Receivables

Chapter 8
1
Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.
Define and explain common types of
receivables and review internal controls
for receivables
Use the allowance method to account for
uncollectibles
Understand the direct write-off method
for
uncollectibles
Journalize credit-card and debit-card sales
2
Account for notes receivable
Report receivables on the balance sheet
and evaluate a company using the acid-
test ratio, days’ sales in receivables, and
the accounts receivable turnover ratio
Discount a note receivable (see Appendix
8A)
3
1
Define and explain common types of receivables
and review internal controls for receivables
4
Selling goods or services to another party on
credit
Right to receive cash in the future from a
current transaction
Two types:
Accounts receivable
Notes receivable
An asset
5
Amounts to be collected from customers for
sales on credit
Serves as a control account
Customer ledger
6
More formal than accounts receivable
Usually longer in term
Current assets if due within one year or less
Long-term assets if due beyond one year
Promissory note
7
Credit department evaluates customers’
applications
Separation of duties
8
What is the difference between accounts
receivable and notes receivable?
9
2
Use the allowance method to

account for uncollectibles
10
Selling on credit:
BENEFIT–Increase sales by selling to a wider range
of customers
COST–Some customers don’t pay
Results in uncollectible account expense
Two methods to account for uncollectible
accounts:
Allowance method
Direct write-off method
11
Starts with selling on account
Collecting cash is the second step
12
Based on the matching principle
Offset to expense is the allowance for
uncollectible accounts
13
Companies use their history, the economy and
industry information to estimate uncollectibles
Percent-of-sales
Aging-of-accounts
14
Begins with account balances
Beginning balance below
Compute the estimate and journalize it
Net realizable value is the expected amount to

collect
15
During its first year of operations, Spring Garden
Plans earned revenue of $322,000 on account.
Industry experience suggests that bad debts will
amount to 2% of revenues.
At December 31, 2012, accounts receivable total

$36,000. The company uses the allowance method
to account for uncollectibles.
16
1. Journalize Spring’s sales and uncollectible account
expense using the percent-of sales method.
Journal Entry
DATE ACCOUNTS AND EXPLANATIONS DEBIT CREDIT
17 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

2. Show how to report accounts receivable on the balance
sheet at December 31, 2012. Use the long reporting
format illustrated in the chapter.
18 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Focuses on actual age of the accounts receivable
Determines a target allowance balance
19
The amount not expected to be collected
becomes the allowance account target balance
Journal entry
$150 credit balance plus/minus adjustment = $400
20
Summer and Sandcastles Resort had the following balances at
December 31, 2012, before the year-end adjustments:
Accounts receivable Allowance for uncollectible accounts
The aging of accounts receivable yields the following data:

Age of Accounts Receivable
0-60 days Over 60 Days Total Receivables
Amount receivable
% uncollectible
Amount
21
uncollectible $3,000 + $720 = $ 3,720
1. Journalize Summer’s entry to adjust the allowance
account to its correct balance at December 31, 2012.
Journal Entry
2. Prepare a T-account to compute the ending balance of

Allowance for uncollectible accounts.
Accounts receivable Allowance for uncollectible accounts
22
When a specific customer account is identified
as uncollectible, it is written off to the allowance
account
23
Sometimes a customer will pay the amount
owed after the customer’s account is written off
Two entries needed:
Reverse the uncollectable account
Record the payment
24
Make sales on account
Establish a pool for future potential
uncollectibility (2%)
Collect cash on account
Identify a bad debt
Adjust allowance account to reflect adjustments
to the estimate
Recover previously written off account
25
26
3
Understand the direct write-off method for

uncollectibles
27
Used by small businesses
No Allowance for uncollectible accounts
Records uncollectible accounts expense when
specific account is written off
28
Overstates Accounts receivable on the balance
sheet
Violates matching principle
29
Direct write-off of debt recovery process is
different from the allowance method
The debt was written off the books
To recover:
Reverse the write-off journal entry
Record the cash payment
30
Gate City Cycles had trouble collecting its account
receivable from Sue Ann Noel. On June 19, 2012, Gate
City finally wrote off Noel’s $700 account receivable.
Gate City turned the account over to an attorney, who
hounded Noel for the rest of the year. On December 31,
Noel sent a $700 check to Gate City Cycles with a note
that said, “Here’s your money. Please call off your
bloodhound!”
1. Journalize the entries required for Gate City Cycles,

assuming Gate City uses the direct write-off method.
31
Journal Entry
Jun 19
Dec 31
Dec 31
32
4
Journalize credit-card and debit-card sales
33
Credit-card sales are an alternative form for
receiving payments
Two types:
Issued by a financial institution
Issued by a credit card company
34
Different than credit and bankcards
Same as cash
Amount subtracted from buyer’s bank account
Amount added to retailer’s bank account
35
Retailers receive cash at time of sale
Visa and MasterCard most common bank cards
Retailer accepting the credit cards pays a fee
Two types of fee transactions:
NET: The total sale less the processing fee assessed
equals the net amount of cash deposited
Gross: The total sale is deposited and the fee is
deducted at the end of the month
Journal entry similar to cash sales
36
Restaurants do a large volume of business by credit and
debit cards. Suppose Chocolate Passion restaurant had
these transactions on January 28, 2012:
National Express credit-card sales . . . . . $ 9,300

ValueCard debit-card sales . . . . . . . . . . . 9,000
Suppose Chocolate Passion’s processor charges a 3% fee

and deposits sales net of the fee.
Requirement:
1. Journalize these sale transactions for the restaurant.
37
National Express credit-card sales . . . . . $ 9,300
ValueCard debit-card sales . . . . . . . . . . . 9,000
Journal Entry
POST.
DATE ACCOUNTS AND EXPLANATIONS REF. DEBIT CREDIT
Jan 28
28
38
5
Account for notes receivable
39
More formal than Accounts receivable
Debtor signs promissory note
A written promise to pay a specified amount of
money at a particular future date
40
41
Maturity date can be:
A specific date, such as March 13
Stated in terms of number of months
Stated in terms of number of days
42
A 180-day note dated February 16, 2014
matures on August 15, 2014
43
By the year
By the month
By the day
44
If notes receivable are outstanding, interest must
be accrued
Interest is earned over time
Revenue must be recorded in the period earned
45
On the maturity date
46
47
48
A company may accept a note receivable from a
customer who fails to pay an account receivable
49
Lakeland Bank & Trust Company lent $110,000
to Samantha Michael on a 90-day, 9% note.
1. Journalize the following transactions for the

bank (explanations are not required):
a. Lending the money on June 6.
b. Collecting the principal and interest at maturity.
Specify the date. For the computation of
interest, use a 360-day year.
50
a. Lending the money on June 6.
b. Collecting the principal and interest at maturity.
Specify the date.
For the computation of interest, use a 360-day year.
Journal Entry
POST.
REF.
Jun 6
Sept 6 Cash 112,475

Note receivable—S. Michael 110,000
Interest revenue 2,475
($110,000 × .09 × 90/360)
51
Maker of note does not pay
Move the note receivable into accounts
receivable
Interest is added to the new accounts receivable
52
Accounts receivable can be computerized
allowing the order entry, shipping, and billing
departments to work together
53
6
Report receivables on the balance sheet and

evaluate a company using the acid-test ratio,
days’ sales in receivables, and the accounts
receivable turnover ratio
54
Current asset, shown net of allowances
Two presentation styles:
55
Also called the “quick ratio”
Stringent measure of liquidity
Measures entity’s ability to pay its current
liabilities immediately
56
Also called “collection period”
It is number of days it takes to collect the
average balance of receivables
The shorter the collection period, the more
quickly cash is available
Two step process:
Find one day’s sales
Find day’s sales in receivables
57
Step 1: One day’s sales is calculated
Net sales (Total revenues) divided by 365 days per
year
58
Step 2: Day’s sales in inventory
Average net receivables divided by one days sales
59
Measures the number of times the company sells
and collects the average receivables
Higher the ratio, the faster the cash collections
occur
Benchmark on how well a company is managing
its receivables
60
Northend Medical Center included the following
items in its financial statements:
1.How much net income did Northend earn for the

month?
Service revenue............................................…………
Less: Cost of services sold and other expenses…
Net income.........................................…………………
61
2. Show two ways Northend can report
receivables on its classified balance sheet:
Current assets:
Accounts receivable.............................…………...
Less: Allowance for doubtful accounts.............
Accounts receivable, net................................…...
or
Accounts receivable, net of allowance
62 for uncollectible accounts of $150…………...
Southside Clothiers reported the following items at September 30,
2012 (last year’s—2011—amounts also given as needed):
Compute Southside’s (a) acid-test ratio, (b) days’ sales in average

receivables for 2012, and (c) accounts receivable turnover ratio.
Evaluate each ratio value as strong or weak. Southside sells on
terms of net 30.
63
(a) Acid-test ratio =
Cash + Short-term investments + Net current receivables
Total current liabilities
64
(b) Days’ sales in average receivables =
* Average net accounts receivable

** One day’s sales

=

*Average net accounts receivable=
**One day’s sale=(Net sales/365 days) = $

=
65

(c) Net sales revenue
Accounts receivable
= Average net accounts
Turnover Ratio
receivable
66
7
Discount a note receivable (see Appendix 8A)
67
The payee needs cash before the maturity
date
Payee sells the receivables
Amount is determined by present-value
concepts
68
Compute the original amount of interest on the note
receivable
Maturity value of the note = Principal + Interest
Determine the period (number of days, months, or
years) the bank will hold the note (the discount period)
Compute the bank’s discount on the note
This is the bank’s interest revenue from holding the note
Seller’s proceeds from discounting the note receivable
= Maturity value of the note – Bank’s discount on the
note
69
$1,000 note is received on September 30, 2015
Maturity date is one year
Note is discounted on November 30, 2014
Interest applied is 12%, and is higher than notes
Amounts received is called proceeds
70
If proceeds are less than principle amount, the
payee debits Interest expense
If proceeds are greater than principle amount,

the payee debits Interest revenue
71
72
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Chapter 8

Use the allowance method to

Collecting cash is the second step

Compute the estimate and journalize it

Net realizable value is the expected amount to

At December 31, 2012, accounts receivable total

17 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

18 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

The aging of accounts receivable yields the following data:

2. Prepare a T-account to compute the ending balance of

Understand the direct write-off method for

1. Journalize the entries required for Gate City Cycles,

Journalize credit-card and debit-card sales

National Express credit-card sales . . . . . $ 9,300

Suppose Chocolate Passion’s processor charges a 3% fee

Account for notes receivable

1. Journalize the following transactions for the

Sept 6 Cash 112,475

Report receivables on the balance sheet and

1.How much net income did Northend earn for the

Compute Southside’s (a) acid-test ratio, (b) days’ sales in average

* Average net accounts receivable

**One day’s sale=(Net sales/365 days) = $

Discount a note receivable (see Appendix 8A)

If proceeds are greater than principle amount,

All rights reserved. No part of this publication may be reproduced,

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