Chapter 12 Accounting for Receivables

2 Receivables... Amounts due from individuals and companies - expected to be collected in cash. Frequently classified as: –Accounts receivable –Notes receivable –Other receivables

3 Receivables Differ Depending On... Industry Time of year Whether the company extends long-term financing Credit policies

4 Accounts Receivable... Amounts owed by customers on account. Result from the sale of goods/services. Expected to be collected within days. Most significant type of claim held by company. Often called trade receivables. Are reduced as a result of: Sales discounts Sales returns and allowances

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

6 Other Receivables Nontrade including: interest receivable loans to company officers advances to employees income taxes refundable

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

8 Bad Debts Expense... Is an expense to record estimated uncollectible receivables since we do not collect ALL receivables. Keeps expenses from being understated on the income statement and accounts receivables from being overstated on the balance sheet.

9 2 Methods for Accounting for Uncollectible Accounts The Direct Write-off Method The Allowance Method – Percentage of sales –Percentage or Aging of receivables

10 Direct Write-off Method Bad debt losses are not estimated. No allowance account is used. Accounts 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.

11 Direct Write-off Method Issue No attempt is made to match bad debts expense to sales revenue. IT IS NOT GAAP

12 Allowance Method Uncollectible accounts receivable are estimated and matched against sales in the same accounting period in which the sales occurred. Uncollectible accounts receivable may be estimated using: –Percentage of sales –Aging of accounts receivable

13 Notes and accounts receivables that result from sales transactions. A notes receivable is credit which is extended by use of a formal instrument. Trade Receivables...

14 Credit instrument normally requires: payment of interest extends for time periods of days or longer. Notes Receivable...

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

16 Formula for Interest

17 Managing Receivables Determine to whom to extend credit. Establish a payment period. Monitor collections. Evaluate receivables balance. Accelerate cash receipts from receivables when necessary.

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

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

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

21 Accelerating Cash Receipts Waiting for the normal collection process cost money.

22 Accelerating Cash Receipts A bird in the hand is worth two in the bush.

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

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

25 Credit Card A common type of credit card is a national credit card such as: Visa Master Card American Express

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