Receivables Chapter 9 2015 Pearson Education Limited 9

Learning Objectives 1. Define and explain common types of receivables and journalize sales on credit, credit card sales, and debit card sales 2. Apply the direct write-off method for uncollectibles 3. Apply the allowance method for uncollectibles and estimate bad debts expense based on the percent-ofsales, percent-of-receivables, and aging-of-receivables methods © 2015 Pearson Education, Limited. 9 -2

Learning Objectives 4. Account for notes receivable including computing interest and recording honored and dishonored notes 5. Use the acid-test ratio, accounts receivable turnover ratio, and days’ sales in receivables to evaluate business performance © 2015 Pearson Education, Limited. 9 -3

Learning Objective 1 Define and explain common types of receivables and journalize sales on

What Is a Receivable? A receivable is a right to receive cash in the future from a current transaction. • Accounts • Also referred to as a receivable trade receivable • Notes • Results from sales of receivable goods or performance of services on account • Other • Collection period receivables normally = 30 to 60 days © 2015 Pearson Education, Limited. 9 -5

What Is a Receivable? A receivable is a right to receive cash in the future from a current transaction. • Accounts • Also called a promissory receivable note • Notes • Written promise that a receivable customer will pay principal and interest • Other • Collection period longer receivables than A/R © 2015 Pearson Education, Limited. 9 -6

What Is a Receivable? A receivable is a right to receive cash in the future from a current transaction. • Accounts receivable • Category includes dividends, taxes, and • Notes interest receivables receivable • Other • Can be current or longreceivables term © 2015 Pearson Education, Limited. 9 -7

Recording Sales on Credit • Selling “on account” will create an A/R • Suppose that, on August 8, Smart Touch Learning performs $5, 000 in services to Brown on account, and sells $10, 000 of inventory on account to Smith. Prepare both journal entries. © 2015 Pearson Education, Limited. 9 -8

Recording Sales on Credit • Selling “on account” will create an A/R • Suppose that, on August 8, Smart Touch Learning performs $5, 000 in services to Brown on account, and sells $10, 000 of inventory on account to Smith. © 2015 Pearson Education, Limited. 9 -9

Recording Sales on Credit • Selling “on account” will create an A/R • Suppose that, on August 8, Smart Touch Learning performs $5, 000 in services to Brown on account, and sells $10, 000 of inventory on account to Smith. Ignore COGS. © 2015 Pearson Education, Limited. 9 -10

Using an A/R Subsidiary Ledger A “control account” will reflect the total of all

Recording Credit Card and Debit Card Sales • Recorded the same as Cash sales. • A fee is usually charged by the card company. – The net cash received is reduced by the fee. • 2 Methods are allowed: – Net Method – Gross Method © 2015 Pearson Education, Limited. 9 -12

Net Method • Record the card company fee at the time of the sale.

Net Method August 15—Smart Touch Learning sells merchandise inventory to a customer for $3, 000. The customer pays with “plastic. ” The card company assesses a 4% fee. Ignore COGS. Prepare the journal entry. © 2015 Pearson Education, Limited. 9 -14

Net Method August 15—Smart Touch Learning sells merchandise inventory to a customer for $3, 000. The customer pays with “plastic. ” The card company assesses a 4% fee. Ignore COGS. © 2015 Pearson Education, Limited. 9 -15

Gross Method • Record the full sale on the sale date. • Record the

Gross Method August 15—Smart Touch Learning sells merchandise inventory to a customer for $3, 000. The customer pays with “plastic. ” The card company assesses a 4% fee. Ignore COGS. Prepare the journal entry. © 2015 Pearson Education, Limited. 9 -17

Gross Method August 15—Smart Touch Learning sells merchandise inventory to a customer for $3, 000. The customer pays with “plastic. ” The card company assesses a 4% fee. Ignore COGS. © 2015 Pearson Education, Limited. 9 -18

Gross Method August 31—The third party credit card company assesses a 4% fee on

>TRY IT! Prepare the journal entry. © 2015 Pearson Education, Limited. 9 -21

>TRY IT! © 2015 Pearson Education, Limited. 9 -22

>TRY IT! Prepare the journal entry. © 2015 Pearson Education, Limited. 9 -23

>TRY IT! © 2015 Pearson Education, Limited. 9 -24

Learning Objective 2 Apply the direct write-off method for uncollectibles © 2015 Pearson Education,

How do we record uncollectible accounts using the Direct Method? • Fact: Not all customers will pay what they owe. • Accounting Reality: We have to take these “bad” receivables off the books and record a corresponding Bad Debt Expense. Under the Direct Method, the bad debt expense is recorded as soon as a receivable is deemed uncollectible. © 2015 Pearson Education, Limited. 9 -26

Direct Method August 9—Smart Touch Learning determines that it will not be able to

Recovery of Previously Written Off A/R • Reverse the earlier write-off • Record the

Recovery of Previously Written Off A/R September 10—King pays the $200 previously written off

Learning Objective 3 Apply the allowance method for uncollectibles and estimate bad debts expense based on the percent-of-sales, percentof-receivables, and aging -of-receivables methods. © 2015 Pearson Education, Limited. 9 -32

How do we record uncollectible accounts using the Allowance Method? • Based on the Matching Principle • Estimate future uncollectible accounts now, instead of waiting until they actually go bad. • Exploit knowledge that the older A/R accounts are, the less likely that they will be collected. © 2015 Pearson Education, Limited. % 9 -33

How do we record uncollectible accounts using the Allowance Method? • At the end of each period, record the Bad Debts Expense and put the credit in Allowance for Bad Debts. – The Allowance for Bad Debts account is a Contra-Asset • As actual accounts become uncollectible, charge them against the Allowance account. © 2015 Pearson Education, Limited. % 9 -34

Using the Allowance Method December 31—Smart Touch Learning estimates that $80 of its $4,

Using the Allowance Method The Contra-Asset account will be shown as reduction of Accounts

Writing Off an Uncollectible Account • When an account become uncollectible, it is written

Writing Off an Uncollectible Account January 10, 2016—Smart Touch Learning determines that it will not collect $25 from customer Shawn Callahan. Prepare the journal entry. © 2015 Pearson Education, Limited. 9 -39

Recovery of Previously Written Off A/R March 4—Smart Touch Learning receives $25 from Callahan

How Do We Estimate the Allowance Account? • Three methods are available – Percent-of-Sales

How Do We Estimate the Allowance Account? © 2015 Pearson Education, Limited. 9 -45

How Do We Estimate the Allowance Account? © 2015 Pearson Education, Limited. 9 -46

Using the Aging-of-Receivables Method © 2015 Pearson Education, Limited. 9 -47

Using the Aging-of-Receivables Method Smart Touch Learning’s unadjusted credit balance in the allowance account is $55. Per the previous computation, the desired balance is $185. ? Prepare the journal entry to adjust Allowance for Bad Debts. © 2015 Pearson Education, Limited. 9 -48

Using the Aging-of-Receivables Method Smart Touch Learning’s unadjusted credit balance in the allowance account is $55. Per the previous computation, the desired balance is $185. © 2015 Pearson Education, Limited. 9 -49

Learning Objective 4 Account for notes receivable including computing interest and recording honored and

Accounting for Notes Receivable • Record the note on the date the loan is made. • Periodically accrue interest revenue and record interest receipts. • Record collection of note principal. Notes are evidenced by a signed document called a Promissory Note. Must include certain components. © 2015 Pearson Education, Limited. 9 -51

Promissory Notes © 2015 Pearson Education, Limited. 9 -52

Recording a Note Receivable September 30—Smart Touch Learning loaned $1, 000 to Lauren Holland

Recording Interest is recorded based on the amount of time that has passed. •

Recording a Note Receivable December 31—The $1, 000 loan to Lauren Holland is not yet due, but interest must be accrued at the rate of 6%. Prepare the journal entry. © 2015 Pearson Education, Limited. 9 -56

Recording a Note Receivable December 31—The $1, 000 loan to Lauren Holland is not yet due, but interest must be accrued at the rate of 6%. Prepare the journal entry. © 2015 Pearson Education, Limited. 9 -57

Recording Dishonored Notes Receivable • When the maker of the note does not pay, it is If a unit has many dishonored notes receivable, such as a financing • Often the dishonored division, it can also note AND the unpaid interest are transferred set up a Loan Loss Reserve similar to to an A/R. Allowance for Bad • Later, the A/R can be Debts. written off. © 2015 Pearson Education, Limited. 9 -59

>TRY IT! Prepare the journal entry. © 2015 Pearson Education, Limited. 9 -60

>TRY IT! © 2015 Pearson Education, Limited. 9 -61

>TRY IT! Prepare the journal entry. © 2015 Pearson Education, Limited. 9 -62

>TRY IT! Prepare the journal entry. © 2015 Pearson Education, Limited. 9 -63

>TRY IT! © 2015 Pearson Education, Limited. 9 -64

Learning Objective 5 Use the acid-test ratio, accounts receivable turnover ratio, and days’ sales

© 2015 Pearson Education, Limited. 9 -66

Acid-Test (or Quick) Ratio Compute the Acid-Test Ratio for Green Mountain Coffee Roasters ©

Accounts Receivable Turnover Ratio Assuming that credit sales this year were $2, 650, 899, compute the Accounts Receivable Turnover Ratio for Green Mountain Coffee Roasters © 2015 Pearson Education, Limited. 9 -69

Accounts Receivable Turnover Ratio Assuming that credit sales this year were $2, 650, 899, compute the Accounts Receivable Turnover Ratio for Green Mountain Coffee Roasters. © 2015 Pearson Education, Limited. 9 -70