1 © Copyright Doug Hillman 2000 Accounts Receivable and Bad Debts Expense

2 © Copyright Doug Hillman 2000 Receivables on Balance Sheet l Trade receivables ›Arise from sale of goods or services to customers l Nontrade receivables ›Arise from other sources

3 © Copyright Doug Hillman 2000 Bad Debts Expense l An account receivable that proves uncollectible l Accrual accounting requires that we recognize the bad debts expense in the same period as the sales revenue l Since we may not know at end of period which accounts will be uncollectible, we must estimate the amount l Use allowance method

4 © Copyright Doug Hillman 2000 Recording Bad Debts Adjustment l Estimate and record amount in an end- of-period adjustment l Estimate uncollectible amount l Record increase in expense and decrease in accounts receivable l Since specific uncollectible account not known, use contra account Allowance for Doubtful Accounts

5 © Copyright Doug Hillman 2000 Balance Sheet Presentation Current assets Cash$1,000 Accounts receivable$8,000 Deduct: Allow for DA5007,500 Notes receivable900

6 © Copyright Doug Hillman 2000 Writing Off Uncollectible Accounts l After determining a specific account is uncollectible l Decrease accounts receivable l Decrease allowance for doubtful accounts

7 © Copyright Doug Hillman 2000 Balance Sheet BeforeWrite-offAfter Accts Rec$8,000$(200)$7,800 Allowance500(200)300 Net realizable value$7,500$7,500

8 © Copyright Doug Hillman 2000 Recovery of Bad Debts l Reinstate the account ›Increase accounts receivable ›Increase allowance for doubtful accounts l Collect the account ›Increase cash ›Decrease accounts receivable

9 © Copyright Doug Hillman 2000 Estimating Bad Debts: Based on Sales l Use a historical average of annual uncollectibles to annual net sales l Calculate amount of bad debts expense ›Multiply net sales by percent l Adjust Bad Debts Expense by the amount calculated

10 © Copyright Doug Hillman 2000 Estimating Bad Debts: Based on Accounts Receivable l Use a historical average of annual uncollectibles to year end accounts receivable l Calculate balance of allowance for doubtful accounts ›Multiply year end accounts receivable by percent l Adjust Allowance for Doubtful Accounts to the amount calculated

11 © Copyright Doug Hillman 2000 Aging of Accounts Receivable l Schedule that lists each invoice by days elapsed since due date l Aging categories ›Not Yet Due ›1-30 Days Past Due ›21-60 Days Past Due ›etc.

12 © Copyright Doug Hillman 2000 Estimating Bad Debts with Aging Schedule l Use different percentage to estimate uncollectible amount for each aging category l Sum of amounts calculated is desired balance in Allowance for Doubtful Accounts

13 © Copyright Doug Hillman 2000 Direct Write-off Method l Write off accounts receivable and record expense when account determined to be uncollectible l Causes a mismatching of revenue and expense l Simple to maintain

14 © Copyright Doug Hillman 2000 Credit Card Sales l Credit card fee reduces amount received from sales amount l Bank credit cards ›Accepted as deposit for amount of sale less fee l Nonbank credit card ›Receivable for amount of sale less fee

15 © Copyright Doug Hillman 2000 Analyzing Information l Is percent of bad debts expense to net sales increasing or decreasing? l Is percent of allowance for doubtful accounts to gross accounts receivable increasing or decreasing?