Financial Accounting Receivables and Sales Chapter 5 Spiceland
Financial Accounting Receivables and Sales Chapter 5 Spiceland | Thomas | Herrmann Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -2 Learning Objectives • Recognize accounts receivable • Calculate net revenues using discounts, returns, and allowances • Record an allowance for future uncollectible accounts • Use the aging method to estimate future uncollectible accounts • Apply the procedure to write off accounts receivable as uncollectible Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -3 Learning Objectives • Contrast the allowance method and direct write-off method when accounting for uncollectible accounts • Apply the procedure to account for notes receivable, including interest calculation • Calculate key ratios investors use to monitor a company’s effectiveness in managing receivables • Estimate uncollectible accounts using the percentage-of-credit-sales method Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -4 Part A Recognizing Accounts Receivable Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -5 Learning Objective 1 Recognize accounts receivable Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -6 Credit Sales • Transfer products and services to a customer today and collecting payment in the future • Also known as sales on account or services on account • Common for large business transactions Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -7 Accounts Receivable • Cash owed to the company by its customers from sales on account • Recorded at the time of the credit sale • Also called trade receivables Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -8 Recording of Credit Sales • Link’s Dental charges $500 for teeth whitening. Dee Kay decides to have her teeth whitened on March 1 but doesn’t pay cash at the time of service. She promises to pay the $500 whitening fee to Link by March 31. Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -9 Other Types of Receivables • Nontrade receivables: receivables that originate from sources other than customers • Notes receivable: formal credit arrangements evidenced by a written debt instrument, or note Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -10 Learning Objective 2 Calculate net revenues using discounts, returns, and allowances Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -11 Net Revenues • Net revenues • A company’s total revenues less any discounts, returns, and allowances • Also referred to as net sales Net Revenues = Sales − Discounts − Sales Returns and Allowances Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -12 Trade Discount • Reduced from the list price of a product or service • Not recognized directly Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -13 Recording Trade Discount • Link’s Dental, which typically charges $500 for teeth whitening. Assume that in order to entice more customers, Dr. Link offers a 20% discount on teeth whitening to any of his regular patients. Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -14 Sales Returns and Allowances Sales Return • Seller issues a full refund • Customer returns the product Sales Allowances • Seller reduces the customer’s balance owed partially • Customer does not return the product Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -15 Recording Sales Allowances • Dee notifies Dr. Link that another dentist is offering the same procedure for $350 • Dr. Link reduces Dee’s account balance by $50 Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -16 Contra Revenue Account • Opposite balance to that of its related revenue account • To keep a separate record of the total revenue earned and reduction due to subsequent sales allowances Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -17 Sales Discount • Reduced from the amount to be paid by a credit customer • If payment is made within a specified period of time • Recognized directly • Discount terms • Eg: 2/10, n/30 Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -18 Recording Sales Discount • Link’s Dental wants Dee to pay quickly on her teeth-whitening bill and offers her terms of 2/10, n/30. Assume Dee pays within 10 days Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -19 Part B Valuing Accounts Receivable Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -20 Learning Objective 3 Record an allowance for future uncollectible accounts Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -21 Allowance Method • Allows for the possibility that some accounts will be uncollectible • Companies are required to: • Estimate future uncollectible accounts • Record estimates in the current year • Uncollectible accounts: Customers’ accounts that are no longer considered collectible • Reduces assets (accounts receivable) • Increases expenses (bad debt expense) Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
Illustration 5. 3—The Financial Statement Effects of Accounting for Future Uncollectible Accounts Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -22
Estimating Uncollectible Accounts • Percentage-of-receivables method • Based on the percentage of receivables expected not to be collected • Also called the balance sheet method • Percentage-of-credit-sales method • Also called the income statement method Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -23
5 -24 Estimating Uncollectible Accounts • Bad Debt Expense: uncollectible accounts expense or provision for doubtful accounts • Allowance For Uncollectible Accounts: contra asset account representing the amount of accounts receivable that we do not expect to collect Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
Percentage-of-Receivables Method —Recording • In 2015, Kimzey Medical Clinic bills customers $50 million. • By the end of the year, $20 million remains due from customers • Estimates that 30% will not be collected Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -25
Illustration 5. 5—Accounting for Uncollectible Accounts and the Accounts Receivable Portion of the Balance Sheet Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -26
5 -27 Learning Objective 4 Use the aging method to estimate future uncollectible accounts Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -28 Aging of Accounts Receivable • More accurate than usingle percentage • Considers the age of receivables • Using a higher percentage for older accounts Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
Accounts Receivable Aging Schedule Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -29
5 -30 Learning Objective 5 Apply the procedure to write off accounts receivable as uncollectible Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -31 Writing Off Accounts Receivable • Write-off has no effect on total amounts reported • Negative effects already recorded Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
Writing Off Accounts Receivable— Recording 5 -32 • Kimzey receives notice that Bruce Easley has filed for bankruptcy • Kimzey writes off Bruce’s account receivable Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
Collection of Accounts Previously Written Off—Recording • Bruce later pays 25% of amounts owed Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -33
Estimating Uncollectible Accounts in the Following Year • At the end of 2016, Kimzey has $30 million in receivables • Estimates $8 million will not be collected Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -34
5 -35 Learning Objective 6 Contrast the allowance method and direct write-off method when accounting for uncollectible accounts Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -36 Direct Write-Off Method • Records bad debt expense when uncollectible account is known • Used: • When uncollectible accounts are not anticipated or are immaterial • When it’s not possible to reliably estimate uncollectible accounts • For tax purposes only Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
Illustration 5. 12—Comparison of the Allowance Method and the Direct Write-off Method for Recording Uncollectible Accounts Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -37
5 -38 Part C Notes Receivable Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -39 Learning Objective 7 Apply the procedure to account for notes receivable, including interest calculation Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -40 Notes Receivable • Similar to accounts receivable but are more formal • Evidenced by a written debt instrument, or note • Classified as either current or noncurrent asset Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -41 Recording Notes Receivable • Kimzey provided $10, 000 of services to Justin Payne, who is not able to pay immediately Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -42 Recording Notes Receivable • Kimzey provided $10, 000 of services to Justin Payne and recorded it as a typical account receivable • Justin won’t be able to pay quickly and is required to sign a six-month, 12% promissory note Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -43 Recording Notes Receivable • Justin’s books of accounts Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -44 Interest Calculation • Kimzey issued a $10, 000 six-month, 12% promissory note Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
Collection of Notes Receivable & Accrued Interest Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -45
5 -46 Accrued Interest Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -47 Learning Objective 8 Calculate key ratios investors use to monitor a company’s effectiveness in managing receivables Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -48 Receivables Turnover Ratio • Number of times the average accounts receivable balance is collected Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -49 Average Collection Period • Number of days the average accounts receivable balance is outstanding Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
5 -50 Learning Objective 9 Estimate uncollectible accounts using the percentage-of-credit-sales method Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
Percentage-of-Credit-Sales Method • Estimates uncollectible accounts based on the percentage of credit sales • Adjusts allowance for doubtful accounts Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -51
Percentage-of-Credit-Sales Method—Recording • Kimzey bills customers $80 million for services, with $30 million in accounts receivable • Balance of the allowance account, before adjustment, is a $1 million credit • For the percentage-of-receivables method, estimate for uncollectible accounts is $8 million • For the percentage-of-credit-sales method, assume 12. 5% of credit sales to be uncollectible Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -52
Adjusting for Estimates of Uncollectible Accounts Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -53
Financial Statement Effects of Estimating Uncollectible Accounts Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 5 -54
5 -55 End of Chapter 5 Copyright © 2014 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
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