ACCOUNTS RECEIVABLES

Accounts receivable is one of a series of accounting transactions dealing with the billing of customers who owe money to a person, company or organization for goods and services that have been provided to the customer. In most business entities this is typically done by generating an invoice and mailing or electronically delivering it to the customer which is to be paid within an established timeframe called credit or payment terms. An example of a common payment term is Net30, meaning payment is due in the amount of the invoice 30 days from the date of invoice. Other common payment terms include Net45 & Net60 but could in reality be for any time period agreed upon by the vendor and client. While booking a receivable is accomplished by a simple accounting transaction the process of maintaining and collecting payments on the accounts receivable subsidiary account balances is and can be a full time proposition. Depending on the industry in practice accounts receivable payments can be received up to 10 - 15 days after the due date has been reached. These types of payment practices are sometimes developed by industry standards, corporate policy, or because of the financial condition of the client. Accounts receivables are also known as Debtors.

Debtor is one of the account balances in financial statements. Usually it is

presented as one of current assets. In writing ledger accounts, a debtor's amount is written on the debit (Dr) side, as the name suggests. Debtor as it appears in balance sheet connotes same meaning as the accounts receivable (USA accountancy). In other words, a Debtor is someone who owes you money. It is the opposite of a Creditor who is someone to whom you owe money. In economics a debtor (or a borrower) owes money to a creditor.

On a company's balance sheet, accounts receivable is the amount that customers owe a business. Sometimes called trade receivables, they are classified as current assets. To record a journal entry for a sale on account, following entry is passed.
DATE 2007 Jan, 01 PARTICULARS Accounts Receivable Sales (Sales made on credit) LF DEBIT AMOUNT Rs. 100,000 CREDIT AMOUNT Rs. 100,000

When the customers pays off their accounts,

DATE 2007 Jan, 05 PARTICULARS Cash Accounts Receivables (Cash received from customer) LF DEBIT AMOUNT Rs. 100,000 CREDIT AMOUNT Rs. 100,000

The ending balance on the trial balance sheet for accounts receivable is always debit. Business organizations which have become too large to perform such tasks by hand (or small ones that could but prefer not to do them by hand) will generally use accounting software on a computer to perform this task. Associated accounting issues include recognizing accounts receivable, valuing accounts receivable, and disposing of accounts receivable.

Accounts receivable departments use the sales ledger.

BAD DEBTS/UNCOLLECTIBLE ACCOUNTS:

No business wants to sell goods on account of customers who will unablw to pay. Many companies maintain their own credit departments that investigate the credit worthiness of each prospective customer. If a company makes credit sales to hundreds, perhaps thousands of customers, some customers inevitably will turn out to be unclooectibles, or known as bad debts.

A limited amount of uncollectible accounts is not only expected, it is evidence of a sound credit policy. If the credit department is overlu cautious, the business may lose many sales opportunities by rejecting customerts who should have been considered acceptable credit risk. UNCOLLECTIBLE ACCOUNTS IN THE FINANCIAL STATEMETNS An account receivable that has been determined uncollectible is no longer an asset. The loss of this asset represents an expense, termed Bad debts expense or Uncollectble accounts expense. In measuring income, one of the most fundamental principles of accouiting is that revenue should be matched with the expense incurred in generating that revenue. Uncollectible accounts expense is caused by selling goods on credit to customers who fail to pay their bills. Following accounting entry is passed in the books when an account receivable becomes uncollectable.
DATE 2007 Jan, 23 PARTICULARS Uncollectable Account/Bad Debt Expense Allowance for Doubtful Accounts (To record the portion of the total accountable receivable estimated to be uncollectible) LF DEBIT AMOUNT Rs. 10,000 CREDIT AMOUNT Rs. 10,000

The uncollectible account expense account created by the debit part of this entry in closed into the income statement in the same manner as any other expense. The allowances for doubtful accounts that is creditred in the above journal entry appears in the balance sheet as a deduction from the face amount of the accounts receivable. It reduces the accounts receivables to their net realizable value in the balance sheet.

ALLOWANCES FOR DOUBTFUL DEBTS:

Since not all customer debts will be collected, businesses typically record an allowance for bad debts which is subtracted from total accounts receivable. When accounts receivable are not paid, some companies turn them over to third party collection agencies or collection attorneys who will attempt to recover the debt via negotiating payment plans, settlement offers or legal action. Outstanding advances are part of accounts receivables : If a company gets an order from its
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customers with advance agreed in payment terms. Since no billing is being done to claim the advances several times this area of collectible is not reflected in Accounts Receivables. Ideally, since advance payment is mutually agreed term, it is the responsibility of the accounts department to take out periodically the statement showing advance collectible and should be provided to sales & marketing for collection of advances. The payment of accounts receivable can be protected either by a letter of credit or by Trade Credit Insurance. Companies can use their accounts receivable as collateral when obtaining a loan (Asset-based lending) or sell them through Factoring (finance). Pools or portfolios of accounts receivable can be sold in the capital markets through a Securitization.

WRITING OFF AN UNCOLLECTIBLE ACCOUNT RECEIVABLE

Whenever an account receivable from a specific customer is determined to be uncollectible, it no longer qualifies as an asset and should be written off. To write off an account receivable is to reduse the balance of the customers account to zero. The journal entry to accomplish this consists of a credit to the accounts receivable control account in the general ledger and an offsetting debit to allowances for doubtful debts.
DATE 2007 Jan, 31 PARTICULARS Allowance for Doubtful Accounts Accounts receivable (AB & Co) (To write off the receivable from AB & Co as uncollectible) LF DEBIT AMOUNT Rs. 10,000 CREDIT AMOUNT Rs. 10,000

RECOVERY OF AN ACCOUNT RECEIVABLE PREVIOUSLY WRITTON- OFF

If the customer pays the account in full the entry to reverse the previous write off as follows:
DATE 2007 Feb, 19 PARTICULARS Accounts receivable (AB & Co) Allowances for doubtful accounts (To reinstate as an asset an account receivable previously written off) LF DEBIT AMOUNT Rs. 10,000 CREDIT AMOUNT Rs. 10,000

Notice that this entry is exactly the opposite of the entry made when the account was written off as uncollectible. A separate entry will be made to record the cash collected from AB & Co and to remove this reinstate account from the system.
DATE 2007 Feb, 20 PARTICULARS Cash Accounts receivable (AB & Co) (To record the collection of receivable from AB & Co) LF DEBIT AMOUNT Rs. 10,000 CREDIT AMOUNT Rs. 10,000

AGING OF ACCOUNTS RECEIVABLES

Schedule that lists each invoice by days elapsed since due date Aging categories Not Yet Due 1-30 Days Past Due 31-60 Days Past Due 61-90 Days Past Due 90 days and more etc.

ESTIMATING BAD DEBTS WITH AGING SCHEDULE

Use different percentage to estimate uncollectible amount for each aging category.

Sum of amounts calculated is desired balance in Allowance for Doubtful Accounts.

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Following is the attached accounts receivables aging chart.

DIRECT WRITE-OFF METHOD

Some companies do no use any valuation allowances for accounts receivables. Instead of making end of period adjusting entries to record uncollectible accounts expense on the basis of estimates, these companies recognize no uncollectible accounts expense until specific receivables are determined to be worthless. This method makes no attempt to match revenue with the expense of uncollectible accounts. When a particular customers account is determined to be uncollectible, it is written off directly to uncollectible accounts expense as follows:

DATE 2007 Jan, 25

PARTICULARS Uncollectible Account/Bad Debt Expense Accounts receivables (AB & Co) (To write off the receivables from AB& Co as uncollectibles)

LF

DEBIT AMOUNT Rs. 10,000

CREDIT AMOUNT Rs. 10,000

When the direct write off method is used, the accounts receivables will be listed in the balance sheet at their gross amount, and no valuation allowance will be used.

INTERNAL CONTROLS FOR RECEIVABLES

One of the most important principles of internal control is that employees who have custody of cash or other negotiable assets must not maintain accounting records. In a small business one employee is often responsible for handling cash receipts, maintaining accounts receivables records, issuing credit memoranda and writing off uncollectible accounts. Such a combination of duties is an invitation to fraud. The employee in this situation is able to remove the cash collected from customer without making any record of the collection. So in order to make internal control for receivables strong it is necessary that employees who maintain the accounts receivable subsidiary ledger should have no access to cash receipts, similarly employees who maintain accounts receivables should not have authority to issue credit memoranda.

CASE SET

MCB BANK LTD

HISTORY

Incorporated in Calcutta, India under the Indian companies Act, VII of 1913 on 9th July, 1947 Commenced its business from 17th August 1948. Head office was shifted to Dhaka in August 1948. Head office was shifted to Karachi on 23rd August, 1956 Nationalized in 1974. Privatized on 8th April 1991.

VISION Challenging and changing the way you bank MISSION

MCB Banks team of committed professionals is dedicated to maintaining long term customer relationships through outstanding service and conveyance

CORE VALUES Trust Customer Focus Innovation Teamwork Achievements Social Responsibilities
I visited MCB Bank LTD in respect of my topic Accounts receivables and I found the above-mentioned history of the bank, its vision, mission and core values. The enclosure is the financials of MCB Bank Ltd for the period ended June 30, 2007.

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Banks accounts receivables are shown in the balance sheet (page 21in enclosure) Showing Rs. 193.914M for the period June 30, 2007 and Rs. 198.237M for the period December 31, 2006. Banks Bad Debts written off directly are shown in the cash flow Statement (Page 23 in enclosure) showing Rs. 154M for the period June 30, 2007 and Rs. 1129 for the period June 30, 2006. Above mentioned Bad Debts were directly written off by the bank, Instead of making end of period adjusting entries to record uncollectible accounts expense on the basis of estimates, MCB Bank recognized no uncollectible accounts expense until specific receivables are determined to be worthless. This method makes no attempt to match revenue with the expense of uncollectible accounts. Following entry was passed for direct written off of bad debts.
Amount in Millions
DATE 2007 June 30 PARTICULARS Uncollectible Account/Bad Debt Expense Accounts receivables (To write off the receivables from accounts receivables as uncollectibles) LF DEBIT AMOUNT Rs. 154 CREDIT AMOUNT Rs. 154

PROVISION/ ALLOWANCES FOR DOUBTFUL DEBTS MCB bank Ltd also creates provision/allowances for doubtful debts. MCB bank has divided it uncollectibles into four categories, which are:
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1. 2. 3. 4.

Classified. Substandard. Doubtful. Loss.

AGING PERIOD IN MCB BANK FOR ACCOUNTS RECEIVABLES

Payment late from 1-60 days Classified

Payment late from 61-90 days Substandard

Payment late from 91-120 days Doubtful

Payment late more that 120 Days Loss

1. CLASSIFIED: When payment is late from 1-60 days the account receivable account is categorized as CLASSIFIED. Its reasons for being classification are presented to General Manager, and it is reported to State Bank Of Pakistan. The reason for being classified by the MCB Bank is to keep a close eye on this account and to make regular contacts with the client for recovery of dues. At this stage 25% of the amount receivable is passed in the books and expense account is debited and liability is created, following entry us passed in the books of accounts.

DATE 2007 June 30

PARTICULARS Provision for doubtful debt Exp Specific provision for Bad debts

LF

DEBIT AMOUNT Rs. 38

CREDIT AMOUNT Rs. 38

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(To create provision for doubtful debts)

2. SUBSTANDARD: When payment is late from 61-90 days the account receivable account is categorized as SUBSTANDARD. In this case account performance is given to Group head. Who critically examines the reasons for non-payment of dues from account receivable and further 25% of the amount receivable is passed in the books. 3. DOUBTFUL: When payment is late from 91-120 days the account receivable account is categorized as Doubtful. In this situation a legal notice is sent to the client for payment of all the dues and the matter is reported to Chief executive and further 25% of the amount receivable is passed in the books. 4. LOSS: When payment is late from 121 days or more the account receivable account is categorized as loss. In this stage further 25% of the amount receivable is passed in the books. In this stage 100% of the amount receivable completes and debited to the expense of the branch.

MANAGEMET OF ACCOUNTS RECEIVABLES

MCB Banks management has two conflicting objectives with respect to the account receivables. On the one hand, management wants to generate as much sales revenue as possible. Offering customers lengthy credit terms, with little or no interest.

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On the other hand, cash management is to minimize the amount of money tied up in the form of accounts receivables. Several tools are available to a management that must offer credit terms to its customers yet wants to minimize the companys investment in accounts receivables.

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