Wacky Warning Labels (from www.wackywarnings.com) A warning on an electric drill made for carpenters’ cautions: “This product not intended for use as a dental drill” The label on a bottle of drain cleaner warns: “If you do not understand, or cannot read, all directions, cautions and warnings, do not use this product” A smoke detector warns: “Do not use the Silence Feature in emergency situations. It will not extinguish a fire.” A cardboard car sunshield that keeps sun off the dashboard warns, “Do not drive with sunshield in place” An “Aim-n-Flame” fireplace lighter cautions, “Do not use near fire, flame or sparks” A label on a hand-held massager advises consumers not to use “while sleeping or unconscious” A snowblower warns: “Do not use snowthrower on roof”

Chapter 7 CASH AND RECEIVABLES Sommers – ACCT 3311 Acct 3311 - Class 24 Chapter 7 CASH AND RECEIVABLES Sommers – ACCT 3311 Chapter 1: Environment and Theoretical Structure of Financial Accounting.

Reporting Cash Bank Overdrafts Company writes a check for more than the amount in its cash account. Generally reported as a current liability. Offset against other cash accounts only when accounts are with the same bank.

Accounts Receivable Receivables - Claims held against customers and others for money, goods, or services. Oral promises of the purchaser to pay for goods and services sold. Written promises to pay a sum of money on a specified future date. Accounts Receivable Notes Receivable

Not Accounts Receivable Nontrade Receivables Advances to officers and employees. Advances to subsidiaries. Deposits to cover potential damages or losses. Deposits as a guarantee of performance or payment. Dividends and interest receivable. Claims against: Insurance companies for casualties sustained; defendants under suit; governmental bodies for tax refunds; common carriers for damaged or lost goods; creditors for returned, damaged, or lost goods; customers for returnable items (crates, containers, etc.).

Trade Discounts Reductions from the list price Not recognized in the accounting records Customers are billed net of discounts

Cash (Sales) Discounts Inducements for prompt payment Gross Method vs. Net Method Payment terms are 2/10, n/30

Big Customers Are Slow to Pay – WSJ Jun 7, 2012

Sales and Trade Discounts Tracy Company, a manufacturer of air conditioners, sold 100 units to Thomas Company on November 17, 2011. The units have a list price of $600 each, but Thomas was given a 30% trade discount. The terms of the sale were 2/10, n/30. Assume the gross method of accounting for cash discounts is used. Prepare the journal entries to record the sale on November 17 (ignore cost of goods) and collection on November 26, 2011. 11/17 Accounts receivable 42,000 Sales 42,000 11/26 Cash 41,160 Sales discounts 840 Accounts receivable 42,000

Sales and Trade Discounts Tracy Company, a manufacturer of air conditioners, sold 100 units to Thomas Company on November 17, 2011. The units have a list price of $600 each, but Thomas was given a 30% trade discount. The terms of the sale were 2/10, n/30. Assume the gross method of accounting for cash discounts is used. Prepare the journal entries to record the sale on November 17 (ignore cost of goods) and collection on December 15, 2011. 11/17 Accounts receivable 42,000 Sales 42,000 12/15 Cash 42,000 Accounts receivable 42,000

Sales and Trade Discounts Tracy Company, a manufacturer of air conditioners, sold 100 units to Thomas Company on November 17, 2011. The units have a list price of $600 each, but Thomas was given a 30% trade discount. The terms of the sale were 2/10, n/30. Assume the net method of accounting for cash discounts is used. Prepare the journal entries to record the sale on November 17 (ignore cost of goods) and collection on November 26, 2011. 11/17 Accounts receivable 41,160 Sales 41,160 11/26 Cash 41,160 Accounts receivable 41,160

Sales and Trade Discounts Tracy Company, a manufacturer of air conditioners, sold 100 units to Thomas Company on November 17, 2011. The units have a list price of $600 each, but Thomas was given a 30% trade discount. The terms of the sale were 2/10, n/30. Assume the net method of accounting for cash discounts is used. Prepare the journal entries to record the sale on November 17 (ignore cost of goods) and collection on December 15, 2011. 11/17 Accounts receivable 41,160 Sales 41,160 12/15 Cash 42,000 Accounts receivable 41,160 Interest income 840

Non-Recognition of Interest A company should measure receivables in terms of their present value. In practice, companies ignore interest revenue related to accounts receivable because, for current assets, the amount of the discount is not usually material in relation to the net income for the period.

Allowance for Doubtful Accounts Recognition of A/R How are these accounts presented on the Balance Sheet? Allowance for Doubtful Accounts Accounts Receivable Beg. 500 25 Beg. End. 500 25 End.

Recognition of A/R

Recognition of A/R

Uncollectible A/R An uncollectible account receivable is a loss of revenue that requires, through proper entry in the accounts, a decrease in the asset accounts receivable and a related decrease in income and stockholders’ equity.

Direct Write-Off vs. Allowance Method Methods of Accounting for Uncollectible Accounts Direct Write-Off Theoretically deficient: No matching. Receivable not stated at cash realizable value. Not GAAP when material in amount. Allowance Method Losses are Estimated: Percentage-of-sales. Percentage-of-receivables. GAAP requires when material in amount.

Percentage of Sales vs. Receivables Emphasis on the Income Statement relationships Emphasis on the Balance Sheet relationships

Percentage of Sales Approach Percentage based upon past experience and anticipate credit policy. Achieves proper matching of costs with revenues. Existing balance in Allowance account not considered.

Example 1a West Company had the following account balances at December 31, 2009, before recording bad debt expense for the year: Accounts receivable $ 900,000 Allowance for bad debts (credit balance) 16,000 Credit sales for 2009 1,750,000 West uses the following method of estimating bad debts for 2009: Based on 2% of credit sales. What amount should West charge to bad debt expense at the end of 2009 under Percentage of Sales (income statement) method? $1,750,000 * 2% = $35,000 Bad debt expense 35,000 Allowance for bad debts 35,000

Percentage-of-Receivables Approach Not matching. Reports receivables at realizable value. Companies may apply this method using one composite rate, or an aging schedule using different rates.

Example 1b West Company had the following account balances at December 31, 2009, before recording bad debt expense for the year: Accounts receivable $ 900,000 Allowance for bad debts (credit balance) 16,000 Credit sales for 2009 1,750,000 West uses the following method of estimating bad debts for 2009: Based on 5% of year-end accounts receivable. What amount should West charge to bad debt expense at the end of 2009 under Percentage of Accounts Receivable (balance sheet) method? $900,000 * 5% = $45,000 as ending ABD balance Bad debt expense 29,000 Allowance for bad debts 29,000 (45,000 – 16,000)

A/R Aging Adjustment Bad Debt Expense 36,850 What entry would Wilson make assuming the allowance account had a credit balance of $800 before adjustment? Bad Debt Expense 36,850 Allowance for Bad Debts ($37,650 – $800) 36,850

Bad Debt Problem Swathmore Clothing Corporation grants its customers 30 days’ credit. The company uses the allowance method for its uncollectible accounts receivable. During the year, a monthly bad debt accrual is made by multiplying 3% times the amount of credit sales for the month. At the fiscal year-end of December 31, an aging of accounts receivable schedule is prepared and the allowance for uncollectible accounts is adjusted accordingly. At the end of 2010, accounts receivable were $574,000 and the allowance account had a credit balance of $54,000. Accounts receivable activity for 2011 was as follows: Beginning balance $ 574,000 Credit sales 2,620,000 Collections (2,483,000) Write-offs (68,000) Ending balance $ 643,000 The company’s controller prepared the following aging summary of year-end accounts receivable: Age Group Amount % Uncollectible 0-60 days $430,000 4% 61-90 days 98,000 15% 91-120 days 60,000 25% Over 120 days 55,000 40% Totals $643,000 Prepare a summary journal entry to record the monthly bad debt accrual and the write-offs during the year.

Bad Debt Problem Bad debt expense (3% x $2,620,000) 78,600 During the year, a monthly bad debt accrual is made by multiplying 3% times the amount of credit sales for the month. Accounts receivable activity for 2011 was as follows: Beginning balance $ 574,000 Credit sales 2,620,000 Collections (2,483,000) Write-offs (68,000) Ending balance $ 643,000 Bad debt expense (3% x $2,620,000) 78,600 Allowance for uncollectible accounts 78,600 Allowance for uncollectible accounts 68,000 Accounts receivable 68,000

Bad Debt Problem Swathmore Clothing Corporation grants its customers 30 days’ credit. The company uses the allowance method for its uncollectible accounts receivable. During the year, a monthly bad debt accrual is made by multiplying 3% times the amount of credit sales for the month. At the fiscal year-end of December 31, an aging of accounts receivable schedule is prepared and the allowance for uncollectible accounts is adjusted accordingly. At the end of 2010, accounts receivable were $574,000 and the allowance account had a credit balance of $54,000. Accounts receivable activity for 2011 was as follows: Beginning balance $ 574,000 Credit sales 2,620,000 Collections (2,483,000) Write-offs (68,000) Ending balance $ 643,000 The company’s controller prepared the following aging summary of year-end accounts receivable: Age Group Amount % Uncollectible 0-60 days $430,000 4% 61-90 days 98,000 15% 91-120 days 60,000 25% Over 120 days 55,000 40% Totals $643,000 Prepare the necessary year-end adjusting entry for bad debt expense.

Bad Debt Problem Swathmore Clothing Corporation grants its customers 30 days’ credit. The company uses the allowance method for its uncollectible accounts receivable. At the fiscal year-end of December 31, an aging of accounts receivable schedule is prepared and the allowance for uncollectible accounts is adjusted accordingly. At the end of 2010, accounts receivable were $574,000 and the allowance account had a credit balance of $54,000. Age Group Amount % Uncollectible Allowance 0-60 days $430,000 4% $17,200 61-90 days 98,000 15% 14,700 91-120 days 60,000 25% 15,000 Over 120 days 55,000 40% 22,000 $68,900 ABD 54,000 78,600 68,000 ? Solve for Bad Debt Expense 68,900 Bad debt expense 4,300 Allowance for bad debts 4,300

Bad Debt Problem What is total bad debt expense for 2011? Monthly accruals $78,600 Year-end adjustment 4,300 Total $82,900 How would accounts receivable appear in the 2011 balance sheet? Current assets: Accounts receivable, net of $68,900 allowance for uncollectible accounts $574,100

Example 2a Sandel Company reports the following financial information before adjustments. Prepare the journal entry to record bad debt expense assuming Sandel estimates bad debts at (a) 1% of net sales. Bad Debt Expense 7,500 Allowance for Doubtful Accounts 7,500 ($800,000 – $50,000) x 1% = $7,500

Example 2b Sandel Company reports the following financial information before adjustments. Prepare the journal entry to record bad debt expense assuming Sandel estimates bad debts at (b) 5% of accounts receivable. Bad Debt Expense 6,000 Allowance for Doubtful Accounts 6,000 [($160,000 x 5%) – $2,000] = $6,000

Effect of Write-Offs On May 6, Timberland wrote off a specific account receivable with balance of $2,500. Assume that before the write-off entry, Timberland’s Accounts Receivable balance was $81,000,000 and the Allowance for Doubtful Accounts balance was $2,000,000. What effect did the write-off have? 50 50

Reversal of Write-Off Assume that the financial vice president of Brown Furniture authorizes a write-off of the $1,000 balance owed by Randall Co. on March 1, 2012. The entry to record the write-off is: Allowance for Doubtful Accounts 1,000 Accounts Receivable 1,000 Assume that on July 1, Randall Co. pays the $1,000 amount that Brown had written off on March 1. These are the entries: Accounts Receivable 1,000 Allowance for Doubtful Accounts 1,000 Cash 1,000 Accounts Receivable 1,000 LO 5