Wiley - Chapter 7: Cash and Receivables

Chapter 7-1

ReceivablesReceivablesReceivablesReceivables

ChapteChapter r

77

Chapter 7-2

ReceivablesReceivablesReceivablesReceivables

Written promises to pay a sum of money on a specified future date.

Claims held against customers and others

for money, goods, or services.

Oral promises of the purchaser to pay for goods and services

sold.Accounts Accounts

ReceivableReceivableAccounts Accounts

ReceivableReceivableNotes Notes

ReceivableReceivableNotes Notes

ReceivableReceivable

Chapter 7-3

Examples:

Nontrade Receivables

1. Advances to officers and employees.

2. Advances to subsidiaries.

3. Deposits to cover potential damages or losses.

4. Deposits as a guarantee of performance or payment.

5. Dividends and interest receivable.

ReceivablesReceivablesReceivablesReceivables

Chapter 7-4

Valuation of Accounts ReceivableValuation of Accounts ReceivableValuation of Accounts ReceivableValuation of Accounts Receivable

Reporting Accounts Receivable

Valuation (net realizable value)

Accounts Receivable less estimate of uncollectable amount

Sales on account raise the possibility of accounts not being collected

Chapter 7-5

Recognition of Accounts ReceivablesRecognition of Accounts ReceivablesRecognition of Accounts ReceivablesRecognition of Accounts Receivables

Trade DiscountsTrade Discounts

Reductions from the list price

Not recognized in the accounting records

Customers are billed net of discounts

Trade DiscountsTrade Discounts

Reductions from the list price

Not recognized in the accounting records

Customers are billed net of discounts

10 % Discount for new Retail Store

Customers

Chapter 7-6

Recognition of Accounts ReceivablesRecognition of Accounts ReceivablesRecognition of Accounts ReceivablesRecognition of Accounts Receivables

Cash DiscountsCash Discounts

Inducements for Inducements for prompt paymentprompt payment

Gross Method vs. Gross Method vs. Net MethodNet Method

Cash DiscountsCash Discounts

Inducements for Inducements for prompt paymentprompt payment

Gross Method vs. Gross Method vs. Net MethodNet Method Payment

terms are 2/10, n/30

Chapter 7-7

Example:Example: On June 3, Benedict Corp. sold to Chester On June 3, Benedict Corp. sold to Chester Inc., merchandise having a sale price of $5,000 with Inc., merchandise having a sale price of $5,000 with terms of 2/10,n/60, f.o.b. shipping point. On June 12, terms of 2/10,n/60, f.o.b. shipping point. On June 12, Benedict received a check for the balance due from Benedict received a check for the balance due from Chester. Prepare required journal entries assuming Chester. Prepare required journal entries assuming Benedict records the sale at Benedict records the sale at grossgross..

June 3

Recognition of Accounts ReceivablesRecognition of Accounts ReceivablesRecognition of Accounts ReceivablesRecognition of Accounts Receivables

June 12

Gross Method

Chapter 7-8

Example:Example: On June 3, Benedict Corp. sold to Chester On June 3, Benedict Corp. sold to Chester Inc., merchandise having a sale price of $5,000 with Inc., merchandise having a sale price of $5,000 with terms of 2/10,n/60, f.o.b. shipping point. On June 12, terms of 2/10,n/60, f.o.b. shipping point. On June 12, Benedict received a check for the balance due from Benedict received a check for the balance due from Chester. Prepare required journal entries assuming Chester. Prepare required journal entries assuming Benedict records the sale at Benedict records the sale at netnet..

June 3

Recognition of Accounts ReceivablesRecognition of Accounts ReceivablesRecognition of Accounts ReceivablesRecognition of Accounts Receivables

June 12

Net Method

Chapter 7-9

Example:Example: On June 3, Benedict Corp. sold to Chester On June 3, Benedict Corp. sold to Chester Inc., merchandise having a sale price of $5,000 with Inc., merchandise having a sale price of $5,000 with terms of 2/10,n/60, f.o.b. shipping point. On terms of 2/10,n/60, f.o.b. shipping point. On June 29June 29, , Benedict received a check for the balance due from Benedict received a check for the balance due from Chester. Prepare required journal entries assuming Chester. Prepare required journal entries assuming Benedict records the sale at Benedict records the sale at netnet..

June 3

Recognition of Accounts ReceivablesRecognition of Accounts ReceivablesRecognition of Accounts ReceivablesRecognition of Accounts Receivables

June 29

Net Method

Chapter 7-10

Estimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible Accounts

Allowance MethodAllowance MethodLosses are Estimated:

Percentage-of-salesPercentage-of-receivables

Methods of Accounting for Uncollectible Accounts

Direct Write-OffDirect Write-OffTheoretically

undesirable:no matchingreceivable not stated at net realizable value

Chapter 7-11

Income Stateme

nt Approach

Income Stateme

nt Approach

Balance Sheet

Approach

Balance Sheet

Approach

Percentage of SalesPercentage of Sales

Focus on Matching

Sales --- Bad Debt Expense

Percentage of ReceivablesPercentage of Receivables

Focus on Net Realizable Value

Receivables - Allowance for Bad Debt

Estimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible Accounts

Chapter 7-12

Uncollectible Accounts ReceivableUncollectible Accounts ReceivableUncollectible Accounts ReceivableUncollectible Accounts Receivable

Percentage-of-Receivables Approach

not matching.

reports receivables at net realizable value.

Companies may apply this method using

one composite rate, or

an aging schedule of accounts receivable.

Chapter 7-13

Example DataExample Data

Accounts receivable balanceAccounts receivable balance $72,500 $72,500

Estimated % of A/R not collectedEstimated % of A/R not collected 8% 8%

Allowance for Doubtful Accounts:Allowance for Doubtful Accounts:

Case 1Case 1 $150 (credit balance)$150 (credit balance)

Case 2Case 2 $150 (debit balance)$150 (debit balance)

Example DataExample Data

Accounts receivable balanceAccounts receivable balance $72,500 $72,500

Estimated % of A/R not collectedEstimated % of A/R not collected 8% 8%

Allowance for Doubtful Accounts:Allowance for Doubtful Accounts:

Case 1Case 1 $150 (credit balance)$150 (credit balance)

Case 2Case 2 $150 (debit balance)$150 (debit balance)

Estimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible Accounts

Chapter 7-14

Estimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible Accounts

Accounts receivableAccounts receivable $ 72,500$ 72,500

Estimated percentageEstimated percentage x 8%x 8%

Desired balanceDesired balance $ 5,800$ 5,800

======================================================================================================

What should the ending balance be for the What should the ending balance be for the allowance account? -- allowance account? -- Case 1Case 1 and and Case 2Case 2

Accounts receivableAccounts receivable $ 72,500$ 72,500

Estimated percentageEstimated percentage x 8%x 8%

Desired balanceDesired balance $ 5,800$ 5,800

======================================================================================================

What should the ending balance be for the What should the ending balance be for the allowance account? -- allowance account? -- Case 1Case 1 and and Case 2Case 2

Percentage of Receivables

Chapter 7-15

Estimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible Accounts

Actual balance (credit) (150)

Desired balanceAdjustment to = desired balanceJournal entry – Case 1:

Case 1 Case 2

Percentage of Receivables

Chapter 7-16

Estimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible Accounts

Actual balance (credit) (150) 150

Desired balance

(5,800)

Adjustment to = desired balance

(5,650)

Journal entry – Case 2:

Case 1 Case 2

Percentage of Receivables

Chapter 7-17

Summary

Estimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible Accounts

Record the receivable amount:

Initially valued at the exchange price

Net versus Gross method if cash discounts

Estimate the Uncollectable amount:

Percentage of Sales approach

Percentage of Receivables approach

Chapter 7-18

Write-off of uncollectible accounts for $10?Write-off of uncollectible accounts for $10?

Allowance for Doubtful accountsAllowance for Doubtful accounts 1010

Accounts receivableAccounts receivable 1010

Write-off of uncollectible accounts for $10?Write-off of uncollectible accounts for $10?

Allowance for Doubtful accountsAllowance for Doubtful accounts 1010

Accounts receivableAccounts receivable 1010

Accounts ReceivableAllowance for

Doubtful Accounts

Beg. 500 25 Beg.

Write-Off Accounts ReceivableWrite-Off Accounts ReceivableWrite-Off Accounts ReceivableWrite-Off Accounts Receivable

Chapter 7-19

Recovery of previously written off accounts for $10?Recovery of previously written off accounts for $10?Recovery of previously written off accounts for $10?Recovery of previously written off accounts for $10?

Write-Off Accounts ReceivableWrite-Off Accounts ReceivableWrite-Off Accounts ReceivableWrite-Off Accounts Receivable

Chapter 7-20

Estimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible AccountsEstimate of Uncollectible Accounts

For similar exercises see E 7-7 & E7- 8

P7- 2

Chapter 7-21

Supported by a formal promissory note.

Recognition of Notes ReceivableRecognition of Notes ReceivableRecognition of Notes ReceivableRecognition of Notes Receivable

Notes Receivable

A negotiable instrument

Maker signs in favor of a Payee

Interest-bearing (has a stated rate of interest) OR

Noninterest-bearing (interest included in face amount)

Chapter 7-22

Recognition of Notes ReceivableRecognition of Notes ReceivableRecognition of Notes ReceivableRecognition of Notes Receivable

Short-Term Long-Term

Record at Face Value,

less allowance

Record at Present Value

of cash expected to be collected

Interest Rates

Stated rate = Market rate

Stated rate > Market rate

Stated rate < Market rate

Note Issued at

Face Value

Premium

Discount

Chapter 7-23

Exercise Balance Bar Co. lends Bio Foods $100,000 in exchange for a $100,000, 5-year note bearing interest at 8 percent annually. The market rate of interest for a note of similar risk is also 8 percent. How does Balance Bar record the receipt of the note?

Note Issued at Face ValueNote Issued at Face ValueNote Issued at Face ValueNote Issued at Face Value

0 1 2 3 4 5 6

Chapter 7-24

Interest= Payment *[PV of OA Factor i=8%, n=5]

Note Issued at Face ValueNote Issued at Face ValueNote Issued at Face ValueNote Issued at Face Value

Principal= Principal *[PV of $1 Factor i=8%, n=5]

P.V. of Note= P.V. of Principal + P.V. of Interest:

Chapter 7-25

Journal Entries:Journal Entries:Journal Entries:Journal Entries:

Note Issued at Face ValueNote Issued at Face ValueNote Issued at Face ValueNote Issued at Face Value

Record issuance of note receivable:

Record Interest revenue at end of years 1 through 5

Chapter 7-26

Exercise Balance Bar Co. receives a 5-year, $100,000 zero-interest-bearing note. The market rate of interest for a note of similar risk is 6 percent. How does Balance Bar record the receipt of the note?

Zero-Interest-Bearing NoteZero-Interest-Bearing NoteZero-Interest-Bearing NoteZero-Interest-Bearing Note

0 1 2 3 4 5 6

0 0 0$0 0

$100,000

Chapter 7-27

Amortization ScheduleNon-Interest-Bearing Note

6% CarryingCash Interest Discount Amount

Received Revenue Amortized of NoteDate of issue 74,726$ End of yr. 1End of yr. 2End of yr. 3End of yr. 4 - 5,340 5,340 94,340 End of yr. 5 - 5,660 5,660 100,000

- 25,274 25,274

Zero-Interest-Bearing NoteZero-Interest-Bearing NoteZero-Interest-Bearing NoteZero-Interest-Bearing Note

Chapter 7-28

Journal Entries for Non-Interest-Bearing noteJournal Entries for Non-Interest-Bearing noteJournal Entries for Non-Interest-Bearing noteJournal Entries for Non-Interest-Bearing note

Zero-Interest-Bearing NoteZero-Interest-Bearing NoteZero-Interest-Bearing NoteZero-Interest-Bearing Note

Record issuance of note receivable:

Record Interest revenue at end of year 1

Chapter 7-29

Exercise Balance Bar Co. made a loan to Bio Foods and received in exchange a 5-year, $100,000 note bearing interest 10 percent. The market rate of interest for a note of similar risk is 8 percent. How does Balance Bar record the receipt of the note?

Interest-Bearing NoteInterest-Bearing NoteInterest-Bearing NoteInterest-Bearing Note

Present value of Principle:

$100,000 (PVF5, 8%) = $100,000 x .68058 =

$ 68,058

Present value of Interest:

$10,000 (PVF5, 8%) = $10,000 x 3.99271 =

39,927

Present value of note

$ 107,985

Chapter 7-30

Amortization ScheduleInterest-Bearing Note

8% CarryingCash Interest Premium Amount

Received Revenue Amortized of NoteDate of issue 107,985$ End of yr. 1 10,000 8,639$ (1,361)$ 106,624 End of yr. 2 10,000 8,530 (1,470) 105,154 End of yr. 3 10,000 8,412 (1,588) 103,566 End of yr. 4 10,000 8,285 (1,715) 101,851 End of yr. 5 10,000 8,148 (1,851) 100,000

50,000 42,014 (7,985)

Interest-Bearing NoteInterest-Bearing NoteInterest-Bearing NoteInterest-Bearing Note

Chapter 7-31

Journal Entries for Interest-Bearing Note

Date Account Title Debit Credit

J an. yr. 1 Notes receivable 100,000

Premium on notes receivable 7,985

Cash 107,985

Dec. yr. 1 Cash 10,000

Premium on notes receivable 1,361

I nterest revenue 8,639

($107,985 x 8%)

Interest-Bearing NoteInterest-Bearing NoteInterest-Bearing NoteInterest-Bearing Note

Chapter 7-32

Notes Receivable ExerciseNotes Receivable ExerciseNotes Receivable ExerciseNotes Receivable Exercise

For similar exercise see BE 7-7

Chapter 7-33

General rule in classifying receivables are:1. Segregate the different types of receivables that a

company possesses, if material.

2. Appropriately offset the valuation accounts against the proper receivable accounts.

3. Determine that receivables classified in the current assets section will be converted into cash within the year or the operating cycle, whichever is longer.

4. Disclose any loss contingencies that exist on the receivables.

5. Disclose any receivables designated or pledged as collateral.

6. Disclose all significant concentrations of credit risk arising from receivables.

Presentation and AnalysisPresentation and AnalysisPresentation and AnalysisPresentation and Analysis