CH 08

Accounts and Notes Receivable Chapter 8
2002 Prentice Hall, Inc.
Business Publishing
Accounting, 5/E
Horngren/Harrison/Bamber
8-1
Receivables
Accounts receivable
Notes receivable
Business Publishing
Accounting, 5/E
8-2
Objective 1
Design internal controls for receivables.
Business Publishing
Accounting, 5/E
8-3
Establishing Internal Control
What are some controls over accounts receivable? Control over mail receipts
Approval for write-off
Separation of duties
2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E Horngren/Harrison/Bamber 8-4
The Credit Department

Companies grant credit to customers in order to increase sales. The credit department evaluates customers who apply for credit cards.
Business Publishing
Accounting, 5/E
8-5
Uncollectible Accounts Expense
Allowance method
Direct write-off method
Business Publishing
Accounting, 5/E
8-6
Objective 2
Use the allowance method to account for uncollectibles and estimate uncollectibles by the percent of sales and aging approaches.
Methods for Estimating Uncollectible Expense
Percentage of Sales
Aging of Receivables
Business Publishing
Accounting, 5/E
8-8
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 credit sales. It ignores the current balance of the allowance account. The percentage used is adjusted as needed to reflect collection experience.
Percentage of Sales Example

The credit department of Anas 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
2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E Horngren/Harrison/Bamber 8 - 10
Dec 31, 200x Uncollectible Account Expense 5,000 Allowance for Uncollectible Accounts 5,000 Recorded expense for the year
Business Publishing
Accounting, 5/E
8 - 11
What is the effect of this adjusting entry?
Decrease in Net Income
Decrease in net Accounts Receivable
Business Publishing
Accounting, 5/E
8 - 12
Aging of Accounts Receivable

This approach is also called the balance sheet approach because it focuses on accounts receivable. Individual accounts receivable from specific customers are analyzed according to the length of time they remain outstanding.
Business Publishing
Accounting, 5/E
8 - 13
Aging of Receivables Example

Assume that International Hospitals 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

Length 1-30 31-60 61-90 90 + Total Amount $1,900,000 1,000,000 700,000 500,000 $4,100,000
Accounts Receivable
2002 Prentice Hall, Inc. Business Publishing
% 2 3 5 8
$ 38,000 30,000 35,000 40,000 $143,000
Allowance for Uncollectible Accounts

Horngren/Harrison/Bamber 8 - 15
Accounting, 5/E

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?
Business Publishing
Accounting, 5/E
8 - 16
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?

Allowance for Uncollectible Adjustment 1,000 144,000 Adjusted balance 143,000
Business Publishing
Accounting, 5/E
8 - 18
Comparing the Percentage of Sales and Aging Methods

Allowance Method
Percent of Sales Method
Aging of Accounts Receivable Method

Adjusts Allowance for Uncollectible Accounts TO
Adjusts Allowance for Uncollectible Accounts

BY Amount of UNCOLLECTIBLE ACCOUNT EXPENSE
2002 Prentice Hall, Inc. Business Publishing
Amount of
UNCOLLECTIBLE ACCOUNTS RECEIVABLE
Accounting, 5/E Horngren/Harrison/Bamber 8 - 19
Writing Off Uncollectible 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
How is the collection of a previously writtenoff 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.
Business Publishing
Accounting, 5/E
8 - 22
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.
Business Publishing
Accounting, 5/E
8 - 23
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.
Business Publishing
Accounting, 5/E
8 - 24
Credit Card and Bankcard Sales
How would Anas Boutique record a $100 credit card sale with a 2% service charge?
Accounts Receivable (credit card) 98 Credit Card Discount 2 Sales Revenue To record a credit card sale of $100 less a 2% service charge fee
2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E
100
8 - 25
Debit Card Sales
Using a debit card is like paying with cash.
Business Publishing
Accounting, 5/E
8 - 26
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.

Promissory Note
$10,000.00 Nov. 30, 2001 For value received, I promise to pay to the order of POPULAR BANK HOUSTON, TEXAS TEN THOUSAND AND NO/100DOLLARS ON FEBRUARY 28, 2002 Maker Plus interest at the annual rate of 10 percent. Payee __________

Promissory Note
$10,000.00 Nov. 30, 2001 For value received, I promise to pay to the order of POPULAR BANK HOUSTON, TEXAS TEN THOUSAND AND NO/100DOLLARS ON FEBRUARY 28, 2002 Plus interest at the annual rate of 10 percent. __________ Principal

Promissory Note
$10,000.00 Nov. 30, 2001 For value received, I promise to pay to the order of POPULAR BANK HOUSTON, TEXAS TEN THOUSAND AND NO/100DOLLARS ON FEBRUARY 28, 2002 Plus interest at the annual rate of 10 percent. __________
Interest rate
Date of issue
Horngren/Harrison/Bamber 8 - 30

Promissory Note
$10,000.00 Nov. 30, 2001 For value received, I promise to pay to the order of POPULAR BANK HOUSTON, TEXAS TEN THOUSAND AND NO/100DOLLARS ON FEBRUARY 28, 2002 Plus interest at the annual rate of 10 percent. __________
Maturity date
Identifying a Notes Maturity 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.
Business Publishing
Accounting, 5/E
8 - 32
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, 2001, to February 28, 2002 $10,000 10% 90 360 = $250
Objective 4
Account for notes receivable.
Business Publishing
Accounting, 5/E
8 - 34
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
Business Publishing
Accounting, 5/E
8 - 35
December 31 Interest Receivable 86.11 Interest Revenue To accrue interest on the note
86.11
Business Publishing
Accounting, 5/E
8 - 36
How does the bank record the collection at maturity?
February 28 Cash 10,250.00 Note Receivable Interest Receivable Interest Revenue Record interest on note
10,000.00 86.11 163.89

8 - 37
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.
Business Publishing
Accounting, 5/E
8 - 38
Objective 5
Report receivables on the balance sheet.
Business Publishing
Accounting, 5/E
8 - 39
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.
Business Publishing
Accounting, 5/E
8 - 40
Objective 6
Use the acid-test ratio and days sales in receivables to evaluate a companys financial position.
Business Publishing
Accounting, 5/E
8 - 41
Acid-Test Ratio
This is a stringent test of liquidity. It measures the entitys ability to pay its current liabilities immediately.
Acid-test ratio = (Cash + Short-term investments + Net current receivables) Total current liabilities
Business Publishing
Accounting, 5/E
8 - 42
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.
Business Publishing
Accounting, 5/E
8 - 43
Days Sales in Receivables
One days sales = Net sales 365 days
Days sales in average accounts receivable = Average net accounts receivable One days sales
Business Publishing
Accounting, 5/E
8 - 44
End of Chapter 8
Business Publishing
Accounting, 5/E
8 - 45

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Accounts and Notes Receivable Chapter 8

2002 Prentice Hall, Inc.

2002 Prentice Hall, Inc.

Design internal controls for receivables.

2002 Prentice Hall, Inc.

Establishing Internal Control

The Credit Department

2002 Prentice Hall, Inc.

Uncollectible Accounts Expense

Direct write-off method

2002 Prentice Hall, Inc.

Methods for Estimating Uncollectible Expense

2002 Prentice Hall, Inc.

Percentage of Sales Example

2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E Horngren/Harrison/Bamber 8 - 10

Percentage of Sales Example

2002 Prentice Hall, Inc.

Percentage of Sales Example

What is the effect of this adjusting entry?

Decrease in Net Income

Decrease in net Accounts Receivable

2002 Prentice Hall, Inc.

Aging of Accounts Receivable

2002 Prentice Hall, Inc.

Aging of Receivables Example

2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E Horngren/Harrison/Bamber 8 - 14

Aging of Receivables Example

$ 38,000 30,000 35,000 40,000 $143,000

Allowance for Uncollectible Accounts

Aging of Receivables Example

2002 Prentice Hall, Inc.

What if the account had a debit balance of $1,000?

Allowance for Uncollectible Adjustment 1,000 144,000 Adjusted balance 143,000

2002 Prentice Hall, Inc.

Comparing the Percentage of Sales and Aging Methods

Aging of Accounts Receivable Method

Adjusts Allowance for Uncollectible Accounts

Writing Off Uncollectible Accounts

2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E Horngren/Harrison/Bamber 8 - 20

2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E Horngren/Harrison/Bamber 8 - 21

Use the direct write-off method to account for uncollectibles.

2002 Prentice Hall, Inc.

Direct Write-Off Method

2002 Prentice Hall, Inc.

Credit Card and Bankcard Sales

2002 Prentice Hall, Inc.

Credit Card and Bankcard Sales

Debit Card Sales

Using a debit card is like paying with cash.

2002 Prentice Hall, Inc.

Notes Receivable: an Overview

2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E Horngren/Harrison/Bamber 8 - 27

Notes Receivable: an Overview

Notes Receivable: an Overview

Notes Receivable: an Overview

Notes Receivable: an Overview

Identifying a Notes Maturity Date

2002 Prentice Hall, Inc.

Computing Interest on a Note

Account for notes receivable.

2002 Prentice Hall, Inc.

Recording Notes Receivable

2002 Prentice Hall, Inc.