Chapter 9 slides

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Receivables
CHAPTER
9
PowerPoint Slides to accompany
Fundamental Accounting Principles, 14ce
Prepared by
Joe Pidutti, Durham College
© 2013 McGraw-Hill Ryerson Limited.
Learning Objectives
Describe accounts receivable and how
they occur and are recorded. (LO1)
Apply the allowance method to account for
uncollectible accounts receivable. (LO2)
Estimate uncollectible accounts receivable
using approaches based on sales and
accounts receivable. (LO3)
1.
2.
3.
2
© 2013 McGraw-Hill Ryerson Limited.
Learning Objectives
Describe and record a short-term note
receivable and calculate its maturity date
and interest. (LO4)
Explain how receivables can be
converted to cash before maturity.
(Appendix 9A) (LO5)
Calculate accounts receivable turnover
and days’ sales uncollected to analyze
liquidity. (Appendix 9B) (LO6)
4.
5.
6.
3
© 2013 McGraw-Hill Ryerson Limited.
Accounts Receivable
Arise from credit sales to customers.
Often referred to as Trade Receivables.
Other receivables include interest
receivable, rent receivable, tax refund
receivable.
•
•
•
4
© 2013 McGraw-Hill Ryerson Limited.
LO 1
Accounts Receivable
Companies selling on account need to:
• Maintain a separate account for each
customer.
• Account for bad debts.
5
© 2013 McGraw-Hill Ryerson Limited.
LO 1
Accounts Receivable
Example: TechCom has the following Accounts
Receivable balances at June 30:
General Ledger
A/R Subledger
Accounts Receivable
RDA Electronics
bal. 3,000
bal. 1,000
Control account
balances with total
of subledger
balances.
6
© 2013 McGraw-Hill Ryerson Limited.
CompStore
bal. 2,000
Total 3,000
LO 1
Accounts Receivable
Example: Credit sale for $950.
Accounts Receivable- CompStore
Sales
950
General Ledger
A/R Subledger
Accounts Receivable
RDA Electronics
bal. 3,000
950
bal. 1,000
950
bal. 3,950
CompStore
Control account
balances with total of
subledger balances.
7
© 2013 McGraw-Hill Ryerson Limited.
bal. 2,000
950
bal. 2,950
Total 3,950
LO 1
Accounts Receivable
Example: Collection of account
Cash
Accounts Receivable-RDA
720
720
General Ledger
A/R Subledger
Accounts Receivable
RDA Electronics
bal. 3,000
950
bal. 1,000
720
bal.
720
280
bal. 3,230
CompStore
Control account
balances with total
of subledger
balances.
8
© 2013 McGraw-Hill Ryerson Limited.
bal. 2,000
950
bal. 2,950
Total 3,230
LO 1
Valuing Accounts Receivable
•
•
Some customers who are granted credit
do not pay what they promised.
The accounts of these customers are
called uncollectible accounts or bad debts.
9
© 2013 McGraw-Hill Ryerson Limited.
LO 1
Valuing Accounts Receivable
Methods for accounting for uncollectible
accounts:
1. Direct method (does not satisfy GAAP)
2. Allowance method (satisfies GAAP)
a)
b)
10
Income statement approach (percent of sales)
Balance sheet approach (calculates the required
balance in AFDA)
© 2013 McGraw-Hill Ryerson Limited.
LO 2
Allowance Method
•
•
The matching principle requires that bad
debts expense be matched and reported
in the same period as the sale that
generated the receivable.
The allowance method satisfies the
matching principle by matching expected
bad debts losses (expenses) with
revenues that produced the losses.
11
© 2013 McGraw-Hill Ryerson Limited.
LO 2
Recording Estimated Bad Debt
Expense
Adjustments for bad debts are made at the
end of the accounting period.
Adjustments use a contra-asset account
called Allowance for Doubtful Accounts.
•
•
12
© 2013 McGraw-Hill Ryerson Limited.
LO 2
Recording Estimated Bad Debt
Expense - Allowance Method
Example: The estimated bad debts for TechCom
is $1,500.
The period end entry to record bad debts is:
Bad Debts Expense
1,500
Allowance for Doubtful Accounts 1,500
An allowance account is used since we do not
know which accounts will be uncollectible.
13
© 2013 McGraw-Hill Ryerson Limited.
LO 2
Writing Off a Bad Debt Allowance Method
Example: A specific customer’s account
(Jack Kent) is considered uncollectible.
The entry to record the write-off is:
Allowance for Doubtful Accounts
520
Accounts Receivable - Jack Kent
520
Note that there is no expense recorded when
the account is written off. The estimated
expense was previously recorded.
14
© 2013 McGraw-Hill Ryerson Limited.
LO 2
General Ledger Balances
Bad Debts Expense
1,500
Allowance for Doubtful Accounts
1,500
To record estimated bad debts
Allowance for Doubtful Accounts
520
Accounts Receivable - Jack Kent
To write off an uncollectible account
Accounts Receivable
Allow. For Doubtful Accts.
bal. 20,000
1,500
520
520
bal. 19,480
15
520
bal. 980
© 2013 McGraw-Hill Ryerson Limited.
LO 2
Realizable Value Before and After
Write-off
Accounts Receivable
Allow. For Doubtful Accts.
bal. 20,000
1,500
520
520
bal. 19,480
bal. 980
Before
Write-off
Accounts Receivable
Less: Allowance for Doubtful Accounts
Est. Realizable Accounts Receivable
16
© 2013 McGraw-Hill Ryerson Limited.
After
Write-off
$20,000
$19,480
1,500
980
$18,500
$18,500
LO 2
Recovery of a Bad DebtAllowance Method
Example: Jack Kent pays his account in full after
the account had been written off. Entries are
needed to record the reinstatement of the
account and the subsequent collection.
The entries are:
Accounts Receivable-Jack Kent
520
Allowance for Doubtful Accounts
520
To reinstate customer’s account.
Cash
Accounts Receivable-Jack Kent
To record collection of account.
17
© 2013 McGraw-Hill Ryerson Limited.
520
520
LO 2
Estimating Bad Debts Expense
Acceptable Methods:
1. Percent of Sales Approach
2. Accounts Receivable Approach
18
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Percent of Sales Approach
Also referred to as the Income Statement
Approach.
Based on idea that a percentage of a
company’s credit sales are uncollectible.
The primary focus is on matching bad
debts expense with credit sales.
•
•
•
19
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Percent of Sales Approach
Under this approach, bad debts expense
is computed as follows:
Current Period Sales
x Estimated Bad Debt %
= Estimated Bad Debts Expense
20
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Percent of Sales Approach
Example: MusicLand has credit sales of $400,000
and estimates 0.6% of those sales will not be
collectible. Estimated Bad Debts Expense is
calculated as $2,400 ($400,000 x .6%).
The period end adjusting entry would be:
Bad Debts Expense
2,400
Allowance for Doubtful Accounts
2,400
To record estimated bad debts
21
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Percent of Accounts Receivable
Approach
•
•
This method assumes that a percentage of
Accounts Receivable is uncollectible.
Using this method, we compute the
estimate of the Allowance for Doubtful
Accounts as:
Year-end Accounts Receivable x Est. Bad Debt %
22
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Percent of Accounts Receivable
Approach
Bad Debts Expense is computed as:
Estimated adjusted balance in Allowance for Doubtful Accounts
- Unadjusted year-end balance in Allowance for Doubtful Accounts
= Estimated Bad Debts Expense
The objective for the entry is to make the Allowance account
balance equal to the portion of outstanding Accounts
Receivable estimated to be uncollectible.
23
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Aging of Accounts Receivable
Approach
Assumes that the older the Account Receivable
the more likely is will become uncollectible.
Steps:
1. Group accounts based on how much time has
passed since they were created.
2. Estimate rates of uncollectibility for each group.
3. Apply rate to each group to get the required
balance for the Allowance account.
24
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Aging of Accounts Receivable
Example: At December 31, the receivables for
DeCor were classified as follows:
DeCor
Schedule of Accounts Receivable by Age
31-Dec-14
Days Past Due
Current
1 - 30
31 - 60
61 - 90
Over 90
Accounts
Receivable
Balance
$
$
25
37,000
6,500
3,500
1,900
1,000
49,900
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Aging of Accounts Receivable
Using estimated bad debt percentages, DeCor would
calculate the estimated uncollectible amount as follows:
DeCor
Schedule of Accounts Receivable by Age
31-Dec-14
Accounts
Estimated
Estimated
Receivable
Bad Debts
Uncollectible
Days Past Due
Balance
Percent
Amount
Current
1 - 30
31 - 60
61 - 90
Over 90
$
$
26
37,000
6,500
3,500
1,900
1,000
49,900

© 2013 McGraw-Hill Ryerson Limited.
2% $
5%
10%
25%
40%
$

740
325
350
475
400
2,290

LO 3
Aging of Accounts Receivable
DeCor’s unadjusted balance in
the allowance account is a debit
of $200. The previous
computation shows the desired
balance is $2,290.
27
Allowance for Doubtful Accounts
Unadj. bal. 200
© 2013 McGraw-Hill Ryerson Limited.
Adj. bal. 2,290
LO 3
Aging of Accounts Receivable
DeCor’s unadjusted balance in
the allowance account is a debit
of $200. The previous
computation shows the desired
balance is $2,290. Therefore,
the adjusting entry is for:
Allowance for Doubtful Accounts
Unadj. bal. 200
Adj.
2,490
Adj. bal. 2,290
$2,290 + 200 = $2,490.
28
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Aging of Accounts Receivable
DeCor’s unadjusted balance in
the allowance account is a debit
of $200. The previous
computation shows the desired
balance is $2,290. Therefore,
the adjusting entry is for:
Allowance for Doubtful Accounts
Unadj. bal. 200
2,490
Adj. bal. 2,290
$2,290 + 200 = $2,490.
Bad Debts Expense
2,490
Allowance for Doubtful Accounts
2,490
To record estimated bad debts
29
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Direct Write-off Method
•
•
•
Sometimes used as an alternative to the
Allowance method when uncollectible
accounts are not material.
The loss from an uncollectible account is
recorded when it is determined to be
uncollectible.
This method does not satisfy the principles
of prudence and matching.
30
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Writing Off a Bad Debt Direct Write-off Method
Example: A specific customer’s account
(Jack Kent) is considered uncollectible.
The entry to record the write-off is:
Bad Debts Expense
520
Accounts Receivable—Jack Kent
520
31
© 2013 McGraw-Hill Ryerson Limited.
LO 3
Mini-Quiz
On October 29, 2014, TC Co. concluded that a customer's
$4,400 account receivable was uncollectible and that the
account should be written off. What effect will this write-off
have on TC Co.’s 2014 net income and balance sheet
totals assuming the allowance method is used to account
for bad debts?
A)Decrease in net income; no effect on total assets.
B)No effect on net income or on total assets.
C)Decrease in net income; decrease in total assets.
D)Increase in net income; no effect on total assets.
E)No effect on net income; decrease in total assets.
32
© 2013 McGraw-Hill Ryerson Limited.
Mini-Quiz
On October 29, 2014, TC Co. concluded that a customer's
$4,400 account receivable was uncollectible and that the
account should be written off. What effect will this write-off
have on TC Co.’s 2014 net income and balance sheet
totals assuming the allowance method is used to account
for bad debts?
A)Decrease in net income; no effect on total assets.
B)No effect on net income or on total assets.
C)Decrease in net income; decrease in total assets.
D)Increase in net income; no effect on total assets.
E)No effect on net income; decrease in total assets.
ADA
4,400
A/R
4,400
33
© 2013 McGraw-Hill Ryerson Limited.
Short-Term Notes Receivable
Promissory Note
A written promise to pay a specified amount
of money either on demand or at a definite
future date.
Short-Term Note Receivable
A promissory note that becomes due within
12 months or within the firm’s operating
cycle.
34
© 2013 McGraw-Hill Ryerson Limited.
LO 4
Short-Term Notes Receivable
•
•
Usually interest bearing.
Interest rates are stated on an annual
basis.
Interest is calculated as follows:
Principal
Interest = of the
note
X
Annual
interest
rate
X
Time
expressed
in years
or I=Prt
35
© 2013 McGraw-Hill Ryerson Limited.
LO 4
Short-Term Notes Receivable
Example: TechCom receives a $1,000, 90day, 6% promissory note at the time of a
sale.
The entry to record the transaction would be:
Notes Receivable
Sales
36
© 2013 McGraw-Hill Ryerson Limited.
1,000
1,000
LO 4
Short-Term Notes Receivable
Example: On December 16, TechCom
receives a $3,000, 60-day, 6% promissory
note and $1,000 cash to settle a $4,000
past due account.
The entry to record the transaction would be:
Cash
1,000
Notes Receivable
3,000
Accounts Receivable
4,000
37
© 2013 McGraw-Hill Ryerson Limited.
LO 4
Short-Term Notes Receivable
On December 31, 15 days after the note is issued, an
accrual for interest earned on the note is made.
The entry to record the accrual would be:
Interest Receivable
Interest Revenue
(3,000 x 6% x 15/365)
7.40
7.40
On February 14, the 60-day note matures.
The entry to record the honouring of the note would be:
Cash
3,029.59
Interest Revenue
Interest Receivable
Notes Receivable
(3,000 x 6% x 60/365)= 29.59
38
© 2013 McGraw-Hill Ryerson Limited.
22.19
7.40
3,000.00
LO 4
Short-Term Notes Receivable
•
•
•
Sometimes the maker of a note does not
pay the note at maturity. This is known as
dishonouring the note.
The payee should use every legitimate
means to collect.
If the note was made to replace an AR then
it should be removed from Notes
Receivable and reinstated as an Account
Receivable.
39
© 2013 McGraw-Hill Ryerson Limited.
LO 4
Review
Explain why the allowance method satisfies
the generally accepted principles of prudence
and matching.
The allowance method ensures that the asset,
accounts receivable, and the reported net income are
not overstated. In this way it accomplishes the
requirements of the prudence principle.
The allowance method recognizes the bad debts
expense in the same period in which the related credit
sales were recognized. In this way it accomplishes
the required matching of expenses with the period in
which the revenue was recognized.
•
•
40
© 2013 McGraw-Hill Ryerson Limited.
Review
Explain how to record the receipt of a note
receivable.
• A note is recorded by entering the total
amount borrowed (principal) as a debit to
Notes Receivable and as a credit to the
account representing the asset or service
exchanged for the note.
41
© 2013 McGraw-Hill Ryerson Limited.
Converting Receivables to Cash
Before Maturity- Appendix 9A
Receivables are sometimes converted
into cash before maturity since:
1.
2.
42
Companies may need the cash.
Companies do not want to be involved in
the collection activities.
© 2013 McGraw-Hill Ryerson Limited.
LO 5
Converting Receivables to Cash
Before Maturity- Appendix 9A
Conversion of receivables into cash is
accomplished by either:
1.
2.
43
Selling them to a factor
Pledging them as loan security.
© 2013 McGraw-Hill Ryerson Limited.
LO 5
Using the Information
Appendix 9B
The quality (likelihood of collection) and
liquidity (speed of collection) of a company’s
receivables may be assessed by calculating:
1. Accounts receivable turnover ratio
2. Days’ sales uncollected
44
© 2013 McGraw-Hill Ryerson Limited.
LO 6
Using the Information
Appendix 9B
Net Sales
Accounts receivable turnover =
Average accounts receivable
Days’ sales
Uncollected
45
=
Accounts receivable
x 365
Net sales
© 2013 McGraw-Hill Ryerson Limited.
LO 6
End of Chapter
46
© 2013 McGraw-Hill Ryerson Limited.
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