COLLEGE OF BUSINESS AND ACCOUNTANCY

Topic: Subsequent measurement of Accounts Receivable

Learning Outcomes:
1. Classify receivables as either current or noncurrent assets.
2. State the timing of recognition and measurement of trade receivables.
3. Estimate the recoverable historical cost of trade receivables.

Core Value/Biblical Principles:

Psalm 37:21 ESV
The wicked borrows but does not pay back, but the righteous is generous and gives;

Learning Activities and Resources:

In studying financial statements, investors often focus on revenues, net income, and earnings per share.
Although investigating a business’s revenues and profits is a good way to get a picture of its overall condition,
analyzing the accounts receivable allows you to go a step deeper in your analysis.

Introduction:
Under U.S. generally accepted accounting principles (GAAP), expenses must be recognized in the same
accounting period that the related revenue is earned, rather than when payment is made. Therefore,
companies must estimate a dollar amount for uncollectible accounts using the allowance method.

SUBSEQUENT MEASUREMENT OF ACCOUNTS RECEIVABLE

Accounts receivable are subsequently measures at recoverable historical cost (net realizable
value). Net realizable value represents the amount of cash expected to be recovered from the contractual
cash flows of the receivable.
It is normally computed as the transaction price minus subsequent repayments of principal and minus
any reduction (directly or through the use of an allowance account) for uncollectability or impairment.

Estimating the recoverable historical cost of accounts receivable

In estimating the recoverable historical cost (NRV) of trade accounts receivable, an entity considers
the following:
a. Sales discounts – any adjustment is accounted for prospectively as an adjustment to revenue.
b. Doubtful accounts (allowance for bad debts/uncollectible accounts/probable losses on receivables)
- When collectability becomes doubtful, an allowance is recognized to adjust the receivables
to their recoverable amount.

ACCOUNTING FOR BAD DEBTS

1. Allowance Method
The allowance method of accounting for bad debts involves estimating uncollectible
accounts at the end of each period.
GAAP require the use of the allowance method since it conforms to accrual basis of
accounting, matching principle and conservatism.

Write-off – an entity shall directly reduce the gross carrying amount of a financial asset, when the entity has
no reasonable expectations of recovering a financial asset in its entirety or a portion thereof.

Recovery – to record the reversal of account that is written off.

JOURNAL ENTRY
Bad debt expense xx
Collectability becomes doubtful
Allowance for Bad Debts xx
 Allowance for doubtful accounts xx
Write-off
Accounts Receivable xx
Accounts Receivable xx
Allowance for doubtful accounts xx
Recovery of an Uncollectible account
Cash xx
Accounts Receivable xx

2. Direct Write-Off Method

Under the direct write-off method, when a company determines a particular account to be
worthless, it charges the loss to Bad Debt Expense and credits to the receivable account. No entry is
made for accounts that are merely doubtful of collection.
When accounts previously written-off are subsequently recovered, the collection is simply
recognized as gain.

JOURNAL ENTRY

Collectability becomes doubtful No Entry

Bad debt expense xx

Write-off
Accounts Receivable xx

Cash xx
Recovery of an Uncollectible account
Gain on Recovery xx

Estimating Doubtful Accounts

1. Percentage of Net Credit Sales (Single loss-rate approach/ Income Statement Approach)
 Under this method, bad debts expense is calculated as percentage of credit sales of the period.
 The percentage to be applied to credit sales is calculated on the basis of past experience and
other factors such as change in credit policy.
 Achieves proper matching of costs with revenues.

Formula: Bad Debts Expense = Estimated % × Credit Sales

2. Percentage of receivables (Single loss-rate approach)

 Under this method, the required balance of allowance for doubtful accounts is computed by
applying a percentage on the ending balance of the receivables.
 The percentage to be applied to credit sales is calculated on the basis of past experience and
other factors such as change in credit policy.

Formula: Required balance of allowance = Estimated % × Accounts Receivable, end

Bad debts expense is computed as follows:

Accounts receivable xx
Bad debt rate %
Required allowance xx
Less: Previous allowance xxx (xx)
Bad debts expense xxx
 3. Aging of accounts receivable (Provision matrix)
 Under this method, the required balance of allowance for doubtful accounts is computed by
applying various percentage on the ending balance of the receivables.
 Applies a different percentage based on past experience to the various age categories.
 The age of receivable is determined based either on the no. of days the receivables are
outstanding or on the no. of days the receivables are past due.
 Bad debt expense is computed similar to percentage of receivables.

Combination of Methods
Entities may estimate bad debts using more than one method.

Classification of Bad Debt Expense

Function of Expense Method Statement of Comprehensive Income

Bad Debt/ Doubtful Account Administrative Expense

Debit balance in Allowance for Doubtful Accounts

ILLUSTRATION 1
ABC Co. has the following information before any year-end adjustment.

Account Receivable, Dec. 31 P100,000

Allowance for doubtful accounts, Jan. 1 3,000
Percentage of receivables 2%

Write-offs and recoveries during the year amounted to P3,800 and P500, respectively.

Requirement: Compute for the bad debt expense for the year.
Solution:
Allowance for Doubtful Accounts

Beg. Bal. 3,000

Write-off 3,800 500 Recoveries
8,300 BAD DEBT EXPENSE (squeeze)

End. Bal. 2,000

Receivables Denominated in Foreign Currency

Initial Recognition – translated at the exchange rate at the date of transaction
Subsequent Measurement - translated at the exchange rate at the end of reporting period

Risk of Accounting loss and Off-balance-sheet-risk

Risk of accounting loss refers to the risk that the carrying amount of a recognized asset will not be
recovered.
Off-balance-sheet-risk refers to a potential loss that may exceed the amount recognized as an asset.
 Example 1: Risk of Accounting loss
ABC Co. reported receivables of P100,000 and related allowance for uncollectability of P20,000 in its
year-end statement of financial position.

The risk of accounting loss is P80,000 (100k-20k), equal to the carrying amount of the
receivables. The off-balance-sheet-risk is ZERO because of lack information the example.

Example 2: Off-balance-sheet-risk
Assume that the receivables above are in litigation and the estimated cost of litigation is 20% of the
receivables. When it is reasonably possible, but not probable, that ABC Co. will not be able to collect
on the receivables after litigation, the off-balance sheet risk is P40,000, computed as follows:

Face amount receivable 100,000

Cost of litigation (100k x 20%) 20,000
Total Potential Loss 120,000
Less: Carrying amount of receivable (80,000)
OFF-BALANCE-SHEET-RISK 40,000

Possible losses (i.e., not probable) are normally not recognized but rather disclosed only. Thus, they
are called off-balance-sheet items.

ILLUSTRATION 1: Trade and Non-Trade Receivables

The record of Wee Co. December 31, 20x1 show the following:
Accounts receivable, net of 15,000 credit balance in customers’ accounts 173,000
Allowance for uncollectible accounts 8,000
Notes receivable (non-trade) – due on Dec. 31, 20x5 180,000
Claim for tax refund (approved by the BIR and due on demand) 12,000
Advances to affiliates (payment due date not yet agreed upon) 900,000
Advances to officers (due in 6 months) 180,000
Dividends receivable 220,000
Selling price of unsold goods sent out on consignment at 140% cost 28,000
Security deposit on a long-term lease 30,000
TOTAL 1,700,000

Requirement: Compute for the correct amount of total receivables, with subclassifications for the following:
trade receivables, current receivable and non-current receivable.

SOLUTION
Accounts receivable (158K + 15K) 173,000
(8,000
Allowance for uncollectible accounts
)
Total trade receivables 165,000
Claim for tax refund 12,000
Dividends receivable 220,000
Advances to officers (due in 6 months) 180,000
Total non-trade receivables 412,000
Total current receivables 577,000
Notes receivable (non-trade) 180,000
Advances to affiliates 900,000
Security deposit on a long-term lease 30,000
1,110,00
Total noncurrent receivables
0
 1,687,00
TOTAL RECEIVABLES
0

ILLUSTRATION 2: Recognition of trade receivables

On December 27, 20x1, Bye-bye Duck Co. received a sale order for a credit sale of goods with selling price of
P1,600. The goods were shipped by Bye-Bye Duck Co. on December 31, 20x1 and were received by the buyer
on January 2, 20x2 related shipping costs amounted to P50. Bye-bye Duck Co. collected the receivable on
January 5, 20x2.

Requirements: Provide the entries under each of the following shipment terms: (a)FOB Shipping Point,
Freight Collect, (b) FOB Destination, Freight collect, (c) FOB Shipping point, Freight prepaid; and (d) FOB
Destination, Freight Collect.

SOLUTIONS:

a. FOB shipping point, freight collect

Dec. 27, 20x1 No entry
Accounts receivable 1,600
Dec. 31, 20x1 Sales 1,600
to record sale on account

Jan. 2, 20x2 No entry

Cash 1,600
Jan. 5, 20x2 Accounts receivable 1,600
to record settlement of accounts receivable

b. FOB destination, freight prepaid

Dec. 27, 20x1
No entry -

Dec. 31, 20x1 Prepaid freight 50

Cash 50
to record prepayment of freight to the carrier
Jan. 2, 20x2 Accounts receivable 1,600
Sales 1,600
to record sale on account
Jan. 2, 20x2 Freight-out 50
Prepaid freight 50
to charge the prepaid freight to expense
Jan. 5, 20x2 Cash 1,600
Accounts receivable 1,600
to record settlement of accounts receivable

c. FOB shipping point, freight prepaid

Dec. 27, 20x1
No entry -

Dec. 31, 20x1 Accounts receivable 1,650

Sales 1,600
Cash 50
to record sale on account and freight paid on behalf of the buyer
Jan. 2, 20x2 -
No entry
-
Jan. 5, 20x2 Cash 1,650
Accounts receivable 1,650
 to record collection of account receivable inclusive of reimbursement for
the freight paid

d. FOB destination, freight collect

Dec. 27, 20x1
No entry
Dec. 31, 20x1 - -
No entry
Jan. 2, 20x2 Accounts receivable 1,550
Freight-out 50
Sales 1,600
to record sale on account and freight accommodated by the buyer
Jan. 5, 20x2 Cash 1,550
Accounts receivable 1,550
to record collection of account receivable net of reimbursement for the
freight

ILLUSTRATION 3: Trade and Cash Discounts

Farmer Dell Co. sold goods with a list price of P100,000 on a credit term of 10%, 3/10, n/45.

Requirements (a): Traditional GAAP

Provide the journal entries under the (1) Gross Method and (2) Net Method, respectively. Use the following
assumptions: the consideration is collected:
a. Within a discount period
b. Beyond the discount period

Requirements (b): PFRS 15

In accordance with PFRS 15, Farmed Dell Co. estimates that 80% of the available cash discount will be taken
by the customer. Provide the journal entries. Assume (1) Farmer Dell Co. does not use a sales discount
account, (2) Farmer Dell Co. uses a sales discount account. Assume further that the estimate coincides with
actual result.

SOLUTIONS: Requirement (a): Traditional GAAP

Gross method Net method
1. Sale on account
Accounts receivable (100,000 x 90%) 90,000 Accounts receivable (100,000 x 90% x 97%) 87,300
Sales Sales
90,000 87,300
2. Collection is made within the discount period
Cash 87,300
Sales discounts (90K x 3%) Cash 87,300
2,700 Accounts receivable
Accounts receivable 87,300
90,000
3. Collection is made beyond the discount period.
Cash 90,000
Cash 90,000 Sales discount forfeited
Accounts receivable 2,700
90,000 Accounts receivable
87,300
Requirement (b.1): PFRS 15
Invoice amount (100,000 x 90%) 90,000
Multiply by: 3%
Total available discount 2,700
Multiply by: 80%
Discount expected to be taken 2,160

Invoice amount 90,000

Less: Discount expected to be taken (2,160)
Transaction price 87,840

1. Sale on account
Accounts receivable 87,840
Revenue 87,840

2. Portion collected within the discount period

Cash (90,000 x 80% x 97%) 69,840
Accounts receivable 69,840

3. Portion collected beyond the discount period

Cash (90,000 x 20%) or (87,840 – 69,840) 18,000
Accounts receivable 18,000

Requirement (b.2): PFRS 15

1. Sale on account
Accounts receivable (100K x 90%) 90,000
Revenue 90,000
Sales discount 2,160
Allowance for sales discount 2,160

2. Portion collected within the discount period

Cash on hand (90,000 x 80% x 97%) 69,840
Allowance for sales discount 2,160
Accounts receivable (90,000 x 80%) 72,000

3. Portion collected beyond the discount period

Cash on hand [(90K x 20%) or remaining balance] 18,000
Accounts receivable 18,000

ILLUSTRATION 4: Accounting for Bad Debts

The balance of Boom Co.’s accounts receivable and allowance for bad debt at the beginning of the period were
P120,000 and P9,000, respectively. The following transactions occurred during the period:
a. Sales on Account, P250,000
b. Collections of sales on account, P220,000
c. The collectability of P30,000 accounts receivable was found to be doubtful
d. P15,000 accounts receivable were deemed worthless
e. P8,000 previously written off accounts receivable was subsequently collected (not included in the
collections above)

Requirements:
1. Prepare the journal entries (use the allowance method)
2. Determine the ending balances of account receivable and allowance for bad debts using T-accounts
 3. Determine the carrying amount of the accounts receivable at year-end

SOLUTIONS: Requirement (a):

(a) Accounts receivable 250,000
Sales 250,000

(b) Cash 220,000

Accounts receivable 220,000

(c) Bad debt expense 30,000

Allowance for doubtful accounts 30,000

(d) Allowance for doubtful accounts 15,000

Accounts receivable 15,000

(e) Accounts receivable 8,000

Allowance for doubtful accounts 8,000

Cash 8,000
Accounts receivable 8,000

Requirement (b):

Accounts receivable
beg. 120,000
Sales on account 250,000 220,000 Collections, excluding recoveries
15,000 Write-offs
Recovery 8,000 8,000 Collection on recovery
135,000 end.

Allowance for bad debts

9,000 beg.
Write-off 15,000 30,000 Bad debts
8,000 Recovery
end. 32,000

Requirement (c):
Accounts receivable, end. 135,000
Allowance for bad debts, end. (32,000)
Carrying amount, end. 103,000

ILLUSTRATION 5: Estimating Doubtful Accounts (Percentage of Net Credit Sales and Receivables)

The record of Ship Co. shows the following information:

Accounts Receivable, Jan 1. 180,000
Allowance for Bad Debts, Jan. 12,600
Sales on Account 900,000
Sales returns on Credit Sales 90,000
Write-offs 15,800
Recoveries 2,600
 Collections, excluding recoveries 781,000

Requirements: Compute for the (1) bad debts expense, (2) ending balance of allowance for bad debts, and
(3) carrying amount of accounts receivable on December 31 under each of the following scenarios:
a. Percentage of Net Credit Sales (2%)
b. Percentage of Receivables (8%)

SOLUTIONS: (a) Percentage of net credit sales

Allowance for bad debts

12,600 beg.
Write-offs 15,800 2,600 Recoveries
16,200 (1) Bad debts [900K – 90K) x 2%]
(2) end. 15,600

Accounts receivable
beg. 180,000
Net credit sales 810,000 15,800 Write-offs
781,000 Collections, excluding recoveries
193,200 end.

Accounts receivable, Dec. 31 193,200

(15,600
Allowance for bad debts, Dec. 31
)
(3) Carrying amount, Dec. 31 177,600

(b) Percentage of ending receivable

Allowance for bad debts

12,600 Beg balance
Write-offs 15,800 2,600 Recoveries
16,056 (1) Bad debts (squeeze)
(2) end. (193.2K x 8%) 15,456

Accounts receivable, Dec. 31 193,200

(15,456
Allowance for bad debts, Dec. 31
)
(3) Carrying amount, Dec. 31 177,744

ILLUSTRATION 6: Estimating Doubtful Accounts (Aging of Receivables)

The following pertains to Lakland Co.’s accounts receivable

Days outstanding Amount % Uncollectible

0 – 60 190,000 1%
61 – 90 240,000 3%
91 - 120 30,000 7%
Over 120 10,000 10%
Totals 470,000

The allowance for bad debts account has a beginning balance of P10,100. Lakland wrote-off P4,600 accounts
and recovered P200 accounts during the period

Requirements: Compute for the (1) bad debts expense, (2) ending balance of allowance for bad debts, and
(3) carrying amount of accounts receivable on December 31.

SOLUTIONS:

Required
Days outstanding Amount % Uncollectible
allowance
0 – 60 190,000 1% 1,900
61 – 90 240,000 3% 7,200
91 - 120 30,000 7% 2,100
Over 120 10,000 10% 1,000
TOTALS 470,000 12,200

Allowance for bad debts

10,100 beg.
Write-offs 4,600 200 Recoveries
(1) Bad debts
6,500 (squeeze)
(2) end. 12,200

Accounts receivable, Dec. 31 470,000

(12,200
Allowance for bad debts, Dec. 31
)
(3) Carrying amount, Dec. 31 457,800

Life Application:
The 6 best ways to increase your accounts receivable turnover ratio:
1. Improve your billing efficiency.
2. Take initial deposits at the start of a project
3. Regularly audit your balance sheet.
4. Use your digital calendar to set reminders on payments
5. Be proactive in your invoicing practices
6. Provide discounts or incentives for early payments.

Summary:
  Accounts receivable measures the money that customers owe to a business for goods or services
already provided.
 Companies that allow customers to purchase goods or services on credit will have receivables on
their balance sheet.
 Receivables are recorded at the time of a sale when a good or service has been delivered but not yet
been paid for.
 Receivables will decrease when payment from customers is received.

--------------------------------------------------------Nothing follows----------------------------------------------------------------
References: INTERMEDIATE ACCTG 1A [by: Millan, Zeus Vernon B. (2021)]
Financial Accounting Volume 1 [by: Valix, C. T., Peralta, Jose F., Valix, C A M. (2015).]
https://www.investopedia.com/terms/r/receivables.asp
https://www.fundthrough.com/blog/working-capital/accounts-receivable-explained-how-to-take-charge-of-
your-business-capital/
https://www.investopedia.com/articles/investing/052815/importance-analyzing-accounts-receivable.asp

--------------------------------------------------------Nothing follows----------------------------------------------------------------
References: INTERMEDIATE ACCTG 1A [by: Millan, Zeus Vernon B. (2021)]
Financial Accounting Volume 1 [by: Valix, C. T., Peralta, Jose F., Valix, C A M. (2015).]