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Receivables Chapter 9 Receivables Accounts receivable Notes receivable Design internal controls for receivables. Objective 1 Establishing Internal Control What are some controls over accounts receivable? Control over mail receipts Approval for write-off Separation of duties

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receivables

Receivables

Chapter 9

receivables2
Receivables

Accountsreceivable

Notes receivable

establishing internal control
Establishing Internal Control
  • What are some controls over accounts receivable?

Control over

mail receipts

Approval for

write-off

Separation

of duties

objective 2
Use the allowance method

to account for uncollectibles

and estimate uncollectibles

by the percent of sales

and aging approaches.

Objective 2
the credit department
The Credit Department
  • Companies grant credit to customers in order to increase sales.
  • The credit department evaluates customers who apply for credit cards.
uncollectible accounts expense
Uncollectible Accounts Expense

Allowance method

Directwrite-off method

methods for estimating uncollectible expense
Methods for Estimating Uncollectible Expense

Percentage of Sales

Aging of Receivables

percentage of sales
Percentage of Sales
  • This is also called the income statement approach.
  • It is based on prior experience of the business.
  • It is computed as a percentage of creditsales.
  • It ignores the current balance of the allowance account.
  • The percentage used is adjusted as needed to reflect collection experience.
percentage of sales example
Percentage of Sales Example
  • The credit department of Ana’s Boutique estimates (based on prior experience) that 1% of net credit sales are uncollectible.
  • Net credit sales for the year just ended were $500,000.
  • What is the adjusting entry?
  • $500,000 × 1% = $5,000
percentage of sales example11
Percentage of Sales Example

Dec 31, 20xx

Uncollectible Account Expense 5,000

Allowance for Uncollectible Accounts 5,000

Recorded expense for the year

percentage of sales example12
Percentage of Sales Example

What is the effect of this adjusting entry?

Decrease in

Net Income

Decrease in net

Accounts Receivable

aging of accounts receivable
Aging of Accounts Receivable
  • This approach is also called the balance sheetapproachbecause it focuses on accounts receivable.
  • Individual accounts receivable from specific customers are analyzed according to the length of time they remain outstanding.
aging of receivables example
Aging of Receivables Example
  • Assume that International Hospital’s past collection experience indicates the following:
  • Length of time% uncollectible 1-30 days 2.0 31-60 days 3.0 61-90 days 5.0 90 + days 8.0
aging of receivables example15
LengthAmount%

1-30 $1,900,000 2 $ 38,000

31-60 1,000,000 3 30,000

61-90 700,000 5 35,000

90 + 500,000 8 40,000

Total $4,100,000 $143,000

Aging of Receivables Example

Accounts

Receivable

Allowance for

Uncollectible Accounts

aging of receivables example16
Aging of Receivables Example
  • The allowance account is adjusted to this $143,000 balance:
  • Assume that the account currently has a credit balance of $100,000.
  • What is the adjustment?
aging of receivables
Aging of Receivables

Uncollectible Account

Expense 43,000

Allowance for Uncollectible

Accounts 43,000

To record allowance for uncollectibles

What if the account had a

debit balance of $1,000?

aging of receivables18
Allowance for Uncollectible

Adjustment

1,000 144,000

Adjusted balance 143,000

Aging of Receivables
comparing the percentage of sales and aging methods
Comparing the Percentage of Sales and Aging Methods

Allowance Method

Percent of Sales Method

Aging of Accounts Receivable Method

Adjusts Allowance for

Uncollectible Accounts

Adjusts Allowance for

Uncollectible Accounts

BY

TO

Amount of

Amount of

UNCOLLECTIBLE

ACCOUNT EXPENSE

UNCOLLECTIBLE

ACCOUNTS RECEIVABLE

writing off uncollectible accounts
Writing OffUncollectible Accounts
  • What happens when it becomes apparent that an account will not be collected?
  • It must be written off.
  • How?
  • Debit Allowance for Uncollectible Accounts.
  • Credit Accounts Receivable.
recoveries
Recoveries
  • How is the collection of a previously written- off account recorded?
  • Debit Accounts Receivable (to reinstate the account).
  • Credit Allowance for Uncollectible Accounts.
  • Debit Cash.
  • Credit Accounts Receivable (to record the collection).
objective 3
Use the direct write-off method

to account for uncollectibles.

Objective 3
direct write off method
Direct Write-Off Method
  • Using this method, an account is written off only when it becomes uncollectible.
  • No allowance account is created.
  • This method is simple to use.
  • The balance sheet is overstated.
  • The income statement is understated.
credit card and bankcard sales
Credit Card and Bankcard Sales
  • These save retailers the cost of a credit department.
  • The retailer is required to pay a fee (called a discount) for usage.
credit card and bankcard sales25
Credit Card and Bankcard Sales
  • How would Ana’s Boutique record a $100 credit card sale with a 2% service charge?

Accounts Receivable (credit card) 98

Credit Card Discount 2

Sales Revenue 100

To record a credit card sale of $100

less a 2% service charge fee

debit card sales
Debit Card Sales

Using a debit card is like

paying with cash.

notes receivable an overview
Notes Receivable: an Overview
  • A note receivable may arise from a sale or may be given in settlement of an account receivable.
  • The maker pays the payee the maturity value.
  • The maturity value includes principal plus interest.
notes receivable an overview28
Promissory Note

$10,000.00 Nov. 30, 2004

For value received, I promise to pay to the order of

POPULAR BANK

HOUSTON, TEXAS

TEN THOUSAND AND NO/100…………DOLLARS

ON FEBRUARY 28, 2005

Plus interest at the annual rate of 10 percent.

__________

Notes Receivable: an Overview

Payee

notes receivable an overview29
Promissory Note

$10,000.00 Nov. 30, 20x4

For value received, I promise to pay to the order of

POPULAR BANK

HOUSTON, TEXAS

TEN THOUSAND AND NO/100…………DOLLARS

ON FEBRUARY 28, 20x5

Plus interest at the annual rate of 10 percent.

__________

Notes Receivable: an Overview

Principal

notes receivable an overview30
Promissory Note

$10,000.00 Nov. 30, 20x4

For value received, I promise to pay to the order of

POPULAR BANK

HOUSTON, TEXAS

TEN THOUSAND AND NO/100…………DOLLARS

ON FEBRUARY 28, 20x5

Plus interest at the annual rate of 10 percent.

__________

Notes Receivable: an Overview

Interest rate

Date of issue

notes receivable an overview31
Promissory Note

$10,000.00 Nov. 30, 20x4

For value received, I promise to pay to the order of

POPULAR BANK

HOUSTON, TEXAS

TEN THOUSAND AND NO/100…………DOLLARS

ON FEBRUARY 28, 20x5

Plus interest at the annual rate of 10 percent.

__________

Notes Receivable: an Overview

Maturitydate

identifying a note s maturity date
Identifying a Note’sMaturity Date
  • When the period is given in days…
  • the maturity date is determined by counting the days from the date of issue.
  • The date the note was issued is omitted.
  • The maturity date is counted.
computing interest on a note
Computing Interest on a Note

Principal × Rate × Time = Interest

Compute interest on the note due to Popular Bank.

Principal: $10,000

Interest: 10%

Time: December 1, 20x4, to February 28, 20x5

$10,000 × 10% × 90 ÷ 360 = $250

recording notes receivable
Recording Notes Receivable
  • Assume the accounting period ended December 31.
  • How much interest was earned by the bank as of December 31?
  • $10,000 × 10% × (31 ÷ 360) = $86.11
recording notes receivable36
Recording Notes Receivable

December 31

Interest Receivable 86.11

Interest Revenue 86.11

To accrue interest on the note

recording notes receivable37
Recording Notes Receivable
  • How does the bank record the collection at maturity?

February 28

Cash 10,250.00

Note Receivable 10,000.00

Interest Receivable 86.11

Interest Revenue 163.89

Record interest on note

dishonored notes receivable
Dishonored Notes Receivable
  • If the maker of the note fails to pay the maturity value to the new payee, then the original payee legally must pay the bank the amount due.
objective 5
Report receivables

on the balance sheet.

Objective 5
reporting receivables
Reporting Receivables
  • Some companies report a single amount for its current receivables in the body of the balance sheet.
  • They use a note to the financial statements to give more details.
objective 6
Use the acid-test ratio and days’

sales in receivables to evaluate

a company.

Objective 6
acid test ratio
Acid-Test Ratio
  • This is a stringent test of liquidity.
  • It measures the entity’s ability to pay its current liabilities immediately.

Acid-test ratio = (Cash + Short-term investments

+ Net current receivables) ÷ Total current liabilities

days sales in receivables
Days’ Sales in Receivables
  • It is a measure of the time it takes to collect receivables.
  • A smaller number indicates a quick conversion to cash.
days sales in receivables44
Days’ Sales in Receivables

One day’s sales = Net sales ÷ 365 days

Days’ sales in average accounts receivable =

Average net accounts receivable ÷ One day’s sales

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