CHAPTER 10
10-1. Q: Distinguish between tests of details of balances and tests of transactions for the sales
and collection cycle. Explain how the tests of transactions affect the tests of details.
A: Tests of details of financial balances are designed to determine the reasonableness of
the balances in sales, accounts receivable, and other account balances which are affected
by the sales and collection cycle. Such tests include confirmation of accounts receivable,
and examining documents supporting the balance in these accounts.
Tests of transactions for the sales and collection cycle are intended to determine the
effectiveness of internal control structure and to test the substance of the transactions
which are produced by this cycle. Such tests would consist of examining sales invoices
in support of entries in the sales journal, reconciling cash receipts, or reviewing the
approval of credit.
The results of the tests of transactions will be used to affect the procedures, sample size,
timing and particular items selected for the tests of details of financial balances (i.e., an
effective internal control structure will result in reduced testing when compared to the
tests of details required in the case of an inadequate internal control structure).
10-2. Q:
Distinguish between a positive and a negative confirmation and state the
circumstances in which each should be used. Why do CPA firms frequently use a
combination of positive and negative confirmations on the same audit?
A:
There are two common types of confirmations used for confirming accounts
receivable:
“positive” confirmations and “negative” confirmations.
A positive
confirmation is a communication addressed to the debtor requesting him to confirm
directly whether the balance as stated on the confirmation request is correct or incorrect.
A negative confirmation is also a communication addressed to the debtor, but it requests a
response only when the debtor disagrees with the stated amount.
A positive confirmation is more reliable evidence because the auditor can perform
follow-up procedures if a response is not received from the debtor. With a negative
confirmation, failure to reply must be regarded as a correct response even though the
debtor may have ignored the confirmation request.
Offsetting the reliability disadvantage, negative confirmations are less expensive to send
than positive confirmations, and thus more of them can be distributed for the same total
cost. The determination of which type of confirmation to be sent is an auditor’s decision
and it should be based on the facts in the audit. The following are the most important
circumstances where positive confirmations should be used:
1.
There are a small number of large accounts which account for a significant portion of
total accounts receivable.
2.
There are suspected conditions of dispute, inaccuracy, or irregularity. This would be
the case when internal controls are considered inadequate or if prior year’s audit test
results are unsatisfactory.
3.
The rules of certain regulatory agencies require them. This is the case for brokers
and dealers in securities.
When the above conditions do not exist, it is acceptable to use negative confirmations,
but negative confirmations should not be used if the auditor believes the customer is
likely to ignore the confirmation. Typically, when negative confirmations are used, the
auditor is using a reduced control risk assessment in the audit of accounts receivable. It
is also common to use negative confirmations for audits of hospitals, retail stores, and
other industries where the receivables are due from the general public. In these cases, far
more assurance is obtained from tests of internal control than from confirmations.
It is also common to use a combination of negative and positive confirmations by sending
the positives to accounts with large balances and negatives to those with small balances.
10-3. Q: Under what circumstances is it acceptable to confirm accounts receivable prior to the
statement of financial position date?
A: It is acceptable to confirm accounts receivable prior to the statement of financial
position if the internal control structure is adequate and can provide reasonable assurance
that sale, cash receipts and other credits are properly recorded between the date of the
confirmation and the end of the accounting period. Other factors the auditor is likely to
consider in making the decision are the materiality of accounts receivable and the
auditor’s experience in prior years.
If the decision is made to confirm accounts
receivable prior to year end, it is necessary to test the transactions occurring between the
confirmation date and the statement of financial position by examining internal
documents and performing analytical procedures at year end.
10-4. Q: During the audit of South Technologies, Inc., the auditors sent confirmation request to
customers whose accounts had been written off as uncollectible during the year under
audit. An executive of South protested, saying: “You people should be verifying that the
receivables on the books are collectible. We know the ones we wrote off are no good.”
REQUIRED:
a. What purpose, if any, is served by this audit procedure?
b. Does the South executive’s statement suggest some misunderstanding of audit
objectives? Explain.
A: (a) When confirmation requests are mailed to debtors whose accounts were written
off as uncollectible, the auditors’ purpose is to determine that the receivables were
genuine when they were first recorded in the accounts. In some fraud cases, fictitious
accounts receivable have been created to cover up a shortage. Eventually these
fictitious receivables must be disposed of; one method is to write off the fictitious
accounts as uncollectible.
(b) The South executive appears to believe the auditors are solely concerned with the
collectability of accounts and notes receivable. In fact, the confirmation process is
primarily intended to establish that the receivables are genuine and that the customers
(or makers of notes) exist.
Other audit procedures are followed to determine
collectability.
10-5. Q: During preliminary conversations with a new staff assistant you instruct her to send
out confirmation request for both accounts receivable and notes receivable. She asks
whether the confirmation requests should go to the makers of the notes or to the holders
of the notes in the case of notes that have been discounted. Provide an answer to her
question and give reasons for you answer.
A: The confirmation requests should go to the makers of the notes regardless of whether
the notes have been discounted. The act of discounting a note receivable does not reduce
the importance of the note being genuine and collectible. A company which discounts its
notes receivable remains in a position of sustaining a loss if the makers of the notes fail to
make payment at the maturity dates.
10-6. Q: What are the implications to the auditors if, during their examination of account
receivable, some of a client’s customers do not respond to the auditors’ request for
positive confirmation of their accounts receivable? What procedures should the auditors
perform if there is no response to a second request for a positive confirmation?
A: (a) When customers fail to respond to positive confirmation requests the CPAs may
not assume with confidence that these customers reviewed the requests and found no
disagreement and therefore did not reply. Some busy customers will not take the time
to review confirmation requests and will not respond; hence, obvious exceptions may
exist without being reported to the CPAs.
(b) If there is no response to a second request, the CPAs may mail a third request and
possibly make telephone calls in an effort to get a reply directly from the customer.
When it becomes apparent that the confirmation program will not produce further
evidence, the CPAs should consider each remaining customer as to the size, nature,
and age of the balance and the apparent reason for the lack of a reply before they
decide what additional work is necessary in the circumstances. The CPAs should
carry out the alternative audit procedures of examining customers’ purchase orders or
contracts, shipping documents and sales invoices of the client, and remittances by
nonconfirming customers received by the client subsequent to the statement of
financial position. The auditors may also verify the existence, location, and credit
standings of the nonconfirming customers by reference to credit agencies or other
sources independent of the client.
10-7. Q: Your regular annual audit of North, Inc., included the confirmation of accounts
receivable. You decided to use the positive form of confirmation request. Satisfactory
replies were received from all but one of the large accounts. You sent a second and third
request to this customer, but received no reply. At this point an employee for the full
amount of the receivable. Would you regard this as a satisfactory disposition of the
matter? Explain.
A: No, the matter remains unresolved. First, oral evidence from the client is never in
itself sufficient; the auditors must follow up to determine the reliability of the oral
evidence. Second, payment of an account receivable is not confirmation; the account
might be fictitious, and the “payment” could have been made by a dishonest employee
who had created the fictitious account to conceal a cash shortage. The auditors must
examine the customer purchase order or contract, and copies of the sales invoice and
shipping document, in support of the unconfirmed receivable.
They should also
determine the genuineness of the customer by reference to the telephone directory or to
credit agency reports.
10-8. Q: AUDIT OF ACCOUNTS RECEIVABLE AND ALLOWANCE FOR DOUBTFUL
ACCOUNTS
Annette dela Cruz of Cruz and Cabrera, CPAs, has been assigned to the Monty’s Meat,
Inc., audit for the fiscal year ended October 31. She currently is completing the audit of
accounts receivable by reviewing returned accounts receivable confirmations and
evaluating the adequacy of the allowance for doubtful accounts.
Monty’s Meat buys beef, pork, and poultry from local slaughterhouses, processes it, and
sells it to area grocery retailers and restaurants. As of October 31, the company had 450
customer accounts with a combined balance of ₱ 350, 000. Annette stratified the
population of accounts so that all balances equal to or greater than ₱ 2, 000 were selected
for confirmation. From the remaining 420 accounts, she drew a random sample of 50
accounts. Annette then mailed positive confirmation requests to the 80 customers.
Working paper 1 summarizes the confirmation replies.
REQUIRED:
a. Comment on the adequacy of Annette’s work paper as presented in Working Paper 1.
b. Assuming all amounts are considered material, draft any audit adjustments that you
consider necessary. Include journal explanations. (Assume that Monty’s Meat
maintains perpetual inventory records.)
c. Working papers 2 and 3 reproduce the audit work papers for the “accounts receivable
aging analysis” and “allowance for uncollectible accounts” respectively:
1. Using two separate sheets of paper reproduce on the first work paper the last
line of working paper 2, which represents the aged totals of Monty’s Meat’s
accounts receivable. On the second work paper, reproduce the last line of
working paper 3, the October 31 general ledger balance in allowance for
doubtful accounts. Add an audit legend describing how Annette obtained the ₱
365, 000 balance in accounts receivable.
2. Post your adjustments from question (b) to the two work papers.
3. Record subsequent collections on the aging analysis, assuming the following
cash receipts for the period 11/1/2015 through 11/27/2015:
Current
₱ 210, 113
1-30 days past due
TOTAL
13, 353
₱ 223, 466
4. Add an audit legend describing the procedures you would apply to the
subsequent collections.
5. Calculate estimated uncollectible accounts receivable on the aging analysis,
assuming that the following percentages adjusted for current observable data
on collectability of records are used by Monty’s Meat, and have been agreed
to by the auditors:
Current
10%
Past due: 1-30 days
25%
31-60 days
70%
Over 60 days
100%
6. Evaluate the adequacy of the allowance for doubtful accounts and record any
necessary audit adjustment on the allowance for doubtful accounts work
paper.
7. Add an audit legend presenting your conclusion regarding the adequacy of the
allowance for doubtful accounts.
A: a. The work paper does not include a description of the auditing procedures
performed in confirming the accounts. The work paper is also incomplete in the
following respects:
1)
The work paper does not state whether the auditor traced the ABC Grocery
remittance of P3, 000 to November cash receipts.
2)
The work paper does not state whether the auditor examined the
November 2 credit memo issued to Sari-Sari Store.
3)
The work paper does not state whether the auditor traced the Lucena’s
Meat Market remittance to November cash receipts.
4)
The work paper does not state whether and how the auditor obtained
satisfaction regarding confirmation requests not returned.
5)
The work paper does not state whether the auditor examined
documentation for the Diana’s Supper Club order returned and received on
October 31.
6)
Rather than summarizing the confirmations returned without exception, as
was done at the bottom of Working Paper 1, these confirmations should
have been listed separately.
b. 1) Sales
P11, 100
Accounts receivable
Inventory
P11, 100
8,600
Cost of goods sold
8,600
To reverse 2016 sale recorded in 2015.
2) Allowance for uncollectible accounts
Accounts receivable
To write off uncollectible account.
1,277
1,277
3) Sales returns and allowances
3,634
Accounts receivable
3,634
To record return of spoiled meat and
recognize loss in period in which incurred.
Meat not restored to inventory, inasmuch
as it was spoiled.
4) Sales
13,000
Accounts receivable
13,000
To correct error in recording customer
remittance as a sale.
5) Sales Returns
334
Accounts receivable
Inventory
334
250
Cost of goods sold
250
To record return and restore meat to inventory
because meat returned in good condition.
c. (See completed Exhibits 1.1 and 1.2 reproduced below and on the following page.)
Exhibit 1.1
Monty’s Meat, Inc.
Accounts Receivable - Trade
Aging Analysis
October 31, 2015
Conf.
Past Due (Days)
No.
Customer
Balance
Current
1060
Culley’s Meats
P 1,330
P
1061
Jolly Roger Restaurant
466
1064
ABC Grocery
4,256
3,000
1,256
(Other)
329,433
280,763
33,467
1602
Rudy’s Deli
378
1603
General Foods Grocers
13,468
13,000
1607
Kim’s Fresh Meats
2,334
1,074
1608
Dill’s Discount Grocery
12,469
12,469
1612
Diana’s Supper Club
866
334
10/31
Balance per ledger
P365,000
P 311,970 P 36,449 P13,234
Audit Adjustments
P
P
P(1,277
(29,345)
(28,068)
)
P335,655
P 283,902 P 36,449 P13,234
10/31
Audited balance
1-30
31-60
Over 60
1,330
P
466
P12,324
P 2,879
378
468
1,260
532
P 3,347
P 2,070
#
Cash
receipts
11/1
–
P(210,113) P (13,353) P
0 P
0&
11/27
11/27
Outstanding
Estimated
percent
P 73,789 P 23,096 P13,234
P 2,070
10%
100%
25%
70%
uncollectible
10/31
Estimated uncollectible
P 24,487
P
7,379 P 5,774 P 9,264
&
Traced subsequent collections to November remittance advices.
#
Obtained balances from subsidiary ledger after agreeing to general ledger control
account.
Prepared by:
Initial
Date
Reviewed by:
Initial
Date
Exhibit 1.2
Monty’s Meat, Inc.
Accounts Receivable - Trade
Allowance for Doubtful Accounts
October 31, 2015
11/1/15
Balance per general ledger
P28,000 #
P 2,070
11/1 - 10/31
Monthly provision
11/1 - 10/31
Write-offs
10/31/16
Balance per general ledger
AJE 2
24,000 &
(37,000) @
P15,000
(1,277)
P13,723
10/31/16
AJE 6
P10,777
Audited balance
P24,500 ^
AJE 6
Bad debts expense
P10,777
Allowance for doubtful accounts
P10,777
To adjust allowance for doubtful accounts to amount
considered reasonable in the circumstances.
# Traced to last year’s WTB - audited balance
&
Traced to standard journal entries
@
Examined documentation and discussed with credit manager and legal
counsel
^ In light of aging analysis, the above balance, as adjusted, appears to be adequate.
Prepared by:
Reviewed by:
Initial
Date
Initial
Date
10-9. Q: ACCOUNTS RECEIVABLE CONFIRMATION FOLLOW-UP
You have been assigned to the first examination of the accounts of the Makati Company for the
year ending March 31, 2015. Accounts receivable were confirmed on December 31, 2014, and at
that date the receivables consisted of approximately two hundred accounts with balances
totalling ₱ 956, 750. Seventy-five of these accounts with balances totalling ₱ 650, 725 were
selected for confirmation. All but 20 of the confirmation requests have been returned; thirty were
signed without comments, 14 had minor differences which have been cleared satisfactorily, while
11 confirmations had the following comments:
1. We are sorry but we cannot answer your request for confirmation of our account as
2.
3.
4.
5.
the PDQ Company uses an accounts payable voucher system.
The balance of ₱ 1, 050 was paid on December 23, 2015.
The balance of ₱ 7, 750 was paid on January 5, 2015.
The balance noted above has been paid.
We do not owe you anything at December 31, 2014, as the goods, represented by your
invoice date December 30, 2014, number 25050, in the amount of ₱ 11, 550 were
received on January 5, 2015, on FOB destination terms.
6. An advance payment of ₱ 2, 500 made by us in November 2014 should cover the two
invoices totalling ₱ 1, 350 shown on the statement attached.
7. We never received these goods.
8. We are contesting the property of this ₱ 12, 525 charges. We think the charge is
excessive.
9. Amount okay. As the goods have been shipped to us on consignment, we will remit
payment upon selling the goods.
10. The ₱ 10, 000 representing a deposit under a lease, will be applied against the rent
due to us during 2016, the last year of the lease.
11. Your credit memo dated December 5, 2014 in the amount of ₱ 440 cancels the
balance above.
REQUIRED: What steps would you take to clear satisfactorily each of the above 11
comments?
A: For all of the exceptions, the auditor is concerned about four principal things.
(a) Whether there is a client error. Many times the confirmation response differences are
due to timing differences for deposits in the mail and inventory in transit to the
customer. Sometimes customers misunderstand the confirmation or the information
requested. The auditor must distinguish between those and client errors.
(b) The amount of the client error if any.
(c) The cause of the error. It would be intentional, a misunderstanding of the proper way
to record a transaction, or a breakdown of internal control.
(d) Potential errors in the sample not tested. The auditor must estimate the error in the
untested population, based on the results of the tests of the sample.
Suggested steps to clear each of the comments satisfactorily are:
1. (a) Examine supporting documents, including the sales invoices and applicable sales
and shipping orders, for propriety and valuation of the sales.
(b)Review the cash receipts books for the period after December 31, 2014, and note
any collections from the PDQ Company. The degree of internal control over cash
receipts should be an important consideration in determining the reliance that can
be placed on the cash receipts entries. In addition, as there is no assurance that
collections after December 31 represent the payment of invoices supporting the
December 31 trial balance, consideration should be given to requesting a
confirmation from the PDQ Company of the invoices paid by their checks.
2. (a) The cause should be investigated thoroughly. If the credit was posted to the
wrong account, it may indicate merely a clerical error. On the other hand, posting
to the wrong account may indicate lapping.
(b) Such a comment may also indicate a delay in posting and depositing of receipts.
If upon investigation such is the case, the company should be informed
immediately so that it can take corrective steps.
3. This is a confirmation of the balance with an additional comment. Since the customer
has given us the data, it is preferable to check to see that the information agrees with
the company’s records.
Such a procedure may disclose misposting or delay in
recording receipts.
4. This incomplete comment should raise an immediate question: does the customer
mean paid before or paid after December 31? Because the customer’s intent is
unknown, this account should be reconfirmed and the customer asked to state the
exact date. Upon receipt of the second confirmation, the information thereon should
be traced to the cash receipts book.
5. The auditor should first evaluate how long it takes to ship goods to the customer in
question. If it ordinarily takes more than five days, there is no indication of error.
A comment of this type may indicate that the company may be recording sales before
an actual sale has taken place. The auditor should examine the invoice and review
with the appropriate officials the company’s policies. Sales, cost of sales, inventories
and accounts receivable may have to be adjusted if title has not passed to the buyer as
of December 31, 2014.
6.
(a) Determine if such advance payment has been received and that it has been
properly recorded. A review should be made of other advance payments to
ascertain that charges against such advances have been properly handled.
(b)If the advance payment was to cover these invoices, the auditor should propose a
reclassification of the P1,350, debiting the advance payment account and crediting
accounts receivable--trade.
7.
(a) Examine the shipping order for indications that the goods were shipped and, if
available, carrier’s invoice and/or bill of lading for receipt of the goods.
(b)If it appears that goods were shipped, send all available information to the
customer and ask the customer to reconfirm. If the customer still insists that
goods were never received, all data should be presented to an appropriate
company official for a complete explanation. This may indicate that accounting
for shipments is inadequate and consideration should be given to reviewing the
procedures to determine if improvements can be made.
(c)
If the goods were not shipped, the auditor should recommend an
adjustment reducing sales, cost of sales, and accounts receivable, and increasing
inventories.
8. This should be discussed with the appropriate officials and correspondence with
the customer should be reviewed to allow determination whether an adjustment
should be made in the amount receivable or if an allowance for doubtful accounts
should be set up.
9. As title on any goods shipped on consignment does not pass until those goods are
sold, the sales entry should be reversed, inventory charged, and cost of sales credited
if it is actually a consignment sale. Other so-called sales should be reviewed and
company officials queried to determine if other sales actual represent consignment
shipments; if so, the adjustment set forth in the preceding sentence should be made
for all consignment shipments.
10. This is a noncurrent asset and should be reclassified to either deposit or prepaid rent.
A review of other accounts, especially those with round numbers, may disclose other
accounts that should be so reclassified.
11. This may indicate a misposting of the credit or a delay in posting the credit.
Comments under 2 above would also apply to credits.
10-10. Q: PREPARATION OF ACCOUNTS RECEIVABLE AGING SCHEDULE AND
ANALYSIS OF ALLOWANCE OF DOUBTFUL ACCOUNTS
Ken Company sells office equipment and supplies on many organizations in the city and
surrounding area on contract terms of 2/10, n/30. In the past, over 75% of the credit customers
have taken advantage of the discount by paying within 10 days of invoice date. The number of
customers taking the full 30 days to pay has increased within the last year. Current indications
are that less than 60% of the customers are now taking the discount. Past due accounts have been
observed to be on the rise. The controller has responded to a request for more information on the
deterioration in collections of accounts receivable with the report reproduced below.
Ken Company
Finance Committee Report
Accounts Receivable Collections
May 31, 2015
The fact that some credit accounts will prove uncollectible is normal. Annual bad debt write-offs
have been increasing over the past 5 years. The current Accounts Receivable balance is ₱ 1.2
million. The condition of this balance in terms of age and probability of collection is as follows:
PROPORTION OF TOTAL
AGE CATEGORIES
PROBABILITY OF
COLLECTION
68%
not yet due
99%
15%
less than 30 days past due
96 ½ %
8%
30 to 60 days past due
95%
5%
61 to 120 days past due
91%
2 ½%
121 to 180 days
60%
1½%
over 180 days past due
10%
The allowance for doubtful accounts had a credit balance of ₱ 30, 250 on June 1, 2014. Ken has
provided for a monthly bad debts expense accrual during the current fiscal year based on the
assumption that four percent of gross credit sales will be uncollectible. Total gross credit sales
for the 2014-2015 fiscal year amounted to ₱3 million. Write-offs of bad accounts during the year
totalled ₱ 108, 750.
REQUIRED:
a. Prepare an accounts receivable aging schedule for the Ken Company using the
age categories identified in the controller’s report to the Finance Committee
showing:
1. The amount of accounts receivable outstanding for each age
category and in total.
2. The estimated amount that is uncollectible for each category
and in total.
b. Compute the amount of the year-end adjustment necessary to bring Allowance
for Doubtful Accounts to the balance indicated by the age analysis. Then
prepare the necessary journal entry to adjust the accounting records.
c. First assume a recessionary environment with tight credit and high interest
rates. Then
1. Identify steps Ken Company might consider to improve the
accounts receivable situation.
2. Evaluate each step identified in terms of the risks and costs
involved.
A: Requirement (a)
Ken Company
Accounts Receivable Aging Schedule
May 31, 2015
Age Category
Proportion
Amount
of
in
Total
Category
Probability
of
Estimated
Uncollectibl
e Amount
NonCollection
Not yet due
.680
P 816,000
.010
P 8,160
Less than 30 days past
.150
180,000
.035
6,300
30 to 60 days past due
.080
96,000
.050
4,800
61 to 120 days past due
.050
60,000
.090
5,400
121 to 180 days past due
.025
30,000
.400
12,000
Over 180 days past due
.015
18,000
.900
16,200
1.000
P1,200,000
due
P52,860
Requirement (b)
Ken Company
Analysis of Allowance for Doubtful Accounts
May 31, 2015
June 1, 2014 balance
P 30,250
Bad debt expense accrual (3,000,000 x .04)
120,000
Balance before write-offs of bad accounts
P150,250
Write-offs of bad accounts
108,750
Balance before year-end adjustment
P 41,500
Estimated uncollectible amount
52,860
Additional allowance needed
Debit
P 11,360
Credit
Bad Debts Expense
11,360
Allowance for Doubtful Accounts
11,360
Requirement (c)
1.
Steps to Improve the
2.
Risks and Costs
Accounts Receivable Situation
Involved
Establish more selective credit-granting This policy could result in lost sales and
policies, such as more restrictive credit increased costs of credit evaluation. Ken
requirements or more thorough credit may be all but forced to adhere to the
rating investigation.
prevailing credit-granting policies of the
office equipment and supplies industry.
Establish a more rigorous collection This
policy
may
offend
current
policy either through external collection customers and thus risk future sales.
agencies or by Ken’s own personal.
Increased collection costs could result
from this policy.
Charge interest on overdue accounts.
This
policy
may
offend
current
customers and thus risk future sales.
Insist on cash on delivery (COD) or cash This policy could result in lost sales and
on order (COO) for new customers or increased administrative costs.
poorer credit risks.
10-11. Q:
ANALYSIS
OF
ACCOUNTS
RECEIVABLE
AND
ALLOWANCE
FOR
DOUBTFUL ACCOUNTS
You are examining the financial statements of Demo Inc., for the year ended December 31, 2014.
During the audit of the accounts receivable and other related accounts, certain information was
obtained. From this information you are to prepare:
a. Audit work papers for the accounts receivable and the allowance for doubtful
accounts as of December 31, 2014.
b. Proposed audit adjustments.
The December 31, 2014 debit balance in the Accounts Receivable control account is ₱ 197, 000.
The only entries in the Bad Debts expense account were: A credit for ₱ 324 on December 1, 2014
because company A remitted in full for the accounts charged off October 31, 2014, and a debit on
December 31 for the amount of the credit of the Allowance for Doubtful Accounts. (Insert
Allowance for Doubtful Accounts schedule here)
There is a credit balance in one account receivable (0-1 month) of ₱ 2, 000; it represents an
advance on a sales contract. Also, there is a credit balance in one of the 103 months accounts
receivable of ₱500 for which merchandise will be accepted by the customer. The ledger accounts
have not been close as of December 31, 2014. The Accounts Receivable control account is not in
agreement with the subsidiary ledger. The difference cannot be located, and the auditor decides
to adjust the control to the sum of the subsidiaries after corrections are made.
A: Requirement (a)
DEMO INC.
Accounts Receivable
12-31-14
Balance
Per
AGING DISTRIBUTION
Per
Months Outstanding
General
Ledger
Subsidiar
0-1
1-3
3-6
over 6
y
Unadjusted Balances
P197,00
0
P198,24 P93,240 P76,820
P22,180
P6,000
0
Add (Deduct) Adjustments:
AJE (2)
to correct
understatement of
accounts written off
on October 31.
(200)
(3) to write off definitely
uncollectible accounts
(1,000)
(1,000)
(1,000)
(4) to reclassify
advances from
customers
2,000
2,000
500
500
1,44
_______
2,000
(5) to reclassify accounts
with credit balances
500
(6) to adjust general
ledger balance to
agree with subsidiary
balance
Balances as adjusted
______
______
______
_
_
_
P199,74 P95,240 P77,320
P22,180
0
P199,74
0
______
P5,000
0
DEMO INC.
Allowance for Doubtful Accounts
12-31-14
Balance per Ledger
P12,000.00
Add (Deduct) Adjustments:
AJE(1)to correct error in recording bad debts recovery
324.00
(2)to correct understatement of accounts written off
(
(3)to write off definitely uncollectible accounts
( 1,000.00)
(4)to adjust allowance to required balance (Schedule 1)
( 6,359.80)
Balance as adjusted
200.00)
P 4,764.20
Schedule 1: Computation of Required Allowance
Adjusted
Required
Allowance
Account Classification
Total
%
Amount
P 95,240
1
P 952.40
1-3 months outstanding
77,320
2
1,546.40
3-6 months outstanding
22,180
3
665.40
5,000
P2,000-
0-1 month outstanding
over
6
months
outstanding
50%
_______
P3,00020%
Totals
Requirement (b)
(1)
0
0
Adjusting Journal Entries 12-31-14
Bad Debts
324.00
Allowance for Doubtful Accounts
324.00
200.00
Allowance for Doubtful Accounts
200.00
1,000.00
Accounts Receivable
(4)
Accounts Receivable
1,000.00
2,000.00
Advances from Customers
(5)
0
P4,764.2
Accounts Receivable
(3)
600.0
P199,74
Allowance for Doubtful Accounts
(2)
1,000.00
Accounts Receivable
2,000.00
500.00
Customers’ accounts with credit
500.00
balances
(6)
Accounts Receivable
1,440.00
Sales
(7)
Allowance for Doubtful Accounts
1,440.00
6,359.80
Bad Debts Expense
6,359.80
10-12. Q: CLASSIFICATION OF RECEIVABLES
When examining the accounts of Tripoli Company, you ascertain that balances relating to both
receivables and payables are included in a single controlling account (called receivables), which
has a ₱ 23, 050 debit balance. An analysis of the details of this account revealed the following:
ITEMS
Accounts receivable – customers
Accounts receivable – officers (current collection expected)
Debit balances – creditors
DEBIT
CREDIT
₱ 40, 000
2, 500
450
Expense advances to salespersons
1, 000
Share capital subscriptions receivable
4, 600
Accounts payable for merchandise
₱ 19, 250
Unpaid salaries
3, 300
Credit balance in customer accounts
2, 000
Cash received in advance from customers for goods not yet shipped
450
Expected bad debts, cumulative
500
REQUIRED:
1. Give the journal entry to eliminate the above account and to set up the appropriate
accounts to replace it.
2. How should the items be reported on Tripoli Company’s statement of financial position?
A: Requirement (1)
Accounts receivable, trade...............................
40,000
Advances to suppliers.......................................
450
Due from officers.............................................
2,500
Subscriptions receivable – share capital...........
4,600
Expense advances to salespeople.....................
1,000
Accounts payable, trade (P19,250 –
19,250
P450)*..............................................................
Advances
from
customers
on
sales
450
contracts...........................................................
Salaries payable..........................................
3,300
Allowance for doubtful accounts...............
500
Receivables (to close permanently)............
23,050
Customers’ credit balances.........................
2,000
Requirement (2)
Current assets:
Accounts receivable, trade.........................
40,000
Less allowance for doubtful accounts........
500
P39,500
Creditors’ debit balances............................
450
Due from officers**...................................
2,500
Subscriptions
4,600
receivable
–
ordinary
shares**............................................................
Expense advances to salespeople...............
1,000
Current liabilities:
Accounts payable, trade.............................
19,250
Customers’ credit balances.........................
2,000
Cash advances from customers on sales
*
(not yet shipped)......................................
450
Salaries payable..........................................
3,300
These amounts are netted against normal balances to reflect control balances; but if
material in amount, they should be reported separately on the statement of financial
position as indicated in Requirement 2.
** Considered as current assets only if currently collectible. All items are assumed to be
material in amount.
10-13. Q: ANALYSIS OF BAD DEBTS EXPENSE AND ALLOWANCE FOR BAD DEBTS
In 2015, 3 years after it began operations, the Pearl Corporation decided to change from the
direct write-off method of recording bad debts to estimating bad debts. (Insert figure here.)
A: 1.
Estimated bad debt percentage based on year-end accounts receivable:
28.5%#
2012
2013
2014
2015
Actual bad debts
P 3,300a
P 5,700c
P 7,800e
P 16,800
Credit Sales
P90,000
P158,000
P210,000
P459,000
P 9,500b
P 19,900d
P 29,500f
P 58,900
0.347
0.286
0.264
Outstanding receivables
(year-end)
Percentage of
outstanding
receivables
a
P2,500 + P500 + P300 = P3,300
b
0 + P90,000 - P78,000 - P2,500 = P9,500
0.285#
c
P4,600 + P700 + P400 = P5,700
d
P9,500 + P158,000 - P8,500 - P134,000 - P500 - P4,600 = P19,900
e
Estimated. The bad debts written off in the third year following the sale have
averaged about 7.8% [(P300 + P400)  (P3,300 + P5,700)] of the total actual bad
debts in the previous 2 years. Therefore, the bad debts on 2014 sales of P6,200 and
P1,000 are about 92.2% of the total bad debts expected on 2014 sales.
f
2.
P19,900 + P210,000 - P200 - P14,200 - P178,800 - P300 - P700 - P6,200 = P29,500
Bad debts estimated as a percentage of year-end accounts receivable
P29,500 + P235,000 - P300 - P19,500 - P400 - P1,000 - P200,000
= P43,300
P43,300 x 0.285 = P12,340.50, or approximately P12,300.
Criteria for
recognition of bad debts or impairment of receivables under PAS 39 should be
applied.
10-14. Q: ANALYSIS OF ALLOWANCE FOR DOUBTFUL ACCOUNTS
From inception of operations to December 31, 2014 Flores Corporation provided for
uncollectible accounts receivable under the allowance method: provisions were made monthly at
2% of credit sales; bad debts written off were charged to the allowance account; recoveries of
bad debts previously written off were credited to the allowance account; and no year-end
adjustments to the allocation account were made. Flores’s usual credit terms are net 30 days.
The balance in the allowance for doubtful accounts was ₱ 130, 000 at January 1, 2015. During
2015 credit sales totalled ₱ 9, 000, 000 interim provisions for doubtful accounts were made at
2% of credit sales, ₱ 90, 000 of bad debts were written off, and recoveries of accounts previously
written off amounted to ₱ 15, 000. Flores installed a computer facility in November 2015 and an
aging of accounts receivable was prepared for the first time as of December 31, 2015. (Insert
summary of aging here)
Based on the review of collectability of the account balances in the “prior to 1/1/2015” aging
category, additional receivables totalling ₱ 60, 000 were written off as of December 31, 2015.
Effective with the year ended December 31, 2015. Flores adopted the revised accounting
standards in recognizing bad debts.
REQUIRED:
1. Prepare schedule analyzing the changes in the allowance for doubtful account for the
year ended December 31, 2015. Show supporting computations in good form.
2. Prepare the journal entry for the year end adjustment to the allowance for doubtful
accounts balance as of December 31, 2015.
A: Requirement (1)
Flores Corporation
Analysis of Changes in the
Allowance for Doubtful Accounts
For the Year Ended December 31, 2015
Balance at January 1, 2015
P130,00
0
Provision for doubtful accounts (P9,000,000 x 2%)
Recovery in 2011 of bad debts written off previously
180,000
15,00
0
P325,00
0
Deduct write-offs for (P90,000 + P60,000)
150,00
0
Balance at December 31, 2015, before additional impairment loss
P175,00
0
Increase in estimated uncollectible accounts during 2015 (P235,300 -
60,30
P175,000)
0
Balance at December 31, 2015, adjusted (Schedule 1)
P235,30
0
Schedule 1:
Computation of Allowance for Doubtful Accounts
Aging category
November-December 2015
at December 31, 2015
Balance
Percent
Doubtful accounts
P1,140,000
2
P 22,800
July-October
600,000
10
60,000
January-June
400,000
25
100,000
75
52,500
70,000 a
Prior to 1/1/15
P235,300
a
P130,000 - P60,000
Requirement (2)
Flores Corporation
Journal Entry
December 31, 2015
Bad Debt Expense
Allowance for Doubtful Accounts
To increase the allowance for doubtful accounts
at December 31, 2015, resulting from evaluation
of collectibility of remaining receivables.
60,300
60,300
10-15. Analysis of Accounts Receivable and Allowance of Doubtful Accounts
The following are the balances of selected accounts taken from the December 31, 2014
statement of financial position of Visayas Company;
Accounts receivable
P546,400
Allowance for doubtful accounts
16,392
The following transactions (in summary) affecting the Accounts Receivable account
occurred during the year ended December 31, 2015.
Sales- all on account
P2,622,832
Cash received from customers
2,857,960
The corporation’s credit terms were 2/10,
n/30 and customers paying P2,009,842 of the
above stated cash took advantage of the discount.
Accounts receivable written off as worthless
P18,700
Credit memoranda issued for returned sales
and allowances
37,000
REQUIRED:
a. Current balance of Accounts Receivable as of December 31, 2015.
b. Adjusting journal entry for estimated bad debts on December 31, 2015. The
corporation adjusts its allowance account to a percentage of outstanding receivable.
The credit experience of the corporation indicates that the percentage rate to be used
on December 31, 2015 will be 2/3 of that used on December 31, 2014.
Requirement (a)
Visayas Company
Accounts Receivable
12.31.15
Balance, 12.31.14
P 546,400
Add: Sales on account for the year
2,622,832
Total
P3,169,232
Less: Collections during the year
- with discount (1)
P2,050,859
- without discount (2)
848,118
Accounts written off
18,700
Credit memo for sales returns & allowances
37,000
Balance, 12.31.15
Total collections
Less: Accts paid w/ discount
2,954,677
P 214,555
P2,857,960
2,009,842 ( 98% = P2,050,859) (1)
Accts paid by customers w/o
discount
P 848,118 (2)
Requirement (b)
AJE (1)
Doubtful accounts expense
6,599
Allowance for doubtful accounts
6,599
Supporting Analysis:
% allowance to AR 12.31.14
P 16,392 =
P546,400
Required % allowance to
3%
AR 12.31.15
2/3 x 3% = 2 %
Required allowance 12.31.15
2% x P214,555
P4,291
Allowance for doubtful accounts balance, 12.31.14 P 16,392
Less: Accounts written off
18,700
P( 2,308)
Required balance, 12.31.15
Estimated bad debts expense for 12.31.15
4,291
P 6,599