Key Topics
Chapters 7,8 & 9
Sales on Credit: Journal Entries
On July 1, TechCom had a credit sale of $950 to CompStore
and a collection of $720 from RDA Electronics from a prior
credit sale.
Learning Objective C1: Describe accounts receivable and how they occur and are recorded.
© McGraw-Hill Education
7-2
Allowance Method
At the end of each period, estimate total bad
debts expected to be realized from that period’s
sales.
1.
2.
Two advantages to the allowance method:
It records estimated bad debts expense in the period
when the related sales are recorded.
It reports accounts receivable on the balance sheet at
the estimated amount of cash to be collected.
Learning Objective P2: Apply the allowance method to accounts receivable.
© McGraw-Hill Education
7-3
Allowance Method Recording Bad Debts Expense
TechCom had credit sales of $300,000 during its first year of
operations. At the end of the first year, $20,000 of credit sales
remained uncollected. Based on the experience of similar
businesses, TechCom estimated that $1,500 of its accounts
receivable would be uncollectible.
Learning Objective P2: Apply the allowance method to accounts receivable.
© McGraw-Hill Education
7-4
Allowance Method –
Writing Off a Bad Debt
TechCom has determined that J. Kent’s $520 account is
uncollectible.
Learning Objective P2: Apply the allowance method to accounts receivable.
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7-5
Allowance Method –
Recovering a Bad Debt
To help restore credit standing, a customer sometimes pays all
or part of the amount owed on an account even after it has
been written off.
On March 11, Kent pays in full his $520 account previously
written off.
Learning Objective P2: Apply the allowance method to accounts receivable.
© McGraw-Hill Education
7-6
Percent of Sales Method: Example
Musicland has credit sales of $400,000 in 2021. It is estimated
that 0.6% of credit sales will eventually prove uncollectible.
Let’s look at recording Bad Debts Expense for 2021.
$
×
= $
400,000
0.6%
2,400
Musicland’s accountant
computes estimated Bad
Debts Expense of $2,400.
Learning Objective P3: Estimate uncollectibles based on sales and accounts receivable.
© McGraw-Hill Education
7-7
Percent of Receivables Method: Example
Musicland has $50,000 in accounts receivable and $200 credit balance in
Allowance for Doubtful Accounts. Five percent of receivables are
uncollectible. $50,000 x 5% = $2,500 ending balance.
Exhibit
7.7
Learning Objective P3: Estimate uncollectibles based on sales and accounts receivable.
© McGraw-Hill Education
7-8
Aging of Receivables Method
Classify each receivable by how
long it is past due.
Each age group is multiplied by its
estimated bad debts percentage.
Estimated bad debts for each group
are totaled.
Learning Objective P3: Estimate uncollectibles based on sales and accounts receivable.
© McGraw-Hill Education
7-9
Aging of Accounts Receivable:
Musicland
Learning Objective P3: Estimate uncollectibles based on sales and accounts receivable.
Exhibit
7.8
© McGraw-Hill Education 7-10
Aging of Accounts Receivable: Adjusting
Entry with Credit Balance
Exhibit
7.9
Learning Objective P3: Estimate uncollectibles based on sales and accounts receivable.
© McGraw-Hill Education 7-11
Aging of Accounts Receivable: Adjusting
Entry with Debit Balance
Learning Objective P3: Estimate uncollectibles based on sales and accounts receivable.
© McGraw-Hill Education
7-12
Estimating Bad Debts –
Summary of Methods
Exhibit
7.10
Learning Objective P3: Estimate uncollectibles based on sales and accounts receivable.
© McGraw-Hill Education 7-13
Notes Receivable
A promissory note is a written promise to pay a specified
amount of money, usually with interest, either on demand
or at a stated future date.
Exhibit
7.11
Learning Objective C2: Describe a note receivable, the computation of its maturity date, and the
recording of its existence.
© McGraw-Hill Education 7-14
Interest Computation
Even for
maturities less
than one year,
the rate is
annualized.
Exhibit
7.13
If the note is
expressed in days,
base a year on 360
days using the
“banker’s rule.”
Learning Objective C2: Describe a note receivable, the computation of its maturity date, and the
recording of its existence.
© McGraw-Hill Education 7-15
Plant Assets: Definition
Tangible in Nature
Actively Used in Operations
Expected to Benefit Future Periods
Called Property, Plant, & Equipment
© McGraw-Hill Education 8-16
Plant Assets: Four Issues
Exhibit
8.2
© McGraw-Hill Education 8-17
Cost Determination
Purchase
price
Acquisition
Cost
All expenditures
needed to
prepare the asset
for its intended
use
Acquisition cost includes all
expenditures necessary to get the
asset in place and ready for use
© McGraw-Hill Education 8-18
Learning Objective C1: Compute the cost of plant assets.
Machinery and Equipment
Purchase
price
Taxes
Machinery
and
Equipment
Installing,
assembling, and
testing
Transportation
charges
Insurance while
in transit
© McGraw-Hill Education 8-19
Learning Objective C1: Compute the cost of plant assets.
Buildings
Cost of purchase or
construction
Brokerage
fees
Title fees
Buildings
Attorney fees
Taxes
© McGraw-Hill Education 8-20
Learning Objective C1: Compute the cost of plant assets.
Land Improvements
Parking lots, driveways, fences, walkways,
and lighting systems.
Depreciate
over useful life of
improvements.
© McGraw-Hill Education 8-21
Learning Objective C1: Compute the cost of plant assets.
Land
Title insurance premiums
Purchase
price
Property
taxes
Land
Real estate
commissions
Surveying
fees
Legal fees
Land is not depreciable.
© McGraw-Hill Education 8-22
Learning Objective C1: Compute the cost of plant assets.
Depreciation
Depreciation is the process of allocating the cost of
a plant asset to expense in the accounting periods
benefiting from its use.
Balance Sheet
Acquisition
Cost
Income Statement
Cost
Allocation
(Unused)
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
Expense
(Used)
© McGraw-Hill Education 8-23
Factors in Computing Depreciation
The calculation of depreciation
requires three amounts for each asset:
1. Cost
2. Salvage Value
3. Useful Life
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
© McGraw-Hill Education 8-24
Depreciation Methods
1. Straight-line
2. Units-of-production
3. Declining-balance
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
Exhibit
8.5
© McGraw-Hill Education 8-25
Straight-Line Method:
Example
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
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8-26
Straight-Line Method:
Balance Sheet
Exhibit
8.7
Balance Sheet Presentation
Machinery
Less: accumulated depreciation
$ 10,000
3,600
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
$
6,400
© McGraw-Hill Education
8-27
Straight-Line Depreciation Schedule
Exhibit
8.8
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
© McGraw-Hill Education 8-28
Units-of-Production Method:
Two-Step Process
Step 1:
Depreciation
Per Unit
=
Cost − Salvage Value
Total Units of Production
Step 2:
Depreciation
Expense
= Depreciation
Per Unit
×
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
Number of Units
Produced
in the Period
© McGraw-Hill Education 8-29
Units-of-Production Method: Example
Assume that 7,000 units were
inspected during the first year.
Depreciation would be calculated
as follows:
1:
Depreciation
Per Unit
=
Cost − Salvage Value
Total Units of Production
2:
Depreciation
Depreciation
×
=
Expense
Per Unit
=
$9,000
36,000
= $0.25/unit
Number of Units
= $0.25 × 7,000 = $1,750
Produced
in the Period
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
© McGraw-Hill Education 8-30
Units-of-Production
Depreciation Schedule
Exhibit
8.10
Units produced and sold during the period.
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
© McGraw-Hill Education
8-31
Declining-Balance Method:
Three Steps
Exhibit
8.11
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
© McGraw-Hill Education
8-32
Double-Declining-Balance Method:
Schedule
Exhibit
8.12
Learning Objective P1: Compute and record depreciation using the straight-line, units-of-production, and
declining-balance methods.
© McGraw-Hill Education 8-33
Additional Expenditures
• Revenue expenditures
• do not materially increase the plant asset’s life or
capabilities.
• Recorded as an expense in the current period.
• Reported on the income statement.
• Capital expenditures
• Provide benefits for longer than the current period.
• Recorded as an addition to the asset account.
• Reported on the balance sheet.
Learning Objective C3: Distinguish between revenue and capital expenditures, and account for them.
© McGraw-Hill Education 8-34
Revenue and Capital
Expenditures
Type of
Capital or
Expenditure Revenue
Ordinary
Repairs
Betterments
and
Extraordinary
Repairs
1.
2.
Revenue
3.
1.
Identifying Characteristics
Maintains normal operating condition.
Does not increase productivity.
Does not extend life beyond original
estimate.
Major overhauls or partial
replacements.
Capital
2. Extends life beyond original estimate.
Learning Objective C3: Distinguish between revenue and capital expenditures, and account for them.
© McGraw-Hill Education 8-35
Revenue and Capital
Expenditures: Journal Entries
Ordinary Repairs
Betterments (Improvements)
Learning Objective C3: Distinguish between revenue and capital expenditures, and account for them.
© McGraw-Hill Education 8-36
Disposals of Plant Assets
Update depreciation
to the date of disposal.
Journalize disposal by:
Recording cash
received (debit)
or paid (credit).
Removing accumulated
depreciation (debit).
Learning Objective P2: Account for asset disposal through discarding or selling an asset.
Recording a
gain (credit)
or loss (debit).
Removing the
asset cost (credit).
© McGraw-Hill Education 8-37
Discarding Plant Assets
depreciation
If Cash >Update
BV, record
a gain (credit).
to the date of disposal.
If Cash < BV, record a loss (debit).
If CashJournalize
= BV, no
gain by:
or loss.
disposal
Recording cash
received (debit)
or paid (credit).
Removing accumulated
depreciation (debit).
Learning Objective P2: Account for asset disposal through discarding or selling an asset.
Recording a
gain (credit)
or loss (debit).
Removing the
asset cost (credit).
© McGraw-Hill Education
8-38
Discarding Plant Assets:
Asset Fully Depreciated
•
A machine costing $9,000, with accumulated depreciation of
$9,000 on December 31 of the previous year, was discarded on
June 5th of the current year.
• The company is depreciating the equipment using the straightline method over eight years with zero salvage value.
Steps 1-4:
Learning Objective P2: Account for asset disposal through discarding or selling an asset.
© McGraw-Hill Education
8-39
Discarding Plant Assets:
Asset Not Fully Depreciated
• Equipment costing $8,000, with accumulated depreciation of
$6,000 on 12/31 of previous year, was discarded on 7/1.
• The company is using straight-line depreciation over eight years
with zero salvage value.
Step 1: Record depreciation expense to July 1.
Steps 2-4:
Learning Objective P2: Account for asset disposal through discarding or selling an asset.
© McGraw-Hill Education
8-40
Selling Plant Assets – At Book Value
• 3/31, BTO sells equipment that originally cost $16,000 and has
accumulated depreciation of $12,000 at 12/31 of the prior year.
• BTO uses straight-line depreciation at $4,000 per year.
• The equipment is sold for $3,000 cash.
Step 1: Record depreciation expense to March 31.
Step 2: Record sale of asset at book value ($16,000 − $13,000 = $3,000).
Learning Objective P2: Account for asset disposal through discarding or selling an asset.
© McGraw-Hill Education
8-41
Selling Plant Assets – Above Book Value
• 3/31, BTO sells equipment that originally cost $16,000 and has
accumulated depreciation of $12,000 at 12/31 of the prior year.
• BTO uses straight-line depreciation at $4,000 per year.
• The equipment is sold for $7,000 cash.
Step 1: Update depreciation to March 31st.
Step 2: Record sale of asset at a gain. ($7,000 − $3,000 = $4,000 gain).
Learning Objective P2: Account for asset disposal through discarding or selling an asset.
© McGraw-Hill Education 8-42
Selling Plant Assets – Below Book Value
• 3/31, BTO sells equipment that originally cost $16,000 and has
accumulated depreciation of $12,000 at 12/31 of the prior year.
• BTO uses straight-line depreciation at $4,000 per year.
• The equipment is sold for $2,500 cash.
Step 1: Update depreciation to March 31st.
Step 2: Record sale of asset at a loss. ($3,000 − $2,500 = $500 loss).
Learning Objective P2: Account for asset disposal through discarding or selling an asset.
© McGraw-Hill Education
8-43
Classifying Liabilities
Current Liabilities
Long-Term
Liabilities
Due within one year
or the company’s
operating cycle if
longer.
Due after one year or
the company’s
operating cycle if
longer.
Learning Objective C1: Describe current and long-term liabilities and their characteristics.
© McGraw-Hill Education 9-44
Known Liabilities
Accounts Payable
Sales Taxes
Unearned Revenues
Notes Payable
Payroll Obligations
Multi-Period Known Liabilities
Learning Objective C2: Identify and describe known current liabilities.
© McGraw-Hill Education 9-45
Unearned Revenues
On June 30, Selena Gomez sells $900,000 in tickets
for three concerts.
On October 31, Selena performs a concert.
$900,000 × 1/3 = $300,000
Learning Objective C2: Identify and describe known current liabilities.
© McGraw-Hill Education
9-46
Note Given to Borrow from Bank
On Sept. 30, a company borrows $2,000 from a bank at
12% interest for 60 days.
On Nov. 29, the company repays the principal of the
note plus interest.
Interest expense = $2,000 × 12% × (60 ÷ 360) = $40
Learning Objective P1: Prepare entries to account for short-term notes payable.
© McGraw-Hill Education 9-47
When Note Extends over
Two Periods
Note
Date
End of
Period
Maturity
Date
An adjusting entry is required to
record Interest Expense incurred
to date.
Learning Objective P1: Prepare entries to account for short-term notes payable.
© McGraw-Hill Education
9-48
End-of-Period Adjustment
to Notes
On Dec. 16, 2021, a company borrows $2,000 from a bank at 12% interest for 60
days. An adjusting entry is needed on December 31.
On Feb. 14, 2022, the company repays this principal and interest on the note.
Learning Objective P1: Prepare entries to account for short-term notes payable.
© McGraw-Hill Education
9-49
Accounting for
Contingent Liabilities
Exhibit
9.5
Learning Objective C3: Explain how to account for contingent liabilities.
© McGraw-Hill Education 9-50
Reasonably Possible
Contingent Liabilities
Potential Legal Claims – A potential claim is recorded if
the amount can be reasonably estimated and payment for
damages is probable.
Debt Guarantees – The guarantor usually discloses the
guarantee in its financial statement notes. If it is probable
that the debtor will default, the guarantor reports the
guarantee as a liability.
Other Contingencies – Include environmental
damages, possible tax assessments, insurance losses, and
government investigations..
Learning Objective C3: Explain how to account for contingent liabilities.
© McGraw-Hill Education
9-51