1. 1 Chapter 8

2. 2 Chapter 8 Reporting and Analyzing Receivables After studying Chapter 8, you should be able to : zIdentify the different types of receivables. zExplain how accounts receivable are recognized in the accounts. zDescribe the methods used to account for bad debts. zCompute the interest on notes receivable. zDescribe the entries to record the disposition of notes receivable.

3. 3 Chapter 8 Reporting and Analyzing Receivables After studying Chapter 8, you should be able to: zExplain the statement presentation of receivables. zDescribe the principles of sound accounts receivable management. zIdentify ratios to analyze a company's receivables. zDescribe methods to accelerate the receipt of cash from receivables.

4. 4 Receivables... zAmounts due from individuals and companies - expected to be collected in cash. zFrequently classified as: yAccounts receivable yNotes receivable yOther receivables

5. 5 Receivables Differ Depending On... zIndustry zTime of year zWhether the company extends long- term financing zCredit policies

6. 6 Accounts Receivable... zAmounts owed by customers on account. zResult from the sale of goods/services. zExpected to be collected within 30-60 days. zMost significant type of claim held by company. zOften called trade receivables.

7. 7 Accounts Receivable... Are recorded when service is provided or at point of sale of merchandise on account. Accounts Receivable 100 Sales 100

8. 8 Problems with Accounts Receivable zRecognizing accounts receivable. zValuing accounts receivable.

9. 9 Accounts Receivables... Are reduced as a result of: Cash rceipts Sales discounts Sales returns and allowances

10. 10 Other Receivables Notes receivable from customers Nontrade receivables including: zinterest receivable zloans to company officers zadvances to employees zincome taxes refundable

11. 11 Bad Debts Expense... Is an expense to record estimated uncollectible receivables. Keeps expenses from being understated on the income statement and accounts receivable from being overstated on the balance sheet.

12. 12 2 Methods for Accounting for Uncollectible Accounts zThe Direct Write-off Method (Not GAAP) zThe Allowance Method

13. 13 Direct Write-off Method zBad debt losses are not estimated. zNo allowance account is used. zAccounts are written off when determined uncollectible as follows: Bad Debts Expense 200 Accounts Receivable--M. E. Doran 200 Bad debt expense will show only actual losses. Accounts receivable will be reported at gross amount.

14. 14 Direct Write-off Method Issue No attempt is made to match bad debts expense to sales revenue; therefore, this method is not acceptable under GAAP.

15. 15 Allowance Method zUncollectible accounts receivable are estimated and matched against sales in the same accounting period in which the sales occurred. zUncollectible accounts receivable may be estimated using: yPercentage of sales yAging of accounts receivable

16. 16 Recording Estimated Uncollectibles Hampton Furniture has credit sales of $1,200,000, of which $200,000 remains uncollected. The credit manager estimates $12,000 will prove uncollectible. Bad Debts Expense 12,000 Allowance for Doubtful Accounts 12,000

17. 17 Bad Debts Expense 12,000 Allowance for Doubtful Accounts 12,000 Accounts Receivable Allowance for Doubtful Accounts Jan 1 Bal 200,000 Jan 1 Bal 12,000 Recording Estimated Uncollectibles

18. 18 zIs the net amount expected to be collected in cash. zExcludes amounts the company estimates it will not collect. Cash (Net) Realizable Value Keeps receivables from being overstated on the balance sheet.

19. 19 HAMPTON FURNITURE Balance Sheet (partial) Current assets Cash $ 14,800 Accounts receivable$200,000 Less: Allowance for doubtful accounts 12,000 188,000 Cash (net) Realizable Value

20. 20 HAMPTON FURNITURE Balance Sheet (partial) Current assets Cash $ 14,800 Accounts receivable$200,000 Less: Allowance for doubtful accounts 12,000 188,000 Merchandise Inventory 310,000 Prepaid Expense 25,000 Total current assets$537,800

21. 21 The vice president of finance authorizes a write-off of $500 owed by R.A. Ware. Allowance for Doubtful Accounts 500 Accounts Receivable-Ware500 Write-off of an Uncollectible Account

22. 22 Write-off of an Uncollectible Account Allowance for Doubtful Accounts 500 Accounts Receivable-Ware500 Accounts Receivable Allowance for Doubtful Accounts Jan 1 Bal 200,000Mar 1 500 Mar 1 Bal 199,500 Jan 1 Bal 12,000Mar 1 500 Mar 1 Bal 11,500

23. 23 Current assets Cash $ 14,800 Accounts receivable$200,000 Less: Allowance for doubtful accounts 12,000 188,000 Current assets Cash $ 14,800 Accounts receivable$199,500 Less: Allowance for doubtful accounts 11,500 188,000 Before Write-off After Write-off Cash Realizable Value

24. 24 Recovery of an Uncollectible Account Accounts Receivable-Ware 500 Allowance for Doubtful Accounts 500 Cash 500 Accounts Receivable 500 OR Cash 500 Allowance for Doubtful Accounts 500

25. 25 Percentage of Receivables... Management establishes a percentage relationship between the amount of receivables and the expected losses from uncollectible accounts based on historical loss experience

26. 26 Aging of Accounts Receivable The analysis of customer balances by the length of time they have been unpaid. The longer a debt is outstanding the less likely it is to be paid.

27. 27 Credit instrument normally requires: zpayment of interest zextends for time periods of 60-90 days or longer. Notes Receivable...

28. 28 Notes Receivable... zAre often accepted from customers who need to extend payment of an account receivable. zAre often required from high-risk customers.

29. 29 Represent claims for which formal instruments of credit are issued as evidence of debt. Notes Receivable... 2004

30. 30 Maker Is the party in a promissory note who is making the promise to pay. Payee Is the party to whom payment of a promissory note is to be made. Payee Is the party to whom payment of a promissory note is to be made.

31. 31 Formula for Interest

32. 32 Interest rate specified on a note is an annual rate of interest. Prorate for shorter times periods. 1,000 x.12 x 12 months/12months 1,000 x.12 x 1 month/12months 1,000 x.12 x 3 months/12months 1,000 x.12 x 6 months/12months 1,000 x.12 x 9 months/12months

33. 33 Interest rate specified on a note is an annual rate of interest. Time factor is often divided by 360 days 1,000 x.12 x 360 days/360 days 1,000 x.12 x 27 days/360 days 1,000 x.12 x 46 days/360 days 1,000 x.12 x 162 days/360 days 1,000 x.12 x 265 days/360 days

34. 34 Notes Receivable... zare recorded at face value. zare reported at cash (net) realizable value. zare honored when paid in full at maturity. zare dishonored when not paid in full at maturity.

35. 35 Notes Receivable... zInterest revenue is recorded when the note is paid. zIf interim financial statements are prepared, interest on notes receivable is accrued.

36. 36 Notes Receivable... zEach type of receivables should be identified in the balance sheet or in the notes to the financial statements. zShort-term receivables are reported in the current asset section of the balance sheet below short-term investments. zThe gross amount of receivables and the allowance for doubtful accounts should be reported.

37. 37 Notes Receivable... zNotes receivable are listed before accounts receivable because notes are more easily converted to cash. zBad debts expense is reported as a selling expense in the income statement. zInterest revenue is shown under other revenues and gains in the nonoperating section of the income statement.

38. 38 Managing Receivables zDetermine to whom to extend credit. zEstablish a payment period. zMonitor collections. zEvaluate receivables balance. zAccelerate cash receipts from receivables when necessary.

39. 39 Extending Credit zRisky customers might be required to provide letters of credit or bank guarantees. zRisky customers might be required to pay cash on delivery (COD). zAsk potential customers for references from banks and suppliers and check the references. zPeriodically check financial health of continuing customers.

40. 40 Payment Period zDetermine a required payment period and communicate that policy to customers. zMake sure company's payment period is consistent with that of competitors.

41. 41 Monitoring Collections zCalculate company’s credit risk ratio. zPrepare accounts receivable aging schedule at least monthly. zPursue problem accounts with: yphone calls yletters ylegal action if necessary.

42. 42 Concentration of Credit Risk Is there a threat of nonpayment from a single customer or class of customers that could adversely affect the financial health of the company?

43. 43 Evaluating the Receivables Balance zLiquidity is measured by how quickly certain assets can be converted into cash. zThe receivables turnover ratio measures the number of times, on average, receivables are collected during the period.

44. 44 Receivables Turnover Ratio= Net Credit Sales Average Net Receivables Is a measure of the liquidity of receivables.

45. 45 Average Collection Period= 365 days Receivables Turnover Ratio Is the average amount of time that a receivable is outstanding

46. 46 Accelerating Cash Receipts Waiting for the normal collection process costs money.

47. 47 Companies Sell Receivables zThey get more sales if they provide financing to customers. yGeneral Motors Acceptance Corporation yFord Motor Credit Corporation zThey may be the only reasonable source of cash. zBilling and collection are often time-consuming and costly.

48. 48 Factor... Is a finance company or bank that buys receivables from businesses for a fee and then collects payments directly from the customers.

49. 49 Expense Associated with Selling Receivables zIf a company usually sells its receivables, the service charge expense is recorded as a selling expense. zHowever, if receivables are sold infrequently the fee may be reported under other expenses and losses in the income statement.

50. 50 Credit Card Three parties are involved when national credit cards are used in making retail sales: zthe credit card issuer zthe retailer zthe customer

51. 51 Bank Credit Card zSales resulting from the use of VISA and MasterCard are considered cash sales by the retailer. zUpon receipt of credit card sales slips from a retailer, the bank immediately adds the amount to the seller's bank balance.

52. 52 Advantages of Credit Cards to the Retailer zIssuer does credit investigation of customer zIssuer maintains customer accounts zIssuer takes collection action and absorbs credit losses zRetailer receives cash sooner