivable
and record their disposition.
3
Explain how companies recognize, value, and dispose
of notes receivable.
4
Describe the statement presentation of receivables and
the principles of receivables management.
Explain how companies recognize receivables.
Receivables are amounts due from individuals and
companies that are expected to be collected in cash.
Amounts customers
owe on account that
result from the sale of
goods and services.
Written promise
(formal instrument)
for amount to be
received.
Accounts
Receivable
Notes
Receivable
8-2
Nontrade receivables
such as interest,
loans to officers,
advances to
employees, and
income taxes
refundable.
Other
Receivables
ACCOUNTS RECEIVABLE
Two accounting issues:
1. Recognizing accounts receivable.
2. Valuing accounts receivable.
RECOGNIZING ACCOUNTS RECEIVABLE
8-3

Service organizations record a receivable when it
performs service on account.

Merchandisers record accounts receivable at the
point of sale of merchandise sold on account.
Describe how companies value accounts receivable and
record their disposition.
VALUING ACCOUNTS RECEIVABLE
Accounts Receivable is

A current asset.

Valued at: net realizable value (also called cash
realizable value).
NRV = Total Receivables – Allowance for Doubtful Accounts
net means subtract something
Uncollectible Accounts Receivable

Sales on account raise the possibility of accounts not
being collected.

Seller records losses that result from extending credit
as Bad Debt Expense.
8-4
VALUING ACCOUNTS RECEIVABLE
Methods of Accounting for Uncollectible Accounts
Direct Write-Off
Theoretically undesirable:
Allowance Method
Losses are estimated:

No matching revenues and
expenses.

Better matching of
revenues and expenses.

Receivable not stated at
net realizable value.

Receivable stated at net
realizable value.

Not acceptable for financial
reporting under GAAP.

Required by GAAP.
8-5
Allowance Method for Uncollectible Accounts
1.Is all of A/R collectible? If not, then…
2.Estimate uncollectible accounts receivable.*
3.Standard JE to record Bad Debt Expense:
Dr. Bad Debt Expense
Cr. Allowance for Doubtful Accounts
*Sometimes you will have to calculate the
estimate, sometimes the estimate will be
given to you. Either way, THE ESTIMATE
IS ALWAYS THE ENDING BALANCE IN
THE ALLOWANCE FOR DOUBTFUL
ACCOUNTS.
4.Standard JE to record the write-off of a specific uncollectible account:
Dr. Allowance for Doubtful Accounts
Cr. Accounts Receivable
What type of account is Allowance for Doubtful Accounts (AFDA)?
CONTRA-ASSET (listed with A/R on the B/S as a subtraction.
AFDA has a normal credit balance)
8-6
ACCOUNTS RECEIVABLE
Note: Allowance for Doubtful Accounts is also called
-Allowance for Uncollectible Accounts
-Allowance for Bad Debts
8-7
Note: AR – AFDA = Net AR
Net AR = 475
Recording Bad Debt Expense &
Write-off of Uncollectible Accounts
Assume Hampson Furniture has credit sales of $1,200,000
in 2015, of which $200,000 remains in Accounts
Receivable at December 31. The credit manager estimates
that $12,000 of this AR balance will prove uncollectible.
Assuming a zero beg. bal. in AFDA, the adjusting entry to
record the estimated uncollectible amount is:
Dr. Bad Debt Expense
12,000
Cr. Allowance for Doubtful Accounts 12,000
Assume that on March 1, 2016 the vice-president of
finance of Hampson Furniture authorizes a write-off of a
$500 balance owed by R. A. Ware. The entry to record the
write-off is:
Dr. Allowance for Doubtful Accounts 500
Cr. Accounts Receivable
500
8-8
AFDA- 2015
0
12,000
12,000
Bad Debt Exp - 2015
12,000
AR- 2016
200,000
500
199,500
AFDA - 2016
12,000
500
11,500
Recording Bad Debt Expense &
Write-off of Uncollectible Accounts
Assume Hampson Furniture has credit sales of $1,200,000
in 2015, of which $200,000 remains in Accounts
Receivable at December 31. The credit manager estimates
that $12,000 of this AR balance will prove uncollectible.
Assuming a zero beg. bal. in AFDA, the adjusting entry to
record the estimated uncollectible amount is:
Dr. Bad Debt Expense
12,000
Cr. Allowance for Doubtful Accounts 12,000
Assume that on March 1, 2016 the vice-president of
finance of Hampson Furniture authorizes a write-off of a
$500 balance owed by R. A. Ware. The entry to record the
write-off is:
Dr. Allowance for Doubtful Accounts 500
Cr. Accounts Receivable
500
8-9
AFDA- 2015
0
12,000
12,000
Bad Debt Exp - 2015
12,000
AR- 2016
200,000
500
199,500
AFDA - 2016
12,000
500
11,500
Collection of Previously Written-off Accounts
Before Write-off After Write-off
Accounts receivable
200,000
199,500
Allowance for doubtful
12,000
11,500
accounts
Net Cash realizable value 188,000
188,000
of AR
NRV is always the same
before and after write-off
If R.A. Ware were to subsequently pay the account already written off by
Hampson, then two journal entries are required
AFDA
Put $500 back in
1. Reverse write-off
AFDA & AR
Dr. Accounts Receivable
500
Cr. Allowance for Doubtful Accounts 500
2. Record collection of AR
Dr. Cash
500
Cr. Accounts Receivable
8-10
What is NRV after
A/R is collected?
$187,500
11,500
500
12,000
AR
500
NRV changes as Accounts
Receivable are collected
199,500
500
199,500
500
Methods for Estimating the Allowance
1. A percentage of accounts receivable balance
2. Using an aging of accounts receivable schedule.
8-11
ESTIMATING THE ALLOWANCE
Aging of Accounts Receivable
8-12
▼ HELPFUL HINT
The percentage-ofreceivables basis
may use only a
single percentage
rate.
Percentage of Receivables Example
Example: Ending AR of $250,000 and a 2% uncollectible estimate.
Calculate $ estimate of Ending AFDA balance = Ending AR * % uncollectible
$5,000 = $250,000 * .02
1. Journal Entry for above, assuming $0 beg. balance in AFDA
AFDA
Dr. Bad Debt Expense
5,000
0
Cr. Allowance for Doubtful Accounts 5,000
5,000
The debit is always
to Bad Debt Expense
5,000
2. Journal Entry for above, assuming $1,500 beg. credit balance in AFDA
Dr. Bad Debt Expense
3,500
Cr. Allowance for Doubtful Accounts 3,500
AFDA
8-13
1,500
3,500
5,000
Bad Debt Expense and Write-offs
Ending AR = $400,000
Management estimates 5% uncollectible
AFDA had a credit balance of $2,000 at the beginning of the year
During the year, there was a write off of $1,200
Calculate estimate of Ending AFDA balance = Ending AR * % uncollectible
$20,000 = $400,000 * .05
Dr. Allowance for Doubtful Accounts
1,200
Cr. Accounts Receivable
Dr. Bad Debt Expense
19,200
Cr. Allowance for Doubtful Accounts
8-14
AFDA
1,200
19,200
1,200
2,000
19,200
20,000
Bad Debt Expense and Write-offs
Ending A/R = $400,000
Management estimates 5% uncollectible
AFDA had a credit balance of $2,000 at the beginning of the year
During the year, there was a write off of $3,000
Calculate estimate of Ending AFDA balance = Ending AR * % uncollectible
$20,000 = $400,000 * .05
Dr. Allowance for Doubtful Accounts
Cr. Accounts Receivable
3,000
3,000
Dr. Bad Debt Expense
21,000
Cr. Allowance for Doubtful Accounts
8-15
21,000
AFDA
3,000
2,000
21,000
20,000
Bad Debt Expense and Write-offs
Brule Co. has been in business for five years. The
unadjusted trial balance at the end of the current year
shows:
Accounts Receivable
Sales Revenue
Allowance for Doubtful Accounts
$30,000 Dr.
$180,000 Cr.
$2,000 Dr.
Bad debts are estimated to be 10% of receivables.
Prepare the entry to adjust Allowance for Doubtful
Accounts.
Ending Balance AFDA: $3,000 = (10% x $30,000)
Bad Debt Expense
Allowance for Doubtful Accounts
8-16
*($3,000 + $2,000)
5,000
5,000*
What does
a debit
balance in
AFDA
mean?
Actual
write-offs
in previous
period
exceeded
estimated
bad debt
expense
AFDA
2,000
5,000 *
3,000
Print for Class - More practice
At the beginning of the current period, Griffey Corp. had balances in Accounts Receivable of $200,000 and in
Allowance for Doubtful Accounts of $9,000 (credit). During the period, it had net credit sales of $800,000 and
collections of $763,000. It wrote off as uncollectible accounts receivable of $7,300. However, a $3,100
account previously written off as uncollectible was recovered before the end of the current period.
Uncollectible accounts are estimated to total $25,000 at the end of the period. (Omit cost of goods sold
entries.)
1.
2.
3.
4.
5.
6.
Prepare the entries to record sales and collections during the period.
Prepare the entry to record the write-off of uncollectible accounts during the period.
Prepare the entries to record the recovery of the uncollectible account during the period.
Prepare the entry to record bad debt expense for the period.
Determine the ending balances in Accounts Receivable and Allowance for Doubtful Accounts.
What is the net realizable value of the receivables at the end of the period?
1. Prepare entries to record sales and collections during the period
Dr. Accounts Receivable
Cr. Sales Revenue
Dr. Cash
763,000
Cr. Accounts Receivable
8-17
800,000
800,000
763,000
AR
200,000 763,000
800,000
AFDA
9,000
Print for Class - More practice
At the beginning of the current period, Griffey Corp. had balances in Accounts Receivable of $200,000 and in
Allowance for Doubtful Accounts of $9,000 (credit). During the period, it had net credit sales of $800,000 and
collections of $763,000. It wrote off as uncollectible accounts receivable of $7,300. However, a $3,100
account previously written off as uncollectible was recovered before the end of the current period.
Uncollectible accounts are estimated to total $25,000 at the end of the period. (Omit cost of goods sold
entries.)
1.
2.
3.
4.
5.
6.
Prepare the entries to record sales and collections during the period.
Prepare the entry to record the write-off of uncollectible accounts during the period.
Prepare the entries to record the recovery of the uncollectible account during the period.
Prepare the entry to record bad debt expense for the period.
Determine the ending balances in Accounts Receivable and Allowance for Doubtful Accounts.
What is the net realizable value of the receivables at the end of the period?
2. Prepare entry to record write-off of uncollectible accounts.
Dr. Allowance for Doubtful Accounts
Cr. Accounts Receivable
7,300
7,300
3. Prepare entries to record recovery of uncollectible accounts.
Dr. Accounts Receivable
3,100
Cr. Allowance for Doubtful Accounts
3,100
Dr. Cash
Cr. Accounts Receivable
8-18
3,100
3,100
AR
200,000 763,000
800,000 7,300
3,100 3,100
229,700
AFDA
7,300 9,000
3,100
Print for Class - More practice
At the beginning of the current period, Griffey Corp. had balances in Accounts Receivable of $200,000 and in
Allowance for Doubtful Accounts of $9,000 (credit). During the period, it had net credit sales of $800,000 and
collections of $763,000. It wrote off as uncollectible accounts receivable of $7,300. However, a $3,100
account previously written off as uncollectible was recovered before the end of the current period.
Uncollectible accounts are estimated to total $25,000 at the end of the period. (Omit cost of goods sold
entries.)
1.
2.
3.
4.
5.
6.
Prepare the entries to record sales and collections during the period.
Prepare the entry to record the write-off of uncollectible accounts during the period.
Prepare the entries to record the recovery of the uncollectible account during the period.
Prepare the entry to record bad debt expense for the period.
Determine the ending balances in Accounts Receivable and Allowance for Doubtful Accounts.
What is the net realizable value of the receivables at the end of the period?
AR
4. Prepare entry to record bad debt expense.
Dr. Bad Debt Expense 20,200
Cr. Allowance for Doubtful Accounts
200,000 763,000
800,000 7,300
3,100 3,100
229,700
20,200
The debit is always to
Bad Debt Expense
5. Ending Balance AR = 229,700; Ending Balance AFDA = 25,000
6. NRV = Ending AR - Ending Balance AFDA = $204,700
8-19
AFDA
7,300 9,000
3,100
20,200*
25,000
*25,000+7,300-9,000-3,100=20,200
Explain how companies recognize, value, and
dispose of notes receivable.
A promissory note is a written promise to pay a specified
amount of money on demand or at a definite time.
Promissory notes may be used
1. when individuals and companies lend or borrow money,
2. when amount of transaction and credit period exceed
normal limits, or
3. in settlement of accounts receivable.
8-20
NOTES RECEIVABLE
To the payee, the promissory note is a note receivable.
To the maker, the promissory note is a note payable.
8-21
ILLUSTRATION 8-12
Promissory note
DETERMINING THE MATURITY DATE
Maturity date of a promissory note may be stated in one
of three ways:
1. On demand.
2. On a stated date.
3. At the end of a stated period of time.
Note terms are expressed in:
8-22

Months

Days
COMPUTING INTEREST
When counting months, only count FULL months.
Examples:
June 1 – Dec. 31: 7 monthsJune 30 – Oct. 1: 3 months
June 30 – Dec. 31: 6 months June 1 – Oct. 1: 4 months
8-23
RECOGNIZING NOTES RECEIVABLE
Illustration: Brent Company wrote a $1,000, two-month, 8%
promissory note dated May 1, to settle an open account.
Prepare the entry to record the Note Receivable (NR).
May 1
Dr. Notes Receivable
Cr. Accounts Receivable 1,000
1,000
• Notes Receivable is initially recorded at its Face
Value
• Interest Revenue is earned (accrued) as time passes
8-24
VALUING NOTES RECEIVABLE

Report short-term notes receivable at their cash (net)
realizable value.

NR allowance account is Allowance for Doubtful Accounts.
DISPOSING OF NOTES RECEIVABLE
8-25

Held to maturity date (Note is honored)

Maker may default (Note is dishonored)

Holder sells.
Honor of Notes Receivable
Illustration: Holder Co. lends Higley Inc. $10,000 on June 1,
accepting a five-month, 9% interest note. Holder presents the note
to Higley Inc. on November 1, the maturity date. Holder’s June 1 &
Nov. 1 entries are:
Record the Note Receivable
June 1
Dr. Notes Receivable
Cr. Cash
10,000
10,000
Record pay off of Note Receivable & Interest earned
Nov. 1
Dr. Cash
10,375
Cr. Notes Receivable
Cr. Interest Revenue
10,000
375
($10,000 x 9% x 5/12 = $375)
8-26
Accrual of Interest Receivable
Illustration: Suppose instead that Holder Co. prepares financial
statements as of September 30. The adjusting entry by Holder is for
four months ending Sept. 30.
Accrual-type adjusting entries always involve a revenue account or an expense account
Illustration 8-15
Timeline of
interest earned
Sept. 30
Dr. Interest Receivable
Cr. Interest Revenue
($10,000 x 9% x 4/12 = $ 300)
8-27
300
300
Accrual of Interest Receivable
Illustration: Prepare the entry Holder would make to record
the honoring of the Higley note on November 1.
Reminder of entries from previous slides:
June 1
Dr. Notes receivable
Cr. Cash
10,000
Sept. 30
Dr. Interest receivable
Cr. Interest revenue
10,000
300
Nov. 1 Dr. Cash 10,375
Cr. Notes Receivable
10,000
Cr. Interest Receivable
Cr. Interest Revenue ($10,000 × 9% × 1/12)
8-28
300
300
75
Notes Receivable & Interest – Print for Class
These transactions took place for Glavine Co.
• May 1, 2016: Received a $5,000, 12-month, 6% note in exchange for an
outstanding account receivable from Rooney.
• Dec. 31, 2016: Accrued interest revenue on the Rooney note.
• May 1, 2017: Received principal plus interest on the Rooney note. (No interest
has been accrued since Dec. 31, 2016).
Record the transactions in the general journal. Glavine only makes entries to accrue
interest at Dec. 31.
5,000
May 1, 2016 Notes Receivable
Accounts Receivable
5,000
Dec. 31, 2016 Interest Receivable
Interest Revenue
200
200
($5,000 x 6% x 8/12 = $ 200)
May 1, 2017
8-29
Cash
5,300
Notes Receivable
Interest Receivable
Interest Revenue ($5,000 × 6% × 4/12)
5,000
200
100
Describe the statement presentation of receivables and the
principles of receivables management.
8-30
MANAGING RECEIVABLES
Managing accounts receivable involves five steps:
1. Determine to whom to extend credit.
2. Establish a payment period.
3. Monitor collections.
4. Accelerate cash receipts from receivables when
necessary.
5. Evaluate the liquidity of receivables with ratios (not
covering in this class).
8-31
MANAGING RECEIVABLES


8-32
Extending Credit

If the credit policy is too tight, you will lose sales.

If the credit policy is too loose, you may sell to customer who will
pay either very late or not at all.

It is important to check references on potential new customers as
well as periodically to check the financial health of continuing
customers.
Establishing a Payment Period

Companies should determine a required payment period and
communicate that policy to their customers.

The payment period should be consistent with that of
competitors.
MANAGING RECEIVABLES

Monitoring Collections



8-33
Companies should prepare an accounts receivable aging schedule at least monthly.
►
Helps managers estimate the timing of future cash inflows.
►
Provides information about the collection experience of the company and identifies
problem accounts.
Significant concentrations of credit risk must be discussed in the notes to its
financial statements.
Accelerating Cash Receipts

Sell receivables to a factor (which is a company that buys receivables from
businesses for a fee and then collects the payments directly from the customers).

Three reasons for the sale of receivables:
►
Size of receivables.
►
Companies may sell receivables because they may be the only reasonable source of
cash.
►
Billing and collection are often time-consuming and costly.
ETHICS INSIGHT
Cookie Jar Allowances
There are many pressures on companies to achieve earnings targets. For
managers, poor earnings can lead to dismissal or lack of promotion. It is not
surprising then that management may be tempted to look for ways to boost
their earnings number. One way a company can achieve greater earnings is to
lower its estimate of what is needed in its Allowance for Doubtful Accounts
(sometimes referred to as “tapping the cookie jar”). For example, suppose a
company has an Allowance for Doubtful Accounts of $10 million and decides to
reduce this balance to $9 million. As a result of this change, Bad Debt Expense
decreases by $1 million and earnings increase by $1 million. Large banks such
as JP Morgan Chase, Wells Fargo, and Bank of America recently decreased
their Allowance for Doubtful Accounts by over $4 billion. These reductions came
at a time when these big banks were still suffering from lower mortgage lending
and trading activity, both of which lead to lower earnings. They justified these
reductions in the allowance balances by noting that credit quality and economic
conditions had improved. This may be so, but it sure is great to have a cookie
jar that might be tapped when a boost in earnings is needed.
8-34