Chapter 9: Accounting for Receivables Flashcards
Interest Period
Period of time during which interest is computed - original date of note to maturity date.
When counting by days:
- count maturity date
- omit date of issue
Percentage of Receivables Method of Estimating Allowance for Doubtful Accounts
- Focus on accurate valuation of receivables on the balance sheet.
- Sometimes done as a total percentage of all Accounts Receivable, but often uses an A/R aging schedule.
- Takes into account any existing balance in Allowance for Doubtful Accounts
- If credit balance: subtract balance from target balance to get adjustment.
- If debit balance: add balance to target to get adjustment
Percentage of Sales Method of Estimating Allowance for Doubtful Accounts
- Based on net credit sales
- Focus on accurate estimation of Bad Debt Expense
- Method achieves a matching of income statement costs/revenues
- Any existing balance in Allowance for Doubtful Accounts is ignored (considers sales from current period only)
Aging Schedule
Classifies customer balances by the length of time they have been unpaid.
Eg. 1-30 days, 31-60, 61-90, 90+ days
Reasons to Sell Receivables
1) Receivables may be only reasonable source of cash
2) Billing and collection are time consuming and costly
Options:
- Sell to a factor (finance company or bank)
- Only offer credit in the form of credit card sales (this shortens the operating cycle by accelerating receipt of cash from receivables)
Factoring
Factor buys receivables from business then collects cash from the customers.
Typically factors charge a commission to the company - about 1% to 3% of receivables purchsed.
Pros & Cons of Credit Card Sales
Pros:
- Retailer does not need to worry about credit history
- Retailer receives cash more quickly directly from credit card issuer
Cons:
- Fee of 2%-6% charged by credit card companies
Promissory Note
A written promise to pay a specified amount of money at a specified time (the maturity date) or on demand.
Designed like a check with an interest rate
Used:
- when money is lent or borrowed
- when the amount of a transaction and credit period exceeds normal limits
- in settlement of accounts receivable
“Note receivable” to the Payee
“Note payable” to the maker
Receivables (types)
Amounts due to an economic entity that are expected to be received in cash.
Accounts Receivable: owned by customers for goods or services sold.
Notes Receivables: claims for formal instruments of credit issued as proof of debt.
Other Receivables: “Nontrade” interest, loans to officers, advances in pay, income tax refundable.
Subsidiary Accounts
Accounts where the combined balance makes up the main account
Ex: A/R accounts for each customer = total A/R
Pledging Receivables
When a business uses its receivables as securities for a loan.
Journaling Credit Card Sales
Includes service charge expense
(Total sales * charge % = service charge)
Debit Cash (increase)
Debit Service Charge Expense (increase)
Credit Sales Revenue (increase)
Journaling Receivables Sold to a Factor (Factoring)
Debit Cash (increase)
Debit Service Charge Expense (increase)
Credit Accounts Receivable (decrease)
Journaling Uncollectable Accounts Receivable
Accrual accounting: debited to Bad Debt Expense/ Uncollectable Accounts Expense
Cash Accounting - because credit sales aren’t recorded until money is received no bad debt expense exists
Direct write off is not acceptable under GAAP for financial reporting. must use Allowance method
Journaling Accounts Receivable Interest Accrual
Debit Accounts Receivable (increase) interest amount
Credit Interest Revenue (increase)
Journaling Disposing of Notes Receivable Dishonored
Dishonored = not paid in full at maturity. Defaulted note is no longer negotiable.
If expecting collection eventually: move to A/R
Debit Accounts Receivable (face value + interest)
Credit Notes Receivable
Credit Interest Revenue
If not expecting collection: write off - interest is not recognized
Debit Allowance for Doubtful Accounts (face value only)
Credit Notes Receivable
Journaling Disposing of Notes Receivable Factored
Generally note sold to factor before maturity
Journaling Disposing of Notes Receivable Honored
Paid in full at maturity
Debit Cash (full amount + interest)
Credit Notes Receivable (face value)
Credit Interest Revenue (if interest not yet recognized)
or
Debit Cash
Credit Notes Receivable (face value)
Credit Interest Receivable (previously recognized)
Credit Interest Revenue (not yet recognized)
Direct Write Off of Uncollectable Accounts
Not acceptable under GAAP - violates matching principal (receivable not stated at net value on period reports)
Debit Bad Debt Expense
Credit Accounts Receivable
Listed as an expense on the income statement
If the account is then recovered the above entry has to be reversed before journaling cash payment
Journaling Notes Receivable Issuance and Accruals
Debit Note Receivable
Credit Cash (for a loan), Sales (for credit sale) or A/R
Recognizing Accrued interest
Debit Interest Receivable
Credit Interest Revenue
Journaling Net Receivable Repayment
Debit Cash
Credit Note Receivable
Credit Interest Receivable (if already accrued)
Credit Interest Revenue (if not accrued yet)
Journaling Accounts Receivable Payment Lost Discount
Debit Cash (full amount) Credit Accounts/Receivable (full Amount)
Journaling Accounts Receivable Payment within the discount period
Debit Cash (increase)
Debit Sales discount (amount of discount)
Credit Accounts Receivable (full amount)
Recovery of an Account Previously Written Off
Two part entry
1) Reverse write-off (have to put it back before you can pay it off)
Debit Accounts Receivable
Credit Allowance for doubtful accounts
2) recognize payment received
Debit Cash
Credit Accounts Receivable
Allowance Method for Uncollectable Accounts
Required by GAAP - by recording estimated uncollectables from sales in that period allows for matching in the period.
1) Set up Allowance for Doubtful Accounts contra-asset account (lowers value of asset account) using an adjusting entry at the end of a period
Debit Bad Debts Expense
Credit Allowance for Doubtful Accounts
Amount usually calculated as a $ of sales (income statement) or % of receivables (balance sheet)
2) Realized writeoff:
Debit Allowance for Doubtful Accounts
Credit Accounts Receivable
NRV
Net Realizable Cash Value
Accounts receivable
Less: Uncollectable Accounts Receivable
NRV on Balance Sheet
Current Assets:
Accounts Receivable $XXXX
Less: Allowance for Bad Debts ($XX) Total Here
Receivables on Income Statement
Bad Debt Expense + Service Charge Expense = Selling Expenses (operating expenses)
Interest revenue listed under “other revenues and gains” (not operating)
Receivables on Balance Sheet
- Identify each major type of receivable in the balance sheet or in the notes.
- report short term receivables as current assets
- report both gross amount of accounts receivable AND allowance for doubtful accounts
Valuing Notes Receivables
Like Accounts Receivable it is required that notes receivable are recognized at their net realizable cash value (NRV)
Also uses allowance for doubtful accounts - estimation done similarly to Accounts Receivable
Credit Card Sales and Bank Reconciliation
1) if credit card sales are not yet in the bank statement they are treated as deposits in transit and added to bank balance.
2) When the bank receives the funds it will increase the company’s account and issue a credit memo(randum)
Lowering (changing) percentages to calculate Allowance for Doubtful Accounts
per GAAP may adjust percentages if the methods are adjusted so that expectations for doubtful accounts changes (ex: credit standards or collection methods change)
Valuing Accounts Receivable
- Always a current asset
- Reported at the amount the company expects to be able to collect (NRV=net realizable cash value)
- the difficulty is that an unknown amount of receivables will become uncollectable.
Accounts Receivable Turnover Ratio
measures average numbers of times a company collects its receivables during a period. A measure of liquidity of receivables
Net Credit sales for period / Average Net Accounts Receivable = A/R Turnover
Average Net Accounts Receivable = (Beginning A/R + Ending A/R)/2
Acid Test Ratio
AKA: quick ratio
More stringent than current ratio, less stringent than cash ratio. Measures if company pay all current liabilities with quick assets
(Cash + Cash Equivalents + Short term investments + Net current receivables) / Total current liabilities
result of 1 or higher is considered safe
Quick Assets
Cash + cash equivalents + short term investments + net current receivables
Analysis of Receivables
Ways to evaluate Accounts receivable liquidity
1) Accounts receivable turnover ratio
2) Average collection period
Average Collection period
Measured in days.
Used to assess effectiveness of credit and collection policies.
The collection period should not exceed the credit term period
365 (days in year) / Accounts receivable Turnover = Average Collection Periods in Days
A variant of the accounts receivable turnover ratio
Percentage of Sales basis for estimating allowance for doubtful accounts
Percentage determined based on past experience + anticipated credit policy
current period net credit sales x percentage= bad debt expense for period.
Journal entry
Debit Bad Debt Expense
Credit Allowance for Doubtful Accounts
Net credit sales
Credit sales
less: returns and allowances
less: discounts
Computing Interest
Face Value (principal) of note x annual interest rate x time (as fraction of a year)
Time is always expressed in terms of a year #months/12 or #days / 365 (used to be 360 to get even numbers)
When counting time date of issue is omitted, due date included
Percentage of Receivables Basis for estimating allowance for doubtful accounts
Often based on an aging schedule - estimated percentage of each category of days past due
Takes into account existing allowance for doubtful accounts balance
IFRS: Entry to record Estimated Uncollectable Accounts
Same in IFRS and GAAP
IFRS has more detailed criteria to determine when accounts are uncollectable
May call allowance for bad debts “provisions for bad debts”
IFRS Receivables
IFRS implies that receivables with different characteristics should be reported separately but does not mandate segregation
IFRS permits partial de-recognition of receivables, GAAP does not.
Receivables do NOT include equity and securities
IFRS and Receivables - Factoring
In IFRS the criteria to determine how to record factoring transaction is determined by a combination approach that focuses on risks and rewards and loss of control
GAPP only uses loss of control as criterion in determining how to record factoring
