(7) Reporting and analysing Cash & Receivables

Question 1

What are the 2 methods used to account for uncolletable amounts?

Answer 1

1. Direct write-off method

2. Allowance method

Question 2

Prepare a journal entry using the direct-write off method to write-off an uncollectable amount of $450.

Answer 2

DR Bad debts expense 450

CR Accounts receivable 450

Question 3

Prepare a journal entry using the allowance method to write-off an uncollectable amount of $450.

Answer 3

DR Allowance for doubtful debts 450

CR Accounts receivable 450

Question 4

What methods are used for estimating the doubtful debts allowance?

Answer 4

1. Percentage of Net Sales method

2. Ageing of Total Receivables method

Question 5

What kind of account is the Allowance for Doubtful Debts?

Answer 5

Contra-asset account

Question 6

Equation for calculating Allowance for Doubtful Debts closing balance.

Answer 6

AFDD closing balance = AFDD opening balance + bad debts recovered + bad debts expense - bad debts written off

Question 7

How do you calculate bad debts expense using the Ageing of Total Receivables method?

Answer 7

1. Calculate the Allowance for Doubtful Debts closing balance
2. Use the following equation to calculate bad debts expense:
   AFDD closing balance = AFDD opening balance + bad debts recovered + bad debts expense - bad debts written off

Question 8

How do you calculate bad debts expense using the Percentage of Net Sales method?

Answer 8

Bad debts expense = % of net credit sales

Question 9

On April 11, 2019, $800 was received from J.Holloway; whose account of $800 had been written off as uncollectible in 2018.

Prepare a journal entry for the above transaction.

Answer 9

DR Accounts receivable - J. Holloway 800
CR Allowance for doubtful debts 800
(to record write-off for J. Holloway)

DR Cash at bank 800
CR Accounts receivable - J. Holloway 800
(to record cash receipts)

Question 10

On Sept 8, 2019, Accounts Receivable-D. Draper $9,900 was written off as uncollectible.

Prepare a journal entry for the above transaction.

Answer 10

DR Allowance for doubtful debts 9,900

CR Accounts receivable - D. Draper 9,900

Question 11

What is a dishonoured cheque?

Answer 11

A dishonoured cheque is a cheque is not paid by the bank because of insufficient funds in the payer’s bank account or because it has been cancelled by the payer.

Question 12

What does the receivables turnover measure?

Answer 12

Liquidity of receivables

Question 13

What is the receivables turnover formula?

Answer 13

Receivables turnover
= net credit sales / average net receivable

Unit: times per year

Question 14

What is a dishonoured cheque?

Answer 14

A dishonoured cheque occurs when the bank on which the cheque is drawn refuses to pay the cheque, because it has been cancelled or because the balance of the account on which
it is drawn is less than the amount of the cheque.

Question 15

What does the receivables turnover measure?

Answer 15

Liquidity of receivables

Question 16

What is the receivables turnover formula?

Answer 16

Receivables turnover

= net credit sales / average net receivable

Question 17

What is the average collection period formula?

Answer 17

Average collection period
= 365 / receivables turnover

Unit: days

Question 18

What is the credit risk ratio formula?

Answer 18

Credit risk ratio
= allowance for doubtful debts / accounts receivable

(Expressed in percentage)

Question 19

Journal entries for dishonoured cheque

Hint: journalise the original transaction then ‘reverse’ the original transaction

Answer 19

DR Cash
CR Accounts receivable
(original transaction)

DR Accounts receivable
CR Cash
(to record when a cheque is bounced)

Question 20

How is accounts receivable reported under the allowance method?

Answer 20

Accounts receivable is reported at the NET amount on the statement of financial position

Reported like:
Accounts receivable X
Less: Allowance for doubtful debts X (net amount)

Question 21

What is the difference between the direct write-off method and the allowance method?

Hint: net realisable value

Answer 21

Direct write-off method:
- net realisable value = accounts receivable amount

Allowance method:
- net realisable value = accounts receivable amount less allowance for doubtful debts
——————————————————————————–
Another difference is that the allowance method uses the allowance for doubtful debts

Question 22

Journal entries for dishonoured cheque

Hint: journalise the original transaction then ‘reverse’ the original transaction

Answer 22

DR Cash
CR Accounts receivable

DR Accounts receivable
CR Cash
(to record when a cheque is bounced)

Question 23

3 differences between a/c receivable and notes receivable

Answer 23

Accounts receivable:
- to be collected within 30-60 days (more liquid)

• less formal
• not interest bearing

Notes receivable:
- to be collected within 60-90 days or longer (less liquid)

• more formal
• interest bearing

Question 24

What are the 3 accounting problems associated with a/c receivable?

Answer 24

• recognising accounts receivable
• valuing accounts receivable
• accelerating cash receipts from receivables

Question 25

Where are amounts owed by customers recognised in?

Answer 25

• a/c receivable control account (general ledger)
• a/c receivable subsidiary ledger
• initially recognised when the sale occurs (or service is provided) at invoice amount (less sales R&A)

Question 26

At initial recognition, an entity shall measure trade receivables at….

Answer 26

…. at their transaction price

this means that expectations of collectability are NOT considered at this point

Question 27

What is a financial instrument?

Answer 27

A financial instrument is any contract that gives rise to a financial asset of one entity and a financial liability or equity instrument of another entity.

Question 28

An entity shall always measure the loss allowance at … ?

Answer 28

… at an amount equal to lifetime expected credit losses for trade receivables or contract assets that result from transactions that are within the scope of AASB

Question 29

How are receivables reported?

Answer 29

• receivables due within 12 months or entity’s operating cycle are included in the current asset section
• notes to the financial statements shows accounting policy and breakdown of receivables including face value and allowance write-down

Question 30

How do we manage receivables?

Answer 30

1. Extending credit
   - a firm needs to be careful that it does not end up with risky customers as a result of extending its credit policy who cannot, or will not, pay their debt
2. Establishing a payment period
   - the payment period should be consistent with that of the firm’s competitors
3. Monitoring collections
   - credit risk ratio: measure of the risk that customers may not pay their accounts
   - the lower the ratio, the better
4. Evaluating the receivables balance
   - receivables turnover and average collection period: number of times on average receivables are collected and times converted to days
5. Accelerating cash receipts
   - offer incentives for prompt payment (settlement discounts)
   - on-sale of receivables (factoring): fast source of cash, to reduce cost of invoicing and collection
   - use of credit card sales: increase sales without bad debts

Question 31

Credit risk ratio formula

Answer 31

Credit risk ratio = allowance for doubtful debts / accounts receivable

Question 32

Receivables turnover formula

Answer 32

Receivables turnover = net credit sales / average net receivables

Question 33

Average collection period formula

Answer 33

Average collection period = 365 / receivables turnover

Question 34

What is a note receivable?

Answer 34

• A note receivable is a formal credit instrument and gives the holder a more expedient legal claim to assets than accounts receivable.
• It does not always arise from transactions with customers.
• • It may be accepted from customers who need to extend payment of outstanding account receivable or are considered high risk
• Mainly originate from lending transactions
• Included as an asset in the financial statements

Question 35

Journal entry for notes receivable recognition.

Hint: Notes receivable - an account receivable requests more time to pay

Answer 35

DR Notes Receivable

CR A/c Receivable

Question 36

Journal entry for honouring notes receivable (paid in full at maturity).

Answer 36

DR Cash
CR Interest Income
CR Notes Receivable

Question 37

How is a dishonoured cheque treated in the bank reconciliation?

Answer 37

It reduces the balance of the bank account reported on the bank statement. The
dishonoured cheque should be recorded in the Cash at Bank account. It does not appear in the bank reconciliation statement.

Question 38

Will a dishonoured cheque require an adjusting entry in the business’s records?

Answer 38

A dishonoured cheque should be entered into the cash receipts as a reduction in cash
receipts. The adjusting entry in the company’s ledger accounts is a debit to Accounts
Receivable and a credit to Cash.

Adjusting entry:
DR A/c Receivable
CR Cash