Chapter 8
Accounting for Receivables
ACCT 100
Chapter Objectives
1. Accounts Receivables and Notes
Receivables
2. Using Accounting for Decision Making
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Accounts Receivable and Notes
Receivable
Receivables: monetary claims against
business or individuals from
selling goods, providing
services or lending money
(i.e., accounts receivable,
notes receivable, interest
receivable).
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A. Accounts Receivable (A/R)
(trade receivables):
An oral promise for future cash receipt as
a result of sales; a current asset.
n
The accounts receivable account in the
general ledger serves as a control
account which records the total amounts
of receivable from all customers.
Companies also keep subsidiary ledger
accounts receivable for each customer.
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A. Accounts Receivable (Continued)
General Ledger
A/R
Bal. 10,000
Subsidiary Ledger
A/R
A. Company
Bal. 3,000
B. Company
Bal. 4,000
C. Company
Bal. 3,000
Journal Entries:
A/R - A Company 3000
Sales Revenue
3000
A/R - B Company 4000
Sales Revenue
4000
A/R - C Company 3000
Sales Revenue
3000
Total $10,000
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Uncollectible Accounts (Bad Debts)
n
n
The benefit of allowing customers to
purchase on credit (or on account) is
the increase of sales.
The risk associates with this practice is
the cost of uncollectible accounts.
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The Accounting for the Uncollectible
Accounts (Bad Debt (B/D) Expense):
Current Practice: Estimate the B/D expense at the end
of the period and recognize the expense (FASB No.5)
Adjusting entry for B/D expense:
Estimated B/D expense = $2,000
12/31 B/D Exp. (or Uncollectible Accounts Expense) 2000
Allowance for Uncollectible Accounts 2000
Writing off uncollectible accounts:
When $200 B/D actually occurred:
Allowance for uncollectible Accounts
A/R - A Company
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200
200
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The Accounting for the Uncollectible
Accounts (Continued)
If $100 of the B/D recovered:
A/R
100
Allowance for Uncollectible Accounts
Cash
100
100
A/R
n
n
100
The current practice is complied with the
matching principle.
The direct write-off method (recognize the
B/D expense when it occurs) is NOT
recommended.
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Estimation of B/D Expense:
1. Percentage of net credit sales (I/S
approach)
2. Percentage of accounts receivable
(B/S approach)
3. Aging of accounts receivable (B/S
approach using individual account
information)
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Estimation of B/D Expense Example:
1. Net credit sales = $20,000
Estimated B/D expense = 2%
12/31 B/D Expense
400
Allowance for uncollectible accounts
400
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Estimation of B/D Expense Example:
(Continued)
2. Percentage of A/R:
A/R Balance = $50,000
Estimated B/D expense = 1%
Balance of the Allowance for uncollectible
accounts prior to the adjustment= $300
The adjusted balance of the allowance for
uncollectible accounts = $50,000 * 1% = $500
Bad Debt Expense = $500 - 300 = 200
B/D expense
Allowance for uncollectible accounts
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200
200
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Estimation of B/D Expense Example:
(Continued)
3. Aging-of-A/R: The balance of the allowance
account prior to adjustment= $100
Age
0-30
31-60
61-90
over 90
Total
Amount
$10,000
$7,000
$4,000
$2,000
B/D(%) Allowance Amount
1
$100
2
$140
3
$120
4
$80
$440
B/D expense = $440 - 100 = 340
12/31 adjusting entry:
B/D Expense
340
Allowance for uncollectible accounts
340
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Estimation of B/D Expense
n
All three estimation methods are
acceptable for the financial reports. In
practice, some companies use the
percentage of sales method for the
interim statements (i.e., monthly or
quarterly reports), but use the aging of
accounts receivable method for the
annual financial reports.
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Credit-Card Sales
n
Benefits of credit-card sales to
a. Customers: the convenience of
purchase and payment.
b. Companies (the sellers):
1)no risk of uncollectible accounts;
2)no need to do a credit check;
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Credit-Card Sales (Continued)
3) increase of sales;
4) receive cash quickly.
c. Credit-Card Companies: charge 2% to
6% of service charge to the seller
(source: Weygandt, etc. textbook).
n
Disadvantages of credit-card sales to
customers, companies (the sellers)
and the credit-card companies:
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Accounting for Credit Card Sales – Credit
Cards Issued by a Financial Company:
n
Example: Suppose you shopped at the Gap
and paid $100 for a sweater using a VISA
card. Gap’s entry to record the VISA card
sale, subject to 2% VISA discount (the
service charge by VISA):
Cash
Service Charge Expense
Sales Revenue
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98
2
100
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B. Accounting for Notes Receivable
n
n
For an example of a promissory note,
see Illustration 8-10 of Weygandt, etc.
textbook.
N/R: a written promissory note that the
debtor (the maker of the note)
promises to pay the creditor (the
payee) the written amount on a
specific date plus the agreeable
interest.
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B. Accounting for Notes Receivable
(Continued)
n
n
n
Short-Term N/R: the note is due within one
year or one operating cycle, whichever is
longer. Short-term N/R is recorded at the
amount expected to be collected.
Long-Term N/R: the due date of the note is
beyond one year or one operating cycle,
whichever is longer.
For interest bearing N/R, the accrued
interest is recognized at the end of period.
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Example (a):
a. Greenway Co. signed a promissory note to
borrow $1,000 from Kay Bank on 9/30/08.
The note is an interest bearing note with an
annual interest rate of 12%. The maturity of
the note is on 3/31/09 (i.e., a six-month note).
Kay Bank’s entries are as follows:
9/30/08 Note Receivable -- Greenway 1,000
Cash
1,000
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Example (a): (Continued)
12/31/08 Interest Receivable
Interest Revenue
30
30
3/31/09 Cash
1,060
Note Receivable -- Greenway
1,000
Interest Receivable
Interest Revenue
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30
30
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Example (b):
b. On 4/16/08, Gateway Co. receives a $12,000
90-day promissory note at 12% annual interest
from a customer (Four Seasons) from selling
personal computers. Gateway’s entries to
record the sale and collection are:
4/16/08 N/R -- Four Seasons
12,000
Sales Revenue
12,000
7/15/08 Cash
12,360
N/R
12,000
Interest Revenue
360
Interest = $12,000x12% x 90/360 = $360
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Dishonored Note
If Four Season (the maker) failed to pay
Gateway (the payee) on 7/15/08,
Gateway will make the following entry:
Accounts Receivable 12,360
Note Receivable
12,000
Interest Revenue
360
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Example (c):
c. On 5/2/08, Grouti Co. sees that it will not be
able to pay off its $5,000 account payable to
GE Co. Grouti negotiated with GE. GE
accepts a one-year $5,000 promissory note,
with 10% interest from Grouti on 5/17/08 to
settle Grouti’s $5,000 account receivable.
GE’s entry is:
Note Receivable -- Grouti Co.
5,000
Accounts Receivable -- Grouti Co.
5,000
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Using Receivables to Finance
Operations
1. Discounting Notes Receivables (with
contingent liabilities).
2. Factoring Accounts Receivables
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Internal Control Issue of Receivables
n
Separation of bookkeeping of
receivable accounts from receiving
of cash payments
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Using Accounting for Decision
Making
Current ratio =
Current Assets
Current Liabilities
Short-Term Net Current
Acid-Test (Quick) ratio = Cash + Investment + Receivables
Current Liabilities
In general, a quick ratio of 1 is considered to be safe.
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Average Collection Period
Accounts receivable turnover rate =
Net credit sales (annual) /average net A/R
Average collection period =
365 days / Accounts rece. turnover rate
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Average Collection Period (contd.)
Example:
Net Credit Sales (annual)= $912,500
Average A/R = $60,000
Accounts receivable turnover rate
=$912,000/$60,000 = 15.2 (times)
Average Collection Period of A/R
=365 days/15.2 = 24 days
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