ACC101- PRINCIPLE OF ACCOUNTING

CHAPTER 9: ACCOUNTING FOR RECEIVABLES

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 OBJECTIVES

ACCOUNT RECEIVABLE

C1 Describe accounts receivable and how they occur and are recorded .

P1 Apply the direct write-off method to account for accounts receivable

P2 Apply the allowance method and estimate uncollectible based on sales and accounts receivable.
NOTE RECEIVABLE

C2 Describe a note receivable, the computation of its maturity date, and the recording of its existence.

P3 Record the honoring and dishonoring of a note and adjustments for interest
DISPOSAL AND ANALYSIS OF RECEIVABLES

C3 Explain how receivables can be converted to cash before maturity.

A1 Compute accounts receivable turnover and use it to help assess financial condition.
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 1. Accounts Receivable
C1

• Amounts due from customers for credit sales.

• Credit sales require:
• Maintaining a separate account receivable
for each customer.
• Accounting for bad debts that result from
credit sales.
 1. Accounts Receivable
C1 1.1. Recognizing Accounts Receivable
Accounts Receivable as a Percent of Total Assets

Oakley 17.0%

Callaway Gold 14.0%

Pfizer 8.2%

Abercombie & Fitch 1.9%

Sales on Credit
Credit sales are recorded by increasing (debiting) Accounts Receivable. A
company must also maintain a separate account for each customer that tracks
how much that customer purchases, has already paid, and still owes.
 1. Accounts Receivable
C1 1.1. Recognizing Accounts Receivable

TechCom as two major credit customers

(1) CompStore owes the company $2,000 on account
(2) RDA Electronics owes $1,000 on account at June 30, 2009.
On July 1st, TechCom sells $950 of merchandise on account to CompStore, and collects
$720 cash from RDA as a payment on account.

DR CR
Jul 1 Accounts Receivable - CompStore 950
Sales 950
To record credit sales to CompStore

Cash 720
Accounts Receivable – RDA Electronics 720
To record credit sales to RDA Electronics
 1. Accounts Receivable
C1 1.1. Recognizing Accounts Receivable
Accounts receivable ledger
Accounts Receivable Ledger (accounts receivable subsidiary ledger).
RDA Electronics
Date PR Debit Credit Balance Schedule of
Jun 30 1,000 1,000 Accounts Receivable
Jul 1 720 280
RDA Electronics $ 280
CompStore 2,950
Total $ 3,230
CompStore
Date PR Debit Credit Balance
Jun 30 2,000 2,000
Jul 1 950 2,950

General Ledger
Accounts Receivable
Date PR Debit Credit Balance
Jul 1 3,230 3,230
 1. Accounts Receivable
C1 1.1. Recognizing Accounts Receivable

Credit Card Sales: Many sellers allow customers to use third-party credit cards
and debit cards instead of granting credit directly
Advantages of allowing customers to use credit cards:

Sales increase by
Customers’ credit is
providing purchase
evaluated by the
options to the
credit card issuer.
customer.

The risks of
extending credit are Cash collections are
transferred to the quicker.
credit card issuer.
 1. Accounts Receivable
C1 1.1. Recognizing Accounts Receivable

With bank credit cards, the seller deposits the credit Credit Card Sales
card sales receipt in the bank just like it deposits a
customer’s check.

Until payment is received, the seller has an account

receivable from the card company.

 The bank increases the balance in the company’s

checking account.

The company usually pays a fee of 1% to 5% for

the service.
 1. Accounts Receivable
C1 1.1. Recognizing Accounts Receivable

On July 15th, TechCom has $100 of credit card sales with a 4%

fee, and its $96 cash is received immediately on deposit.

DR CR
Jul 15 Cash 96
Credit Card Expense 4
Sales 100
To record credit card sales and fees
 1. Accounts Receivable
C1
1.1. Recognizing Accounts Receivable

If instead TechCom must remit electronically the credit card sales receipts to
the credit card company and wait for the $96 cash payment, we will make the first
entry on July 15th, and the second entry on July 28th, when the cash is received.

DR CR
Jul. 15 Accounts Receivable - Credit Card Co. 96
Credit Card Expense 4
Sales 100
To record credit card sales and fees.

Jul. 28 Cash 96
Accounts Receivable - Credit Card Co. 96
To record receipt from credit card company
 1. Accounts Receivable
C1 1.1. Recognizing Accounts Receivable

Installment accounts receivable

Amounts owed by customers from credit sales for which payment is

required in periodic amounts over an extended time period. The
customer is usually charged interest.
 1. Accounts Receivable
P1 1.2. Valuing Accounts Receivable—Direct Write-Off Method

Some customers may not pay their account.

Uncollectible amounts are referred to as bad
debts. There are two methods of accounting for
bad debts:

 Direct Write-Off Method

 Allowance Method
 1. Accounts Receivable
P1 1.2. Valuing Accounts Receivable—Direct Write-Off Method

On January 23rd, J. Kent, a customer of TechCom cannot pay

the $520 owed to TechCom. We must recognize the loss.

DR CR
Jan 23 Bad Debts Expense 520
Accounts Receivable - J. Kent 520
To write-off uncollectible account
 1. Accounts Receivable
P1 1.2. Valuing Accounts Receivable—Direct Write-Off Method

On March 11th, J. Kent was able to make full payment to TechCom

for the amount previously written-off.

DR CR
Mar 11 Accounts Receivable - J. Kent 520
Bad Debts Expense 520
To reinstate account previously written-off

Mar 11 Cash 520

Accounts Receivable - J. Kent 520
To record payment on account
 1. Accounts Receivable
P2 1.2. Valuing Accounts Receivable—Direct Write-Off Method

Matching vs. Materiality

Materiality states that an

Matching requires
amount can be ignored if its
expenses to be reported in
effect on the financial
the same accounting period
statements is unimportant
as the sales they help
to users’ business
produce.
decisions.

The direct write-off method usually does not best match sales and expenses because bad
debts expense is not recorded until uncollectible after the period of credit sale
→ requires a company to estimate future uncollectibles.
 1. Accounts Receivable
P2 1.2. Valuing Accounts Receivable—Allowance Method

At the end of each period, estimate total bad debts expected to be

realized from that period’s sales.
There are two advantages to the allowance method:
1. It records estimated bad debts expense in the period when the
related sales are recorded.
2. It reports accounts receivable on the balance sheet at the
estimated amount of cash to be collected.
 1. Accounts Receivable
P2 1.2. Valuing Accounts Receivable—Allowance Method
Recording Bad Debts Expense
At the end of its first year of operations, TechCom estimates that $1,500
of its accounts receivable will prove uncollectible. The total accounts
receivable balance at December 31, 2009, is $20,000, and the company
had total credit sales of $300,000 during the year.
DR CR
Dec. 31 Bad Debts Expense 1,500
Allowance for Doubtful Accounts 1,500
To record estimated bad debts
Contra-asset account
Accounts Receivable Allowance for Doubtful Accounts
Bal. 20,000 Dec. 31 1,500
 1. Accounts Receivable
P2 1.2. Valuing Accounts Receivable—Allowance Method
Balance Sheet Presentation

At the end of its first year of operations, TechCom estimates that $1,500
of its accounts receivable will prove uncollectible. The total accounts
receivable balance at December 31, 2009, is $20,000, and the company
had total credit sales of $300,000 during the year.
TechCom
Partial Balance Sheet
December 31, 2009
Cash
Accounts receivable $ 20,000
Less: Allowance for doubtful accounts 1,500 $ 18,500
 1. Accounts Receivable
P2 1.2. Valuing Accounts Receivable—Allowance Method

Writing Off a Bad Debt

Recovering a Bad Debt

 1. Accounts Receivable
P2 1.3. Estimating Bad Debts Expense

1. Percent of Sales Method (income statement method)

2. Accounts Receivable Methods (balance sheet

methods)

▪ Percent of Accounts Receivable

▪ Aging of Accounts Receivable

 1. Accounts Receivable
P2 1.3. Estimating Bad Debts Expense

Percent of Sales Method

Bad debts expense is computed as follows:

Current Period Sales

× Bad Debt %
= Estimated Bad Debts Expense

Musicland has credit sales of $400,000 in 2009. It is estimated that

0.6% of credit sales will eventually prove uncollectible.
Let’s look at recording Bad Debts Expense for 2009.
 1. Accounts Receivable
P2 1.3. Estimating Bad Debts Expense

Percent of Sales Method

$ 400,000
× 0.6% Musicland’s accountant
computes estimated Bad Debts
= $ 2,400
Expense of $2,400.

DR CR
Dec. 31 Bad Debts Expense 2,400
Allowance for Doubtful Accounts 2,400
To record estimated bad debts
 1. Accounts Receivable
P2 1.3. Estimating Bad Debts Expense

Percent of Receivables Method

1. Compute the estimate of the Allowance for Doubtful Accounts.

Year-end Accounts Receivable × Bad Debt %

2. Bad Debts Expense is computed as:

Total Estimated Allowance for Doubtful Accounts

- Previous Balance in Allowance Account
= Current Bad Debts Expense
 1. Accounts Receivable
P2 1.3. Estimating Bad Debts Expense

Percent of Receivables Method

Musicland has $50,000 in accounts receivable

and a $200 credit balance in Allowance for
Doubtful Accounts on December 31, 2009. Past
experience suggests that 5% of receivables are
uncollectible.

Let’s record Musicland’s Bad Debts Expense

for 2009.
 1. Accounts Receivable
P2
1.3. Estimating Bad Debts Expense

Percent of Receivables Method

Desired balance in Allowance for
Doubtful Accounts. Allowance for
Doubtful Accounts
$ 50,000 200
× 5.00% 2,300
= $ 2,500 2,500

DR CR
Dec. 31 Bad Debts Expense 2,300
Allowance for Doubtful Accounts 2,300
To record estimated bad debts
 1. Accounts Receivable
P2 1.3. Estimating Bad Debts Expense

Aging of Accounts Receivable Method

 Each receivable is grouped by

how long it is past its due date.

 Each age group is multiplied by

its estimated bad debts percentage.

 Estimated bad debts for each

group are totaled.
 1. Accounts Receivable
P2
1.3. Estimating Bad Debts Expense

Aging of Accounts Receivable Method

Musicland
Schedule of Accounts Receivable by Age
December 31, 2009 

Accounts  Estimated
Receivable Percent Uncollectible
Days Past Due Balance Uncollectible Amount
Not Yet Due $ 37,000 2% $ 740
1 - 30 Days Past Due 6,500 5% 325
31 - 60 Days Past Due 3,700 10% 370
61 - 90 Days Past Due 1,900 25% 475
Over 90 Days Past Due 900 40% 360
$ 50,000 $ 2,270
 1. Accounts Receivable
P2 1.3. Estimating Bad Debts Expense

Aging of Accounts Receivable Method

Allowance for Doubtful

Musicland has an unadjusted Accounts
credit balance in the allowance 200
2,070
account is $200. 2,270

We estimated the proper

balance to be $2,270.

DR CR
Dec. 31 Bad Debts Expense 2,070
Allowance for Doubtful Accounts 2,070
To record estimated bad debts
 1. Accounts Receivable
P2 1.3. Estimating Bad Debts Expense
Summary of Methods
Aging of
% of Sales % of Receivables
Receivables

Emphasis on Emphasis on Emphasis on

Matching Realizable Value Realizable Value

Sales Accts. Accts.

Bad Rec. All. for Rec. All. for
Debts Doubtful Doubtful
Exp. Accts. Accts.

Income
Balance
Statement
Sheet Focus
Focus
 2. Notes Receivable
C2 A promissory note is a written promise to pay a specified amount of money, usually with
interest, either on demand or at a definite future date
Sellers sometimes ask for a note to replace an account receivable when a customer
requests additional time to pay a past-due account.
Sellers generally prefer to receive notes when the credit period is long and when the
receivable is for a large amount.
 2. Notes Receivable
C2 2.1. Computing Maturity and Interest

Maturity date of a note is the day the note (principal and interest) must be repaid.

Principal Annual Time

of the × interest × expressed = Interest
note rate in years

Even for If the note is

maturities less expressed in
than one year, days, base a
the rate is year on 360
annualized. days.
 2. Notes Receivable
C2 2.1. Computing Maturity and Interest

On July 10, 2009, TechCom received a $1,000, 90-day, 12%

promissory note as a result of a sale to Julia Browne.
What is the maturity date of the note?

Days in July 31
Minus the date of the note 10
Days remaining in July 21
Days in August 31
Days in September 30
Days in October to maturity 8
Period of the note in days 90

The note is due and payable on October 8, 2009.

 2. Notes Receivable
P3 2.1. Computing Maturity and Interest

Principal Annual Time

of the × interest × expressed = Interest
note rate in years

$ 1,000 × 12% × 90/360 = $ 30

Total interest is due on

October 8, 2009.
 2. Notes Receivable
P3 2.2. Recognizing Notes Receivable

Here is the entry to record the note on July 10, 2009.

DR CR
Jul 10 Notes Receivable 1,000
Sales 1,000
Sold goods in exchange for note
 2. Notes Receivable
P4 2.3. Valuing and Settling Notes

Honoring notes receivable

Here is the entry to honor the note on October 8, 2009.

DR CR
Oct 8 Cash 1,030
Interest Revenue 30
Notes Receivable 1,000
Collected note and interest due
 2. Notes Receivable
P4 2.3. Valuing and Settling Notes

Recording a Dishonored Note

TechCom holds an $800, 12%, 60-day note of Greg Hart. At

maturity, October 14th, Hart dishonors the note.

$800 ×12% × 60/360 = $16 interest

DR CR
Accounts Receivable -Greg Hart 816
Interest revenue 16
Notes Receivable 800
To principal and interest on dishonored note
 2. Notes Receivable
P4 2.3. Valuing and Settling Notes

Recording End-of-Period Interest Adjustments

On December 16th, TechCom accepts a $3,000, 60-day, 12% note from a

customer in granting an extension on a past-due account. When TechCom’s
accounting period ends on December 31, $15 of interest has accrued on the
note.

$3,000 × 12% × 15/360 = $15 accrued interest

DR CR
Dec. 31 Interest Receivable 15
Interest Revenue 15
To accrue interest on note
 2. Notes Receivable
P4 2.3. Valuing and Settling Notes

Recording collection on note at maturity.

Days in December 31
Minus the date of the note 16
Day remaining in December 15
Days in January 31
Days in February 14
Period of the note in days 60

DR CR
Feb 14 Cash 3,060
Interest Receivable 15
Interest Revenue 45
Notes Receivable 3,000
To record full payment of note
 3. Disposing of Receivables

C3
• Companies sometimes want to convert receivables to cash before they are due.
• They can sell or factor receivables.
• They may pledge receivables as security for a loan.
▪ The buyer, called a factor, charges the seller a factoring fee and then the buyer takes
ownership of the receivables and receives cash when they come due.

▪ A company can raise cash by borrowing money and pledging its receivables as security
for the loan.
 For Ind.
Assignment, Accounts Receivable Turnover
A1 read pg. 392

This ratio provides useful information for evaluating how efficient

management has been in granting credit to produce revenue.

Net sales
Average accounts receivable
$ in millions 2006 2005 2004 2003
Dell
Net sales $ 57,420 $ 55,788 $ 49,121 $ 41,327
Average accounts receivable 4,352 3,826 4,025 3,111
Accounts receivable turnover 13.2 14.6 12.2 13.3
Apple
Net sales $ 19,315 $ 13,931 $ 8,279 $ 6,207
Average accounts receivable 1,074 835 770 666
Accounts receivable turnover 18.0 16.7 10.8 9.3
Homework

HOMEWORK:
E9-10, 9-11, 9-12, 9-13, 9-14, pg. 402
Problem 9-1A, pg. 402, Problem 9-2A, 9-3A, pg. 403 (Wild 22nd ed)

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