Chapter 7 Receivables and Investments Copyright © 2009 South-Western, a part of Cengage Learning. Using Financial Accounting Information: The Alternative to Debits and Credits, 6/e by Gary A. Porter and Curtis L. Norton

Apple’s Consolidated Balance Sheets (Partial) ASSETS (in millions) September 30, September 24, Current assets: Cash and cash equivalents $6,392 $3,491 Short-term investments 3,718 4,770 Accounts receivable, less allowances of $52 and $46 1, Inventories Deferred tax assets Other current assets 2, Total current assets $14,509 $10,300 higher

Apple’s Consolidated Balance Sheets (Partial) ASSETS (in millions) Current assets: Cash and cash equivalents Short-term investments Accounts receivable Inventories Deferred tax assets Other current assets Total current assets Less liquid Highly liquid

Apple Inc. Sample Accounts Receivable Subsidiary Ledger Total Due Acme $ 10,000 Baxter 50,000 Jones 15,000 Martin 20,000 Smith 5,000 $100,000 Gross Accounts Receivable LO1

Apple’s Consolidated Balance Sheets (Partial) (amounts in millions) Accounts receivables, less allowances of $52 and $46 respectively $1,252 $895 Net Realizable Value Estimated Uncollectible Accounts

Credit Sales  Slows inflow of cash  Risk of uncollectible accounts Trade Credit Retail Customer Receivables Terms: 2/10, net 30 Sales Invoice LO2

Accounting for Bad Debts: Direct Write-off Method Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues - Expenses Equity Accounts Bad Debts Receivable (500) Expense (500) Period of sale Future period charged with expense of bad debt write-off

Accounting for Bad Debts: Allowance Method Period of sale Estimated bad debt expense (and allowance account) recorded in the same period

Accounting for Bad Debts: Allowance Method Record estimated bad debt expense in period of sale: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Allowance for Bad Debts Doubtful Accts Expense I estimate...

Roberts Corporation Partial Balance Sheet Accounts receivable $250,000 Less: Allowance for doubtful accounts 6,000 Net accounts receivable $244,000 Balance Sheet Presentation – Allowance Method

Accounting for Bad Debts: Allowance Method Record bad debt write-off in period determined uncollectible: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Allowance for Doubtful Accts xxx Accounts Receivable (xxx) Bankrupt

Approaches to Allowance Method % of Net Credit Sales % of Accounts Receivable Aging Method Income Statement Approach Balance Sheet Approach

Example: Percentage of Net Credit Sales Method Assume prior years’ net credit sales and bad debt expense is as follows: Year Net Credit Sales Bad Debts 2003 $1,250,000$ 26, ,340,000 29, ,200,000 23, ,650,000 32, ,120,000 42,700 $7,560,000$153,700

Example: Percentage of Net Credit Sales Method Develop bad debt percentage: $153,700 $7,560,000 use 2% =

Percentage of Net Credit Sales Method 2007 Net credit sales $2,340,000 (given) Bad debt percentage 2% Bad debts expense $ 46,800 Example: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Allowance for Doubtful Bad Debts Expense Accts (46,800) (46,800)

Example: Percentage of Accounts Receivable Method Assume prior years’ Accounts Receivable at December 31 and bad debt expense is as follows: Year Accts Rec at 12/31 Bad Debts 2003 $ 650,000 $ 5, ,000 6, ,000 6, ,000 6, ,000 7,450 $4,038,000 $ 32,330

Example: Percentage of Accounts Receivable Method Develop bad debt percentage: $ 32,330 $4,038,000 Use 8% =

Percentage of Accounts Receivable Assume 8% of accounts receivable are uncollectible, and Allowance for Doubtful Accounts is $2,100 before adjustment. The adjustment would be: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Allowance for Doubtful Bad Debts Expense Accts (4,820) (4,820) ( 8% X $865,000 = $6,920 - $2,100 = $4,820)

Aging Accounts Receivable Method Assume prior years’ net credit sales and bad debt expense is as follows: Est % Est Amount Category Amount Uncollectible Uncollectible Current $ 85,600 1% $ 856 Past due: 1-30 days 31,200 4%1, days 24,500 10%2, days 18,000 30%5,400 Over 90 days 9,200 50% 4,600 Totals $168,500 $14,554

Aging Method Assume the Allowance for Doubtful Accounts has a beginning credit balance of $1,230: Credit balance required in allowance account after adjustment $14,554 Less: Credit balance in allowance account before adjustment 1,230 Amount for bad debt expense entry $13,324

Aging Accounts Receivable Assume the Allowance for Doubtful Accounts are $1,230 before adjustment. The adjustment would be: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Allowance For Doubtful Bad Debts Expense Accts (13,324) (13,324)

Aging Method The net realizable value of accounts receivable would be determined as follows: Accounts receivable $168,500 Less: Allowance for doubtful accounts 14,554 Net realizable value $153,946

Accounts Receivable Turnover Net Credit Sales Average Accounts Receivable Indicates how quickly a company is collecting (i.e., turning over) its receivables LO2

Accounts Receivable Turnover  Too fast may mean: credit policies too stringent; may be losing sales  Too slow may mean: credit department not operating effectively; dissatisfied customers

Baker Corporation promises to pay HighTec, Inc. $15,000 plus 12% annual interest on March 13, Date: December 13, 2008 Signed:_________ Interest-Bearing Promissory Note Baker Corporation Maturity Date Principal Interest LO3

Interest-Bearing Promissory Note Maker Gives a Note to Payee

Receipt of Interest-Bearing Promissory Note To record the receipt of the note on December 13: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Notes Receivable Sales Revenue 15,000 15,000

Interest-Bearing Promissory Note Adjustment to record interest: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Interest Receivable Interest Revenue 90* 90 *Interest = $15,000 × 12% × 18/360

Interest-Bearing Promissory Note Entry to record the collection of note on March 13, 2009: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Cash 15,450 Interest Revenue 360* Notes Receivable (15,000) Interest Receivable (90) *15,000 × 12% × 72/360

Accelerating the Cash Inflow from Sales  Credit card sales  Discounting notes receivable LO4

Credit Card Sales  Competitive necessity  Credit card company: Charges fee Assumes risk of nonpayment

Discounting Notes Receivable  Sell note prior to maturity date for cash  Receive less than face value (i.e., discounted amount)  Can be sold with or without recourse

Reasons Companies Invest in Other Companies  Short-term cash excesses  Long-term investing for future cash needs  Exert influence over investee  Obtain control of investee LO5

Investment in a CD October 2, purchase $100,000, 6%, 120-day CD: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Short term Investment—CD 100,000 Cash (100,000) To record the purchase of short-term CD

Investment in a CD Year-end adjustment: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Interest Interest Revenue 1,500 Receivable 1,500 Interest (I) = Principal (P) × Rate (R) × Time (T) $1,500 = $100,000 × 6% × 90*/360 *October – 29 days November – 30 days December – 31 days 90 days

Investment in a CD To record the maturity of the note: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Cash 102,000 Short term Interest Revenue 500* Investment—CD (100,000) Interest Receivable (1,500) *Interest earned in January: $100,000 × 6% × 30/360 = $500

Accounting for Common-Stock Investments No significant influence 0% 20% Fair Value Method Significant influence 50% Equity Method Control 100% Consolidated Financial Statements Our Focus

Investment in Bonds  Bonds of other companies  Intent and ability to hold until maturity $100,000, 10% bond due in 10 years

Investment in Bonds On 1/1/08, Atlantic buys:  $100,000, 10% face value  Bonds mature in ten years  Interest payable semiannually Example: Record the purchase of the bonds and receipt of the first interest payment

Recording Bond Purchase Record purchase of ABC bonds : Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Investment in Bonds 100,000 Cash (100,000) $100,000, 10% bond due 2017

Recording Receipt of Interest Payment To record interest income on ABC bonds: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Cash 5,000 Interest Revenue 5,000* *($100,000 × 10% × 1/2)

Recording Bond Sale Record sale of ABC bonds: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Cash 99,000 Loss on Sale Investment in Bonds of Bonds (1,000) (100,000)

Investment in Stocks  Stocks of other companies  Recorded at cost, including any brokerage fees, commissions or other fees paid to acquire the shares

Investment in Stocks On February 1, 2008, Dexter Corp. pays $50,000 for shares of Stuart common stock plus $1,000 commissions : Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Investment in Stuart Stock 51,000 Cash (51,000) Example: Record the purchase of common stock

Recording Receipt of Dividends Dexter receives $500 cash dividends from Stuart common stock: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Cash 500 Dividend Revenue 500 To record the receipt of dividends

Sale of Investment in Stocks Sale of Investment in Stuart common stock for $53,000: Balance Sheet Income Statement Assets = Liabilities + Stockholders’ + Revenues -- Expenses Equity Cash 53,000 Investment Stuart Gain on Sale of Stock (51,000) Stock 2,000 To record the sale of Stuart common stock

Operating Activities Net income xxx Increase in accounts receivable – Decrease in accounts receivable + Increase in notes receivable – Decrease in notes receivable + Investing Activities Purchases of held-to-maturity and available-for-sale securities – Sales/maturities of held-to-maturity and available-for-sale securities + Financing Activities Liquid Assets and the Statement of Cash Flows – Indirect Method LO6

End of Chapter 7