ACCOUNTING FOR RECEIVABLES

Chapter 9

2009 The McGraw-Hill

Companies, Inc.,

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ACCOUNTS RECEIVABLE

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.

McGraw-Hill/Irwin

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RECOGNIZING ACCOUNTS
RECEIVABLE

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.
McGraw-Hill/Irwin

Slide 3

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SALES ON CREDIT
TechCom as two major credit customers (1) CompStore owes the
company $2,000 on account, and (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.

Accounts
Jul Receivable 1 CompStore
Sales

DR CR
950
950

To record credit sales to

CompStore

McGraw-Hill/Irwin

Cash
720
Accounts
Receivable
RDA Electronics
720
To record credit sales to

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McGraw-Hill/Irwin

SALES ON CREDIT

Slide 5

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CREDIT CARD SALES

Advantagesofallowingcustomerstouse
creditcards:

Customers
Customers
credit
credit is
is
Sales
Sales increase
increase by
by
evaluated
evaluated
providing
providing purchase
purchase
by
by the
the
options
options to
to the
the
credit
credit card
card
customer.
customer.
issuer.
issuer.
Cash
The
Cash
The risks
risks of
of extending
extending
collections
credit
collections are
are
credit are
are transferred
transferred
quicker.
to
quicker.
to the
the credit
credit card
card
issuer.
issuer.

McGraw-Hill/Irwin

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CREDIT CARD SALES

Withbankcreditcards,theseller

depositsthecreditcardsalesreceipt
inthebankjustlikeitdepositsa
customerscheck.

Thebankincreasesthebalanceinthe
companyscheckingaccount.

Thecompanyusuallypaysafeeof1%
to5%fortheservice.
McGraw-Hill/Irwin

Slide 7

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CREDIT CARD SALES

On July 15th, TechCom has $100 of credit card
sales with a 4% fee, and its $96 cash is received
immediately on deposit.

McGraw-Hill/Irwin

Slide 8

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CREDIT CARD SALES

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.

McGraw-Hill/Irwin

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INSTALLMENT ACCOUNTS
RECEIVABLE

C1

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.

McGraw-Hill/Irwin

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VALUING ACCOUNTS
RECEIVABLE

P1

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

McGraw-Hill/Irwin

Slide 11

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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.

McGraw-Hill/Irwin

Slide 12

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DIRECT WRITE-OFF METHOD

On March 11th, J. Kent was able to make full payment
to TechCom for the amount previously written-off.

McGraw-Hill/Irwin

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MATCHING VS. MATERIALITY

Matching requires
expenses to be
reported in the same
accounting period
as the sales they
help produce.

McGraw-Hill/Irwin

Materiality states
that an amount can
be ignored if its
effect on the
financial statements
is unimportant to
users business
decisions.

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ALLOWANCE METHOD

Attheendofeachperiod,estimatetotalbaddebts
Attheendofeachperiod,estimatetotalbaddebts
expectedtoberealizedfromthatperiodssales.
expectedtoberealizedfromthatperiodssales.
Therearetwoadvantagestotheallowancemethod:
Therearetwoadvantagestotheallowancemethod:
1.
1. Itrecordsestimatedbaddebtsexpenseinthe
Itrecordsestimatedbaddebtsexpenseinthe
periodwhentherelatedsalesarerecorded.
periodwhentherelatedsalesarerecorded.
2.
2. Itreportsaccountsreceivableonthebalance
Itreportsaccountsreceivableonthebalance
sheetattheestimatedamountofcashtobe
sheetattheestimatedamountofcashtobe
collected.
collected.

McGraw-Hill/Irwin

Slide 15

P2

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.

Contra-asset account

McGraw-Hill/Irwin

Slide 16

P2

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.

McGraw-Hill/Irwin

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ESTIMATING BAD DEBTS

EXPENSE

P2

Two
Two Methods
Methods
1.
1.
2.
2.

Percent
Percent of
of Sales
Sales Method
Method
Accounts
Accounts Receivable
Receivable Methods
Methods

McGraw-Hill/Irwin

Percent
Percent of
of Accounts
Accounts
Receivable
Receivable
Aging
Aging of
of Accounts
Accounts Receivable
Receivable

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P2

PERCENT OF SALES METHOD

Bad debts expense is computed as follows:

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

estimated that 0.6% of credit sales will eventually
prove uncollectible.
Lets look at recording Bad Debts Expense for 2009.
McGraw-Hill/Irwin

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PERCENT OF SALES METHOD

Musiclandsaccountant
computesestimated
BadDebtsExpenseof
$2,400.

McGraw-Hill/Irwin

Slide 20

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PERCENT OF RECEIVABLES
METHOD
ComputetheestimateoftheAllowance

forDoubtfulAccounts.

BadDebtsExpenseiscomputedas:

Total Estimated
Bad Debts Expense
Previous Balance in
Allowance Account
= Current Bad Debts
Expense
McGraw-Hill/Irwin

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PERCENT OF ACCOUNTS
RECEIVABLE

P2

Musicland
Musicland has
has $50,000
$50,000 in
in
accounts
accounts receivable
receivable and
and aa $200
$200
credit
credit balance
balance in
in Allowance
Allowance for
for
Doubtful
Doubtful Accounts
Accounts on
on December
December
31,
31, 2009.
2009. Past
Past experience
experience
suggests
suggests that
that 5%
5% of
of receivables
receivables
are
are uncollectible.
uncollectible.
Lets
Lets record
record Musiclands
Musiclands Bad
Bad
Debts
Debts Expense
Expense for
for 2009.
2009.
McGraw-Hill/Irwin

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P2

PERCENT OF ACCOUNTS
RECEIVABLE

DesiredbalanceinAllowancefor
DoubtfulAccounts.

McGraw-Hill/Irwin

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AGING OF ACCOUNTS
RECEIVABLE METHOD

P2

Eachreceivableisgroupedby
Eachreceivableisgroupedby
howlongitispastitsduedate.
howlongitispastitsduedate.

Eachagegroupismultiplied
byitsestimatedbaddebts
percentage.

Estimatedbaddebtsforeach
Estimatedbaddebtsforeach
grouparetotaled.
grouparetotaled.
McGraw-Hill/Irwin

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AGING OF ACCOUNTS
RECEIVABLE

P2

McGraw-Hill/Irwin

Slide 25

AGING OF ACCOUNTS
RECEIVABLE

P2

Musicland
Musicland has
has an
an unadjusted
unadjusted
credit
credit balance
balance in
in the
the allowance
allowance
account
account is
is $200.
$200.
We
We estimated
estimated the
the proper
proper
balance
balance to
to be
be $2,270.
$2,270.

McGraw-Hill/Irwin

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P2

SUMMARY OF METHODS
%ofSales

%ofReceivables

Agingof
Receivables

Emphasison
Matching

Emphasison
RealizableValue

Emphasison
RealizableValue

Accts.
Rec.

Accts.
Rec.

Sales

Bad
Debts
Exp.

Income
Statement
Focus
McGraw-Hill/Irwin

All.for
Doubtful
Accts.

All.for
Doubtful
Accts.

Balance
SheetFocus
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C2

NOTES RECEIVABLE
$1,000.00

Term
Payee

July10,2009

Ninetydays

after date I promise to

pay to
TechCom,LosAngeles,CA

thePrincipal
order
Onethousandandno/100---------------------------------
Dollars
of
Payable FirstNationalBankofLosAngeles,CA
InterestRate
Maker
at
Value received with interest12%
at
per
annum
Oct.8,2009
Julia Browne
No. 42
Due
DueDate
McGraw-Hill/Irwin

Slide 28

C2

INTEREST COMPUTATION

Evenfor
Evenfor
maturitiesless
maturitiesless
thanoneyear,
thanoneyear,
therateis
therateis
annualized.
annualized.
McGraw-Hill/Irwin

Ifthenoteis
Ifthenoteis
expressedin
expressedin
days,basea
days,basea
yearon360
yearon360
days.
days.
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COMPUTING MATURITY AND

INTEREST

C2

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?

ThenoteisdueandpayableonOctober8,2009.
McGraw-Hill/Irwin

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P3

COMPUTING MATURITY AND

INTEREST

Total interest is due on

October 8, 2009.
McGraw-Hill/Irwin

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RECOGNIZING NOTES
RECEIVABLE

P3

HereistheentrytorecordthenoteonJuly10,2009.

McGraw-Hill/Irwin

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HONORING NOTES
RECEIVABLE

P4

HereistheentrytohonorthenoteonOctober8,2009.

McGraw-Hill/Irwin

Slide 33

P4

RECORDING A DISHONORED
NOTE

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

At maturity, October 14thth, Hart dishonors the note.
$800 12% 60/360 = $16 interest

McGraw-Hill/Irwin

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RECORDING END-OF-PERIOD
INTEREST ADJUSTMENTS

P4

OnDecember16th,TechComacceptsa$3,000,60day,12%notefromacustomeringrantingan
extensiononapast-dueaccount.WhenTechComs
accountingperiodendsonDecember31,$15of
interesthasaccruedonthenote.

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

McGraw-Hill/Irwin

Slide 35

P4

RECORDING END-OF-PERIOD
INTEREST ADJUSTMENTS
Recording collection on note at maturity.

McGraw-Hill/Irwin

Slide 36

C3

DISPOSING OF RECEIVABLES

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.

McGraw-Hill/Irwin

Slide 37

ACCOUNTS RECEIVABLE
TURNOVER

A1

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
Dell

200 200 200 200

6 5
4
3
$

Net
sales

$ $
$
57, 55, 49, 41,
420 788 121 327

Average
accounts
4,3 3,8 4,0 3,11
McGraw-Hill/Irwin
receivable
52 26 25
1

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END OF CHAPTER 9

McGraw-Hill/Irwin

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