Why do I Need Accounting? and Sarbanes-Oxley Act of 2002

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc38… 1/84

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc38… 2/84

8

Reporting and Analyzing Receivables

 CHAPTER PREVIEW 

In this chapter, we discuss some of the decisions related to reporting and analyzing receivables. As indicated in the Feature Story, receivables are a signi�icant asset on the books of Nike. Receivables are important to companies in other industries as well because a large portion of sales in the United States are credit sales. As a consequence, companies must pay close attention to their receivables balances and manage them carefully. In this chapter, we will look at the accounting and management of receivables at Nike and one of its competitors, Skechers USA.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc38… 3/84

What's Cooking?

What major U.S corporation got its start 38 years ago with a waf�le iron? Hint: It doesn't sell food. Another hint: Swoosh. Another hint: “Just do it.” That's right, Nike. In 1971, Nike co-founder Bill Bowerman put a piece of rubber into a kitchen waf�le iron, and the trademark waf�le sole was born. It seems fair to say that at Nike, “They don't make 'em like they used to.”

Nike was co-founded by Bowerman and Phil Knight, a member of Bowerman's University of Oregon track team. Each began in the shoe business independently during the early 1960s. Bowerman got his start by making hand-crafted running shoes for his University of Oregon track team. Knight, after completing graduate school, started a small business importing low-cost, high-quality shoes from Japan. In 1964, the two joined forces, each contributing $500, and formed Blue Ribbon Sports, a partnership that marketed Japanese shoes.

It wasn't until 1971 that the company began manufacturing its own line of shoes. With the new shoes came a new corporate name–Nike–the Greek goddess of victory. It is hard to imagine that the company that now boasts a stable full of world-class athletes as promoters at one time had part-time employees selling shoes out of car trunks at track meets on a cash-and-carry basis.

As the business grew, Nike sold its shoes to sporting good shops and department stores on a credit basis. This necessitated receivables management. Today, with sales of $20.8 billion and accounts receivable of $3.1 billion, managing accounts receivable is vitally important to Nike's success. If it makes a major mistake with its receivables, it will de�initely affect the bottom line.

In recent years, Nike has expanded its product line to a diverse range of products, including performance equipment such as soccer balls and golf clubs. While this has increased sales revenue, it has also complicated Nike's receivables management efforts. Now, instead of selling shoes at a limited number of retail outlets, it sells its vast number of products to a diverse array of stores, large and small. For example, Nike golf clubs are sold at local country clubs and golf shops across the country, while soccer equipment can be sold directly to customers through Internet sales. This diversi�ication of its customer list complicates matters because Nike has to approve each new store or customer for credit sales, monitor cash collections, and pursue slow-paying accounts. That's a lot of work. Maybe cash-and-carry wasn't so bad after all.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc38… 4/84

LEARNING OBJECTIVE 1

Explain how companies recognize accounts receivable. 

The term receivables refers to amounts due from individuals and companies. Receivables are claims that are expected to be collected in cash. The management of receivables is a very important activity for any company that sells goods or services on credit.

Receivables are important because they represent one of a company's most liquid assets. For many companies, receivables are also one of the largest assets. For example, receivables represent 18.5% of the assets of Nike. Illustration 8-1 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo1#c08-�ig-0001) lists receivables as a percentage of total assets for �ive other well-known companies in a recent year.

ILLUSTRATION 8-1 Receivables as a percentage of assets

TYPES OF RECEIVABLES The relative signi�icance of a company's receivables as a percentage of its assets depends on various factors: its industry, the time of year, whether it extends long-term �inancing, and its credit policies. To re�lect important differences among receivables, they are frequently classi�ied as (1) accounts receivable, (2) notes receivable, and (3) other receivables.

Accounts receivable are amounts customers owe on account. They result from the sale of goods and services. Companies generally expect to collect accounts receivable within 30 to 60 days. They are usually the most signi�icant type of claim held by a company.

Notes receivable are a written promise (as evidenced by a formal instrument) for amounts to be received. The note normally requires the collection of interest and extends for time periods of 60–90 days or longer. Notes and accounts receivable that result from sales transactions are often called trade receivables.

Other receivables include nontrade receivables such as interest receivable, loans to company of�icers, advances to employees, and income taxes refundable. These do not generally result from the operations of the business. Therefore, they are generally classi�ied and reported as separate items in the balance sheet.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc38… 5/84

ETHICS NOTE

Companies report receivables from employees separately in the �inancial statements. The reason: Sometimes these receivables are not the result of an “arm's-length” transaction.

RECOGNIZING ACCOUNTS RECEIVABLE Recognizing accounts receivable is relatively straightforward. A service organization records a receivable when it performs a service on account. A merchandiser records accounts receivable at the point of sale of merchandise on account. When a merchandiser sells goods, it increases (debits) Accounts Receivable and increases (credits) Sales Revenue.

The seller may offer terms that encourage early payment by providing a discount. Sales returns also reduce receivables. The buyer might �ind some of the goods unacceptable and choose to return the unwanted goods.

To review, assume that Jordache Co. on July 1, 2017, sells merchandise on account to Polo Company for $1,000, terms 2/10, n/30. On July 5, Polo returns merchandise with a sales price of $100 to Jordache Co. On July 11, Jordache receives payment from Polo Company for the balance due. The journal entries to record these transactions on the books of Jordache Co. are as follows. (Cost of goods sold entries are omitted.)

Some retailers issue their own credit cards. When you use a retailer's credit card (JCPenney, for example), the retailer charges interest on the balance due if not paid within a speci�ied period (usually 25–30 days).

To illustrate, assume that you use your JCPenney credit card to purchase clothing with a sales price of $300 on June 1, 2017. JCPenney will increase (debit) Accounts Receivable for $300 and increase (credit) Sales Revenue for $300 (cost of goods sold entry omitted), as follows.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc38… 6/84

Assuming that you owe $300 at the end of the month and JCPenney charges 1.5% per month on the balance due, the adjusting entry that JCPenney makes to record interest revenue of $4.50 ($300×1.5%) on June 30 is as follows.

Interest revenue is often substantial for many retailers.

ANATOMY OF A FRAUD

Tasanee was the accounts receivable clerk for a large non-pro�it foundation that provided performance and exhibition space for the performing and visual arts. Her responsibilities included activities normally assigned to an accounts receivable clerk, such as recording revenues from various sources (donations, facility rental fees, ticket revenue, and bar receipts). However, she was also responsible for handling all cash and checks from the time they were received until the time she deposited them, as well as preparing the bank reconciliation. Tasanee took advantage of her situation by falsifying bank deposits and bank reconciliations so that she could steal cash from the bar receipts. Since nobody else logged the donations or matched the donation receipts to pledges prior to Tasanee receiving them, she was able to offset the cash that was stolen against donations that she received but didn't record. Her crime was made easier by the fact that her boss, the company's controller, only did a very super�icial review of the bank reconciliation and thus didn't notice that some numbers had been cut out from other documents and taped onto the bank reconciliation.

Total take: $1.5 million

THE MISSING CONTROLS

Segregation of duties. The foundation should not have allowed an accounts receivable clerk, whose job was to record receivables, to also handle cash, record cash, and make deposits, and especially prepare the bank reconciliation.

Independent internal veri�ication. The controller was supposed to perform a thorough review of the bank reconciliation. Because he did not, he was terminated from his position.

Source: Adapted from Wells, Fraud Casebook (2007), pp. 183–194.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc38… 7/84

DO IT! 1

Recognizing Accounts Receivable

On May 1, Wilton sold merchandise on account to Bates for $50,000 terms 3/15, net 45. On May 4, Bates returns merchandise with a sales price of $2,000. On May 16, Wilton receives payment from Bates for the balance due. Prepare journal entries to record the May transactions on Wilton's books. (You may ignore cost of goods sold entries and explanations.)

Action Plan ✓ Prepare entry to record the receivable and related return.

✓ Compute the sales discount and related entry.

Related exercise material: BE8-1, BE8-2, DO IT! 8-1, E8-1, and E8-2.

▼ HELPFUL HINT

These entries are the same as those described in Chapter 5 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch05#ch05) . For simplicity, we have omitted inventory and cost of goods sold from this set of journal entries and from end-of-chapter material.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc38… 8/84

LEARNING OBJECTIVE 2

Describe how companies value accounts receivable and record their disposition. 

VALUING ACCOUNTS RECEIVABLE Once companies record receivables in the accounts, the next question is: How should they report receivables in the �inancial statements? Companies report accounts receivable on the balance sheet as an asset. Determining the amount to report is sometimes dif�icult because some receivables will become uncollectible.

Although each customer must satisfy the credit requirements of the seller before the credit sale is approved, inevitably some accounts receivable become uncollectible. For example, a corporate customer may not be able to pay because it experienced a sales decline due to an economic downturn. Similarly, individuals may be laid off from their jobs or be faced with unexpected hospital bills. The seller records these losses that result from extending credit as Bad Debt Expense. Such losses are a normal and necessary risk of doing business on a credit basis.

When U.S. home prices fell, home foreclosures rose, and the economy in general slowed as a result of the �inancial crisis of 2008, lenders experienced huge increases in their bad debt expense. For example, during a recent quarter Wachovia, a large U.S. bank now owned by Wells Fargo, increased bad debt expense from $108 million to $408 million. Similarly, American Express increased its bad debt expense by 70%.

Two methods are used in accounting for uncollectible accounts: (1) the direct write-off method and (2) the allowance method. We explain both methods in the following sections.

ALTERNATIVE TERMINOLOGY

You will sometimes see Bad Debt Expense called Uncollectible Accounts Expense.

Direct Write-Off Method for Uncollectible Accounts

Under the direct write-off method, when a company determines receivables from a particular company to be uncollectible, it charges the loss to Bad Debt Expense. Assume, for example, that Warden Co. writes off M. E. Doran's $200 balance as uncollectible on December 12. Warden's entry is as follows.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc38… 9/84

Under this method, bad debt expense will show only actual losses from uncollectibles. The company reports accounts receivable at its gross amount without any adjustment for estimated losses for bad debts.

Use of the direct write-off method can reduce the usefulness of both the income statement and balance sheet. Consider the following example. In 2017, Quick Buck Computer Company decided it could increase its revenues by offering computers to college students without requiring any money down and with no credit-approval process. It went on campuses across the country and sold one million computers at a selling price of $800 each. This promotion increased Quick Buck's revenues and receivables by $800 million, a huge success! The 2017 balance sheet and income statement looked wonderful. Unfortunately, during 2018, nearly 40% of the college student customers defaulted on their loans. The 2018 income statement and balance sheet looked terrible. Illustration 8-2 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig-0002) shows the effect of these events on the �inancial statements using the direct write-off method.

ILLUSTRATION 8-2 Effects of direct write-off method

Under the direct write-off method, companies often record bad debt expense in a period different from the period in which they recorded the revenue. Thus, no attempt is made to match bad debt expense to sales revenue in the income statement. Nor does the company try to show accounts receivable in the balance sheet at the amount actually expected to be received. Consequently, unless a company expects bad debt losses to be insigni�icant, the direct write-off method is not acceptable for �inancial reporting purposes.

Allowance Method for Uncollectible Accounts

The allowance method of accounting for bad debts involves estimating uncollectible accounts at the end of each period. This provides better matching of expenses with revenues on the income statement. It also ensures that receivables are stated at their cash (net) realizable value on the balance sheet. Cash (net) realizable value is the net amount a company expects to receive in cash from receivables. It excludes amounts that the company estimates it will not collect. Estimated uncollectible receivables therefore reduce receivables on the balance sheet through use of the allowance method.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 10/84

Companies must use the allowance method for �inancial reporting purposes when bad debts are material in amount. It has three essential features:

1. Companies estimate uncollectible accounts receivable and match them against revenues in the same accounting period in which the revenues are recorded.

2. Companies record estimated uncollectibles as an increase (a debit) to Bad Debt Expense and an increase (a credit) to Allowance for Doubtful Accounts through an adjusting entry at the end of each period. Allowance for Doubtful Accounts is a contra account to Accounts Receivable.

3. Companies debit actual uncollectibles to Allowance for Doubtful Accounts and credit them to Accounts Receivable at the time the speci�ic account is written off as uncollectible.

▼ HELPFUL HINT

In this context, material means signi�icant or important to �inancial statement users.

RECORDING ESTIMATED UNCOLLECTIBLES

To illustrate the allowance method, assume that Hampson Furniture has credit sales of $1,200,000 in 2017, of which $200,000 remains uncollected at December 31. The credit manager estimates that $12,000 of these sales will prove uncollectible. The adjusting entry to record the estimated uncollectibles increases (debits) Bad Debt Expense and increases (credits) Allowance for Doubtful Accounts, as follows.

Companies report Bad Debt Expense in the income statement as an operating expense (usually as a selling expense). Thus, Hampson matches the estimated uncollectibles with sales in 2017 because the expense is recorded in the same year the company makes the sales.

Allowance for Doubtful Accounts shows the estimated amount of claims on customers that companies expect will become uncollectible in the future. Companies use a contra account instead of a direct credit to Accounts Receivable because they do not know which customers will not pay. The credit balance in the allowance account will absorb the speci�ic write-offs when they occur. The company deducts the allowance account from Accounts Receivable in the current assets section of the balance sheet, as shown in Illustration 8-3 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig- 0003) .

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 11/84

ILLUSTRATION 8-3 Presentation of allowance for doubtful accounts

The amount of $188,000 in Illustration 8-3 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig-0003) represents the expected cash realizable value of the accounts receivable at the statement date. Companies do not close Allowance for Doubtful Accounts at the end of the �iscal year.

RECORDING THE WRITE-OFF OF AN UNCOLLECTIBLE ACCOUNT

Various methods are used to collect past-due accounts. When a company exhausts all means of collecting a past-due account and collection appears unlikely, the company writes off the account. In the credit card industry, it is standard practice to write off accounts that are 210 days past due. To prevent premature or unauthorized write-offs, authorized management personnel should formally approve each write-off. To maintain segregation of duties, the employee authorized to write off accounts should not have daily responsibilities related to cash or receivables.

To illustrate a receivables write-off, assume that the vice president of �inance of Hampson Furniture on March 1, 2018, authorizes a write-off of the $500 balance owed by R. A. Ware. The entry to record the write-off is as follows.

The company does not increase Bad Debt Expense when the write-off occurs. Under the allowance method, a company debits every bad debt write-off to the allowance account and not to Bad Debt Expense. A debit to Bad Debt Expense would be incorrect because the company has already recognized the expense when it made the adjusting entry for estimated bad debts. Instead, the entry to record the write-off of an uncollectible account reduces both Accounts Receivable and Allowance for Doubtful Accounts. After posting, the general ledger accounts appear as shown in Illustration 8-4 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig-0004) .

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 12/84

ILLUSTRATION 8-4 General ledger balances after write-off

A write-off affects only balance sheet accounts. Cash realizable value in the balance sheet, therefore, remains the same before and after the write-off, as shown in Illustration 8-5 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig-0005) .

ILLUSTRATION 8-5 Cash realizable value comparison

RECOVERY OF AN UNCOLLECTIBLE ACCOUNT

Occasionally, a company collects from a customer after the account has been written off as uncollectible. The company must make two entries to record the recovery of a bad debt: (1) It reverses the entry made in writing off the account. This reinstates the customer's account. (2) It journalizes the collection in the usual manner.

To illustrate, assume that on July 1, R. A. Ware pays the $500 amount that Hampson Furniture had written off on March 1. Hampson makes these entries:

Note that the recovery of a bad debt, like the write-off of a bad debt, affects only balance sheet accounts. The net effect of the two entries is an increase in Cash and an increase in Allowance for Doubtful Accounts for $500. Accounts Receivable and Allowance for Doubtful Accounts both increase in entry (1) for two reasons. First, the company made an error in judgment when it wrote off the account receivable. Second, R. A. Ware did pay, and therefore the Accounts Receivable account should show this reinstatement and collection for possible future credit purposes.

▼ HELPFUL HINT

Like the write-off, a recovery does not involve the income statement.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 13/84

ESTIMATING THE ALLOWANCE

For Hampson Furniture in Illustration 8-3 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig-0003) , the amount of the expected uncollectibles was given. However, in “real life,” companies must estimate the amount of expected uncollectible accounts if they use the allowance method. Illustration 8-6 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig-0006) shows an excerpt from the notes to Nike's �inancial statements discussing its use of the allowance method.

ILLUSTRATION 8-6 Nike's allowance method disclosure

Frequently, companies estimate the allowance as a percentage of the outstanding receivables. Under the percentage-of-receivables basis, management establishes a percentage relationship between the amount of receivables and expected losses from uncollectible accounts. For example, suppose Steffen Company has an ending balance in Accounts Receivable of $200,000 and an unadjusted credit balance in Allowance for Doubtful Accounts of $1,500. It estimates that 5% of its accounts receivable will eventually be uncollectible. It should report a balance in Allowance for Doubtful Accounts of $10,000 (.05×$200,000). To increase the balance in Allowance for Doubtful Accounts from $1,500 to $10,000, the company debits (increases) Bad Debt Expense and credits (increases) Allowance for Doubtful Accounts by $8,500 ($10,000−$1,500).

To more accurately estimate the ending balance in the allowance account, a company often prepares a schedule, called aging the accounts receivable. This schedule classi�ies customer balances by the length of time they have been unpaid.

▼ HELPFUL HINT

Where appropriate, the percentage-of-receivables basis may use only a single percentage rate.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 14/84

DECISION TOOLS

An aging schedule helps users determine if the amount of past due accounts is increasing and which accounts require management's attention.

After the company arranges the accounts by age, it determines the expected bad debt losses by applying percentages, based on past experience, to the totals of each category. The longer a receivable is past due, the less likely it is to be collected. As a result, the estimated percentage of uncollectible debts increases as the number of days past due increases. Illustration 8-7 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig-0007) shows an aging schedule for Dart Company. Note the increasing uncollectible percentages from 2% to 40%.

ILLUSTRATION 8-7 Aging schedule

Total estimated uncollectible accounts for Dart Company ($2,228) represent the existing customer claims expected to become uncollectible in the future. Thus, this amount represents the required balance in Allowance for Doubtful Accounts at the balance sheet date. Accordingly, the amount of bad debt expense that should be recorded in the adjusting entry is the difference between the required balance and the existing balance in the allowance account. The existing, unadjusted balance in Allowance for

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 15/84

Doubtful Accounts is the net result of the beginning balance (a normal credit balance) less the write-offs of speci�ic accounts during the year (debits to the allowance account).

For example, if the unadjusted trial balance shows Allowance for Doubtful Accounts with a credit balance of $528, then an adjusting entry for $1,700 ($2,228−$528) is necessary:

After Dart posts the adjusting entry, its accounts appear as shown in Illustration 8-8 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig-0008) .

ILLUSTRATION 8-8 Bad debt accounts after posting

An important aspect of accounts receivable management is simply maintaining a close watch on the accounts. Studies have shown that accounts more than 60 days past due lose approximately 50% of their value if no payment activity occurs within the next 30 days. For each additional 30 days that pass, the collectible value halves once again.

Occasionally, the allowance account will have a debit balance prior to adjustment. This occurs because the debits to the allowance account from write-offs during the year exceeded the beginning balance in the account which was based on previous estimates for bad debts. In such a case, the company adds the debit balance to the required balance when it makes the adjusting entry. Thus, if there was a $500 debit balance in the allowance account before adjustment, the adjusting entry would be for $2,728 ($2,228+$500) to arrive at a credit balance of $2,228 as shown below.

After Dart posts the adjusting entry, its accounts appear as shown in Illustration 8-9 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig-0009) .

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 16/84

ILLUSTRATION 8-9 Bad debt accounts after posting

The percentage-of-receivables basis provides an estimate of the cash realizable value of the receivables. It also provides a reasonable matching of expenses to revenue.

The following note regarding accounts receivable comes from the annual report of the shoe company Skechers USA.

ILLUSTRATION 8-10 Skechers USA's note disclosure of accounts receivable

 ETHICS INSIGHT 

Cookie Jar Allowances

There are many pressures on companies to achieve earnings targets. For managers, poor earnings can lead to dismissal or lack of promotion. It is not surprising then that management may be tempted to look for ways to boost their earnings number.

One way a company can achieve greater earnings is to lower its estimate of what is needed in its Allowance for Doubtful Accounts (sometimes referred to as “tapping the cooking jar”). For example, suppose a company has an Allowance for Doubtful Accounts of $10 million and decides to reduce this balance to $9 million. As a result of this change, Bad Debt Expense decreases by $1 million and earnings increase by $1 million.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 17/84

Large banks such as JP Morgan Chase, Wells Fargo, and Bank of America recently decreased their Allowance for Doubtful Accounts by over $4 billion. These reductions came at a time when these big banks were still suffering from lower mortgage lending and trading activity, both of which lead to lower earnings. They justi�ied these reductions in the allowance balances by noting that credit quality and economic conditions had improved. This may be so, but it sure is great to have a cookie jar that might be tapped when a boost in earnings is needed.

How might investors determine that a company is managing its earnings? (Go to WileyPLUS for this answer and additional questions.)

DO IT! 2a

Bad Debt Expense

Brule Corporation has been in business for 5 years. The unadjusted trial balance at the end of the current year shows Accounts Receivable $30,000, Sales Revenue $180,000, and Allowance for Doubtful Accounts with a debit balance of $2,000. Brule estimates bad debts to be 10% of accounts receivable. Prepare the entry necessary to adjust Allowance for Doubtful Accounts.

Action Plan ✓ Estimate the amount the company does not expect to collect.

✓ Consider the existing balance in the allowance account when using the percentage-of-receivables basis.

✓ Report receivables at their cash (net) realizable value—that is, the amount the company expects to collect in cash.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 18/84

SOLUTION

Brule should make the following entry to bring the debit balance in Allowance for Doubtful Accounts up to a normal, credit balance of $3,000 (10%×$30,000):

Related exercise material: BE8-3, BE8-4, BE8-5, DO IT! 8-2a, E8-3, E8-4, E8-5, and E8-6.

▼ HELPFUL HINT

The older categories have higher percentages because the longer an account is past due, the less likely it is to be collected.

DISPOSING OF ACCOUNTS RECEIVABLE

Sale of Receivables to a Factor

A common way to accelerate receivables collection is a sale to a factor. A factor is a �inance company or bank that buys receivables from businesses for a fee and then collects the payments directly from the customers.

Factoring was traditionally associated with the textiles, apparel, footwear, furniture, and home furnishing industries. It has now spread to other types of businesses and is a multibillion dollar industry. For example, Sears, Roebuck & Co. (now Sears Holdings) once sold $14.8 billion of customer accounts receivable. McKesson at one time had a pre-arranged agreement allowing it to sell up to $700 million of its receivables.

Factoring arrangements vary widely, but typically the factor charges a commission. It often ranges from 1% to 3% of the amount of receivables purchased. To illustrate, assume that Hendredon Furniture factors $600,000 of receivables to Federal Factors, Inc. Federal Factors assesses a service charge of 2% of the amount of receivables sold. The following journal entry records Hendredon's sale of receivables on April 2, 2017.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 19/84

If Hendredon sells its receivables, it records the service charge expense as a selling expense. If the company sells receivables infrequently, it may report this amount under “Other expenses and losses” in the income statement.

INTERNATIONAL NOTE GAAP has less stringent requirements regarding the sale of receivables. Thus, GAAP companies can more easily use factoring transactions as a form of �inancing without showing a related liability on their books. Some argue that this type of so-called “off-balance-sheet �inancing” would be more dif�icult to achieve under IFRS.

National Credit Card Sales

Approximately one billion credit cards were in use recently—more than three credit cards for every man, woman, and child in this country. A common type of credit card is a national credit card such as Visa and MasterCard. Three parties are involved when national credit cards are used in making retail sales: (1) the credit card issuer, who is independent of the retailer; (2) the retailer; and (3) the customer. A retailer's acceptance of a national credit card is another form of selling—factoring—the receivable by the retailer.

The use of national credit cards translates to more sales and zero bad debts for the retailer. Both are powerful reasons for a retailer to accept such cards. Illustration 8-11 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo2#c08-�ig-0011) (page 386) shows the major advantages of national credit cards to the retailer. In exchange for these advantages, the retailer pays the credit card issuer a fee of 2% to 4% of the invoice price for its services.

The retailer considers sales resulting from the use of Visa and MasterCard as cash sales. Upon noti�ication of a credit card charge from a retailer, the bank that issued the card immediately adds the amount to the seller's bank balance. Companies therefore record these credit card charges in the same manner as checks deposited from a cash sale.

To illustrate, Morgan Marie purchases $1,000 of compact discs for her restaurant from Sondgeroth Music Co., and she charges this amount on her Visa First Bank Card. The service fee that First Bank charges Sondgeroth Music is 3%. Sondgeroth Music's entry to record this transaction on March 22, 2017, is as follows.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 20/84

ILLUSTRATION 8-11 Advantages of credit cards to the retailer

 ACCOUNTING ACROSS THE ORGANIZATION 

Nordstrom

How Does a Credit Card Work?

Most of you know how to use a credit card, but do you know what happens in the transaction and how the transaction is processed? Suppose that you use a Visa card to purchase some new ties at Nordstrom. The salesperson swipes your card, which allows the information on the magnetic strip on the back of the card to be read. The salesperson then enters in the amount of the purchase. The machine contacts the Visa computer, which routes the call back to the bank that issued your Visa card. The issuing bank veri�ies that the account exists, that the card is not stolen, and that you have not exceeded your credit limit. At this point, the slip is printed, which you sign.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 21/84

Visa acts as the clearing agent for the transaction. It transfers funds from the issuing bank to Nordstrom's bank account. Generally this transfer of funds, from sale to the receipt of funds in the merchant's account, takes two to three days.

In the meantime, Visa puts a pending charge on your account for the amount of the tie purchase; that amount counts immediately against your available credit limit. At the end of the billing period, Visa sends you an invoice (your credit card bill) which shows the various charges you made, and the amounts that Visa expended on your behalf, for the month. You then must “pay the piper” for your stylish new ties.

Assume that Nordstrom prepares a bank reconciliation at the end of each month. If some credit card sales have not been processed by the bank, how should Nordstrom treat these transactions on its bank reconciliation? (Go to WileyPLUS for this answer and additional questions.)

DO IT! 2b

Factoring

Peter M. Kell Wholesalers Co. needs to raise $120,000 in cash to safely cover next Friday's employee payroll. Kell has reached its debt ceiling. Kell's present balance of outstanding receivables totals $750,000. Kell decides to factor $125,000 of its receivables on September 7, 2017, to alleviate this cash crunch. Record the entry that Kell would make when it raises the needed cash. (Assume a 1% service charge.)

Action Plan ✓ Consider sale of receivables to a factor.

✓ Weigh cost of factoring against bene�it of having cash in hand.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 22/84

SOLUTION

Assuming that Kell Co. factors $125,000 of its accounts receivable at a 1% service charge, it would make this entry:

Related exercise material: BE8-6, DO IT! 8-2b, E8-7, E8-8, and E8-9.

ETHICS NOTE

In exchange for lower interest rates, some companies have eliminated the 25- day grace period before �inance charges kick in. Be sure you read the �ine print in any credit agreement you sign.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 23/84

LEARNING OBJECTIVE 3

Explain how companies recognize, value, and dispose of notes receivable. 

Companies also may grant credit in exchange for a formal credit instrument known as a promissory note. A promissory note is a written promise to pay a speci�ied amount of money on demand or at a de�inite time. Promissory notes may be used (1) when individuals and companies lend or borrow money, (2) when the amount of the transaction and the credit period exceed normal limits, and (3) in settlement of accounts receivable.

In a promissory note, the party making the promise to pay is called the maker. The party to whom payment is to be made is called the payee. The promissory note may speci�ically identify the payee by name or may designate the payee simply as the bearer of the note.

In the note shown in Illustration 8-12 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo3#c08-�ig-0012) , Brent Company is the maker, and Wilma Company is the payee. To Wilma Company, the promissory note is a note receivable. To Brent Company, the note is a note payable.

ILLUSTRATION 8-12 Promissory note

Notes receivable give the holder a stronger legal claim to assets than do accounts receivable. Like accounts receivable, notes receivable can be readily sold to another party. Promissory notes are negotiable instruments (as are checks), which means that, when sold, the seller can transfer them to another party by endorsement.

Companies frequently accept notes receivable from customers who need to extend the payment of an outstanding account receivable. Companies also often require notes from high-risk customers. In some

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 24/84

industries (e.g., the pleasure and sport boat industry), all credit sales are supported by notes. The majority of notes, however, originate from lending transactions.

The basic issues in accounting for notes receivable are the same as those for accounts receivable. On the following pages, we look at these issues. Before we do, however, we need to consider two issues that do not apply to accounts receivable: determining the maturity date and computing interest.

▼ HELPFUL HINT

For this note, the maker, Brent Company, credits Notes Payable. The payee, Wilma Company, debits Notes Receivable.

DETERMINING THE MATURITY DATE The maturity date of a promissory note may be stated in one of three ways: (1) on demand, (2) on a stated date, and (3) at the end of a stated period of time. When it is stated to be at the end of a period of time, the parties to the note will need to determine the maturity date.

When the life of a note is expressed in terms of months, you �ind the date when it matures by counting the months from the date of issue. For example, the maturity date of a three-month note dated May 1 is August 1. A note drawn on the last day of a month matures on the last day of a subsequent month. That is, a July 31 note due in two months matures on September 30.

When the due date is stated in terms of days, you need to count the exact number of days to determine the maturity date. In counting, omit the date the note is issued but include the due date.

▼ HELPFUL HINT

The maturity date of a 60-day note dated July 17 is determined as follows.

Term of note 60 days July (31 – 17) 14 August 31 45 September 15 (Maturity date)

COMPUTING INTEREST

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 25/84

Illustration 8-13 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo3#c08-�ig-0013) gives the basic formula for computing interest on an interest-bearing note.

ILLUSTRATION 8-13 Formula for computing interest

The interest rate speci�ied on the note is an annual rate of interest. The time factor in the computation expresses the fraction of a year that the note is outstanding. When the maturity date is stated in days, the time factor is frequently the number of days divided by 360. When counting days, omit the date the note is issued but include the due date. When the due date is stated in months, the time factor is the number of months divided by 12. Illustration 8-14 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo3#c08-�ig-0014) shows computation of interest for various time periods.

ILLUSTRATION 8-14 Computation of interest

There are different ways to calculate interest. For example, the computation in Illustration 8-14 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo3#c08-�ig-0014) assumes 360 days for the year. Financial institutions use 365 days to compute interest. For homework problems, assume 360 days to simplify computations.

RECOGNIZING NOTES RECEIVABLE To illustrate the basic entry for notes receivable, we will use Brent Company's $1,000, two-month, 8% promissory note dated May 1. Assuming that Brent Company wrote the note to settle an open account, Wilma Company makes the following entry for the receipt of the note.

The company records the note receivable at its face value, the value shown on the face of the note. No interest revenue is reported when the company accepts the note because the revenue recognition principle does not recognize revenue until the performance obligation is satis�ied. Interest is earned (accrued) as time passes.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 26/84

If a company issues cash in exchange for a note, the entry is a debit to Notes Receivable and a credit to Cash in the amount of the loan.

VALUING NOTES RECEIVABLE Like accounts receivable, companies report short-term notes receivable at their cash (net) realizable value. The notes receivable allowance account is Allowance for Doubtful Accounts. Valuing short-term notes receivable is the same as valuing accounts receivable. The computations and estimations involved in determining cash realizable value and in recording the proper amount of bad debt expense and related allowance are similar.

Long-term notes receivable, however, pose additional estimation problems. As an example, we need only look at the problems large U.S. banks sometimes have in collecting their receivables. Loans to less- developed countries are particularly worrisome. Developing countries need loans for development but often �ind repayment dif�icult. In some cases, developed nations have intervened to provide �inancial assistance to the �inancially troubled borrowers so as to minimize the political and economic turmoil to the borrower and to ensure the survival of the lender.

 INTERNATIONAL INSIGHT   Can Fair Value Be Unfair?

The FASB and the International Accounting Standards Board (IASB) are considering proposals for how to account for �inancial instruments. The FASB has proposed that loans and receivables be accounted for at their fair value (the amount they could currently be sold for), as are most investments. The FASB believes that this would provide a more accurate view of a company's �inancial position. It might be especially useful as an early warning when a bank is in trouble because of poor-quality loans. But, banks argue that fair values are dif�icult to estimate accurately. They are also concerned that volatile fair values could cause large swings in a bank's reported net income.

Source: David Reilly, “Banks Face a Mark-to-Market Challenge,” Wall Street Journal Online (March 15, 2010).

What are the arguments in favor of and against fair value accounting for loans and receivables? (Go to WileyPLUS for this answer and additional questions.)

DISPOSING OF NOTES RECEIVABLE Notes may be held to their maturity date, at which time the face value plus accrued interest is due. In some situations, the maker of the note defaults, and the payee must make an appropriate adjustment. In other

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 27/84

situations, similar to accounts receivable, the holder of the note speeds up the conversion to cash by selling the receivables (as described later in this chapter).

Honor of Notes Receivable

A note is honored when its maker pays in full at its maturity date. For each interest-bearing note, the amount due at maturity is the face value of the note plus interest for the length of time speci�ied on the note.

To illustrate, assume that Wolder Co. lends Higley Inc. $10,000 on June 1, accepting a �ive-month, 9% interest note. In this situation, interest is $375 ($10,000×9%×512). The amount due, the maturity value, is $10,375 ($10,000+$375). To obtain payment, Wolder (the payee) must present the note either to Higley Inc. (the maker) or to the maker's agent, such as a bank. If Wolder presents the note to Higley Inc. on November 1, the maturity date, Wolder's entry to record the collection is as follows.

▼ HELPFUL HINT

The number of days of interest that should be accrued at September 30 for a 90-day note issued on August 16 is 45 days (15 days in August plus 30 days in September).

Accrual of Interest Receivable

Suppose instead that Wolder Co. prepares �inancial statements as of September 30. The timeline in Illustration 8-15 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo3#c08-�ig-0015) presents this situation.

ILLUSTRATION 8-15 Timeline of interest earned

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 28/84

To re�lect interest earned but not yet received, Wolder must accrue interest on September 30. In this case, the adjusting entry by Wolder is for four months of interest, or $300, as shown below.

At the note's maturity on November 1, Wolder receives $10,375. This amount represents repayment of the $10,000 note as well as �ive months of interest, or $375, as shown below. The $375 is comprised of the $300 Interest Receivable accrued on September 30 plus $75 earned during October. Wolder's entry to record the honoring of the Higley note on November 1 is as follows.

In this case, Wolder credits Interest Receivable because the receivable was established in the adjusting entry on September 30.

Dishonor of Notes Receivable

A dishonored (defaulted) note is a note that is not paid in full at maturity. A dishonored note receivable is no longer negotiable. However, the payee still has a claim against the maker of the note for both the note and the interest. If the lender expects that it eventually will be able to collect, the two parties negotiate new terms to make it easier for the borrower to repay the debt. If there is no hope of collection, the payee should write off the face value of the note.

DO IT! 3

Notes Receivable

Gambit Stores accepts from Leonard Co. a $3,400, 90-day, 6% note dated May 10 in settlement of Leonard's overdue open account. The note matures on August 8. What entry does Gambit make at the maturity date, assuming Leonard pays the note and interest in full at that time?

Action Plan

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 29/84

✓ Compute the accrued interest.

✓ Prepare the entry for payment of the note and the interest.

Related exercise material: BE8-7, BE8-8, DO IT! 8-3, E8-10, and E8-11.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 30/84

LEARNING OBJECTIVE 4

Describe the statement presentation of receivables and the principles of receivables management. 

If a company has signi�icant receivables, analysts carefully review the company's �inancial statement disclosures to evaluate how well the company is managing its receivables.

FINANCIAL STATEMENT PRESENTATION OF RECEIVABLES Companies should identify in the balance sheet or in the notes to the �inancial statements each of the major types of receivables. Short-term receivables are reported in the current assets section of the balance sheet, below short-term investments. Short-term investments appear before short-term receivables because these investments are nearer to cash. Companies report both the gross amount of receivables and the allowance for doubtful accounts.

Receivables represent 60% of the total assets of heavy equipment manufacturer Deere & Company. Illustration 8-16 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo4#c08-�ig-0016) (page 392) shows a presentation of receivables for Deere & Company from its balance sheet and notes in a recent year.

ILLUSTRATION 8-16 Balance sheet presentation of receivables

In the income statement, companies report bad debt expense under “Selling expenses” in the operating expenses section. They show interest revenue under “Other revenues and gains” in the nonoperating section of the income statement.

If a company has signi�icant risk of uncollectible accounts or other problems with its receivables, it is required to discuss this possibility in the notes to the �inancial statements.

MANAGING RECEIVABLES

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 31/84

Managing accounts receivable involves �ive steps:

1. Determine to whom to extend credit.

2. Establish a payment period.

3. Monitor collections.

4. Evaluate the liquidity of receivables.

5. Accelerate cash receipts from receivables when necessary.

Extending Credit

Every entrepreneur struggles with �inancing issues. For example, the very �irst order that Apple's founders received was 50 circuit boards for a computer hobby shop. To produce the $25,000 order, Steve Jobs and Steve Wozniak needed $15,000 of parts. To purchase the parts, they borrowed $5,000 from friends but then were turned down when they applied for a bank loan for the $10,000 balance. They approached two parts suppliers in an effort to negotiate a purchase on credit, but both suppliers said no. Finally, a third supplier agreed to sell them the parts on 30-day credit after he called the computer hobby shop to con�irm that it had, in fact, placed a $25,000 order to purchase goods.

A critical part of managing receivables is determining who should be extended credit and who should not. Many companies increase sales by being generous with their credit policy. However, they sometimes extend credit to risky customers who do not pay. But if your credit policy is too tight, you will lose sales. If it is too loose, you may sell to “deadbeats” who will pay either very late or not at all. One CEO noted that prior to getting his credit and collection department in order, his salespeople had 300 square feet of of�ice space per person, while the people in credit and collections had six people crammed into a single 300- square-foot space. Although this focus on sales boosted sales revenue, it had very expensive consequences in bad debt expense.

Companies can take certain steps to help minimize losses due to bad debts when they decide to relax credit standards for new customers. They might require risky customers to provide letters of credit or bank guarantees. Then, if the customer does not pay, the bank that provided the guarantee will do so. Particularly risky customers might be required to pay cash on delivery. For example, at one time retailer Linens'n Things, Inc. reported that its largest suppliers were requiring cash payment before delivery. The suppliers had cut off shipments because the company had been slow in paying. Kmart's suppliers also required it to pay cash in advance when it was �inancially troubled.

In addition, companies should ask potential customers for references from banks and suppliers, to determine their payment history. It is important to check references of potential new customers as well as periodically to check the �inancial health of continuing customers. Many resources are available for investigating customers. For example, The Dun & Bradstreet Reference Book of American Business (www.dnb.com (http://www.dnb.com) ) lists millions of companies and provides credit ratings for many of them.

 ACCOUNTING ACROSS THE ORGANIZATION 

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 32/84

Countrywide Financial Corporation

Bad Information Can Lead to Bad Loans

Many factors contributed to the recent credit crisis. One signi�icant factor that resulted in many bad loans was a failure by lenders to investigate loan customers suf�iciently. For example, Countrywide Financial Corporation wrote many loans under its “Fast and Easy” loan program. That program allowed borrowers to provide little or no documentation for their income or their assets. Other lenders had similar programs, which earned the nickname “liars' loans.” One study found that in these situations, 60% of applicants overstated their incomes by more than 50% in order to qualify for a loan. Critics of the banking industry say that because loan of�icers were compensated for loan volume, and because banks were selling the loans to investors rather than holding them, the lenders had little incentive to investigate the borrowers' creditworthiness.

Sources: Glenn R. Simpson and James R. Hagerty, “Countrywide Loss Focuses Attention on Underwriting,” Wall Street Journal (April 30, 2008), p. B1; and Michael Corkery, “Fraud Seen as Driver in Wave of Foreclosures,” Wall Street Journal (December 21, 2007), p. A1.

What steps should the banks have taken to ensure the accuracy of �inancial information provided on loan applications? (Go to WileyPLUS for this answer and additional questions.)

Establishing a Payment Period

Companies that extend credit should determine a required payment period and communicate that policy to their customers. It is important that the payment period is consistent with that of competitors. For example, if you require payment within 15 days but your competitors allow payment within 45 days, you may lose sales to your competitors. To match your competitors' generous terms yet still encourage prompt payment of accounts, you might allow up to 45 days to pay but offer a sales discount for people paying within 15 days.

Monitoring Collections

We discussed preparation of the accounts receivable aging schedule earlier in the chapter (pages 382– 383). Companies should prepare an accounts receivable aging schedule at least monthly. In addition to estimating the allowance for doubtful accounts, the aging schedule has other uses. It helps managers estimate the timing of future cash in�lows, which is very important to the treasurer's efforts to prepare a cash budget. It provides information about the overall collection experience of the company and identi�ies problem accounts. For example, management would compute and compare the percentage of receivables that are over 90 days past due. Illustration 8-17 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo4#c08-�ig-0017) (page 394) contains an excerpt from the notes to Skechers' �inancial statements discussing how it monitors receivables.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 33/84

ILLUSTRATION 8-17 Note on monitoring Skechers' receivables

The aging schedule identi�ies problem accounts that the company needs to pursue with phone calls, letters, and occasionally legal action. Sometimes, special arrangements must be made with problem accounts. For example, it was reported that Intel Corporation (a major manufacturer of computer chips) required that Packard Bell (at one time one of the largest U.S. sellers of personal computers) exchange its past-due account receivable for an interest-bearing note receivable. This caused concern within the investment community. The move suggested that Packard Bell was in trouble, which worried Intel investors concerned about Intel's accounts receivable.

If a company has signi�icant concentrations of credit risk, it must discuss this risk in the notes to its �inancial statements. A concentration of credit risk is a threat of nonpayment from a single large customer or class of customers that could adversely affect the �inancial health of the company. Illustration 8-18 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo4#c08-�ig-0018) shows an excerpt from the credit risk note from the 2014 annual report of Skechers. Skechers reports that its �ive largest customers account for 15.7% of its net sales.

ILLUSTRATION 8-18 Excerpt from Skechers' note on concentration of credit risk

This note to Skechers' �inancial statements indicates it has a relatively high concentration of credit risk. A default by any of these large customers could have a signi�icant negative impact on its �inancial performance.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 34/84

DECISION TOOLS

Monitoring the accounts receivable aging schedule helps users determine if the company's credit risk is increasing.

DECISION TOOLS

Identifying risky credit customers helps users determine if the company has signi�icant concentrations of credit risk.

EVALUATING LIQUIDITY OF RECEIVABLES Investors and managers keep a watchful eye on the relationship among sales, accounts receivable, and cash collections. If sales increase, then accounts receivable are also expected to increase. But a disproportionate increase in accounts receivable might signal trouble. Perhaps the company increased its sales by loosening its credit policy, and these receivables may be dif�icult or impossible to collect. Such receivables are considered less liquid. Recall that liquidity is measured by how quickly certain assets can be converted to cash.

The ratio that analysts use to assess the liquidity of receivables is the accounts receivable turnover, computed by dividing net credit sales (net sales less cash sales) by the average net accounts receivable during the year. This ratio measures the number of times, on average, a company collects receivables during the period. Unless seasonal factors are signi�icant, average accounts receivable outstanding can be computed from the beginning and ending balances of the net receivables.1 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08ifrs#c08-note-0031)

A popular variant of the accounts receivable turnover is the average collection period, which measures the average amount of time that a receivable is outstanding. This is done by dividing the accounts receivable turnover into 365 days. Companies use the average collection period to assess the effectiveness of a company's credit and collection policies. The average collection period should not greatly exceed the credit term period (i.e., the time allowed for payment).

The following data (in millions) are available for Nike.

For the year ended March 31, 2014 2013 Sales $27,799 $25,313 Accounts receivable (net)   3,434   3,117

Illustration 8-19 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo4#c08-�ig-0019) shows the accounts receivable turnover and average collection period for Nike and Skechers, along with comparative industry data. These calculations assume that all sales were credit sales.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 35/84

ILLUSTRATION 8-19 Accounts receivable turnover and average collection period

Nike's accounts receivable turnover was 8.5 times in 2014, with a corresponding average collection period of 42.9 days. This was slightly faster than its 2013 collection period. It was slower than the industry average collection period of 29.9 days and higher than Skechers, which was 38 days. What this means is that Nike turned its receivables into cash more slowly than most other companies in its industry. Therefore, it was less likely to pay its current obligations than a company with a quicker accounts receivable turnover (all else equal) and is more likely to need outside �inancing to meet cash shortfalls.

In some cases, accounts receivable turnover may be misleading. Some large retail chains that issue their own credit cards encourage customers to use these cards for purchases. If customers pay slowly, the stores earn a healthy return on the outstanding receivables in the form of interest at rates of 18% to 22%. On the other hand, companies that sell (factor) their receivables on a consistent basis will have a faster turnover than those that do not. Thus, to interpret accounts receivable turnover, you must know how a company manages its receivables. In general, the faster the turnover, the greater the reliability of the current ratio for assessing liquidity.

DECISION TOOLS

The accounts receivable turnover and the average collection period help users determine if a company's collections are being made in a timely fashion.

ACCELERATING CASH RECEIPTS In the normal course of events, companies collect accounts receivable in cash and remove them from the books. However, as credit sales and receivables have grown in size and signi�icance, the “normal course of events” has changed. Two common expressions apply to the collection of receivables: (1) “Time is money”—that is, waiting for the normal collection process costs money. (2) “A bird in the hand is worth two in the bush”—that is, getting the cash now is better than getting it later or not at all. Therefore, in order to accelerate the receipt of cash from receivables, companies frequently sell their receivables to another company for cash, thereby shortening the cash-to-cash operating cycle.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 36/84

There are three reasons for the sale of receivables. The �irst is their size. In recent years, for competitive reasons, sellers (retailers, wholesalers, and manufacturers) often have provided �inancing to purchasers of their goods. For example, many major companies in the automobile, truck, industrial and farm equipment, computer, and appliance industries have created companies that accept responsibility for accounts receivable �inancing. Caterpillar has Caterpillar Financial Services, General Electric has GE Capital, and Ford has Ford Motor Credit Corp. (FMCC). These companies are referred to as captive �inance companies because they are owned by the company selling the product. The purpose of captive �inance companies is to encourage the sale of the company's products by assuring �inancing to buyers. However, the parent companies involved do not necessarily want to hold large amounts of receivables, so they may sell them.

Second, companies may sell receivables because they may be the only reasonable source of cash. When credit is tight, companies may not be able to borrow money in the usual credit markets. Even if credit is available, the cost of borrowing may be prohibitive.

A �inal reason for selling receivables is that billing and collection are often time-consuming and costly. As a result, it is often easier for a retailer to sell the receivables to another party that has expertise in billing and collection matters. Credit card companies such as MasterCard, Visa, American Express, and Discover specialize in billing and collecting accounts receivable.

Illustration 8-20 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo4#c08-�ig-0020) summarizes the basic principles of managing accounts receivable.

ILLUSTRATION 8-20 Managing receivables

KEEPING AN EYE ON CASH A lot of companies report strong sales growth but have cash �low problems. How can this be? The reason for the difference is timing: Sales revenue is recorded when goods are delivered even if cash is not received until later. For example, Nike had sales of $27,799 million during 2014. Does that mean it received cash of $27,799 million from its customers? Most likely not. So how do we determine the amount of cash related to sales

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 37/84

revenue that is actually received from customers? We analyze the changes that take place in Accounts Receivable.

To illustrate, suppose Bestor Corporation started the year with $10,000 in accounts receivable. During the year, it had credit sales of $100,000. At the end of the year, the balance in accounts receivable was $25,000. As a result, accounts receivable increased $15,000 during the year. How much cash did Bestor collect from customers during the year? Using the following T-account, we can determine that collections were $85,000.

As shown, the difference between sales and cash collections is explained by the change in Accounts Receivable. Accounts Receivable increased by $15,000. Therefore, since credit sales were $100,000, cash collections were only $85,000.

To illustrate another situation, let's use Nike (see data on page 395). Recall that it had credit sales of $27,799 million. Its ending receivables balance was $3,434 million, and its beginning receivables balance was $3,117 million—an increase of $317 million. Given this change, we can determine that the cash collected from customers during the year was $27,482 million ($27,799−$317). This is shown in the following T-account.

DO IT! 1

Analysis of Receivables

In 2017, Lebron James Company had net credit sales of $923,795 for the year. It had a beginning accounts receivable (net) balance of $38,275 and an ending accounts receivable (net) balance of $35,988. Compute Lebron James Company's (a) accounts receivable turnover and (b) average collection period in days.

Action Plan

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 38/84

✓ Review the formula to compute the accounts receivable turnover.

✓ Make sure that both the beginning and ending accounts receivable are considered in the computation.

✓ Review the formula to compute the average collection period in days.

Related exercise material: BE8-10, BE8-11, DO IT! 8-4, E8-14, and E8-15.

USING DECISION TOOLS—ADIDAS The information below was taken from the 2014 �inancial statements of adidas. Similar to Nike and Skechers, adidas sells shoes as well as other products.

INSTRUCTIONS

Comment on adidas' accounts receivable management and liquidity relative to that of Nike, using (1) the current ratio and (2) the accounts receivable turnover and average collection period. Nike's current ratio was 2.72:1. The other ratio values for Nike were calculated earlier in the chapter (page 395).

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 39/84

SOLUTION

1. Here is the 2014 current ratio (Current assets ÷ Current liabilities) for each company.

Nike adidas

2.72:1 $7,347$4,378=1.68:1

Nike's current ratio far exceeds that of adidas. In fact, Nike's might be excessive. A company of its size would not normally want to have so much capital tied up in current assets.

2. The accounts receivable turnover and average collection period for each company are:

adidas' accounts receivable turnover of 7.7 compared to Nike's 8.5, and its average collection period of 47.4 days versus Nike's 42.9 days, suggest that adidas is able to collect from its customers slightly less quickly. It is important to note, however, that adidas is a German corporation. It reports under IFRS. A thorough comparison of adidas and Nike would require consideration of differences in the treatment of accounts receivable under IFRS and GAAP.

REVIEW AND PRACTICE

LEARNING OBJECTIVES REVIEW 1. Explain how companies recognize accounts receivable. Receivables are

frequently classi�ied as accounts, notes, and other. Accounts receivable are amounts customers owe on account. Notes receivable represent claims that are evidenced by formal instruments of credit. Other receivables include nontrade

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 40/84

receivables such as interest receivable, loans to company of�icers, advances to employees, and income taxes refundable.

Companies record accounts receivable when they perform a service on account or at the point-of-sale of merchandise on account. Sales returns and allowances and cash discounts reduce the amount received on accounts receivable.

2. Describe how companies value accounts receivable and record their disposition. The two methods of accounting for uncollectible accounts are the allowance method and the direct write-off method. Under the allowance method, companies estimate uncollectible accounts as a percentage of receivables. It emphasizes the cash realizable value of the accounts receivable. An aging schedule is frequently used with this approach.

3. Explain how companies recognize, value, and dispose of notes receivable. The formula for computing interest is Face value of note×Annual interest rate×Time in terms of one year. Notes can be held to maturity, at which time the borrower (maker) pays the face value plus accrued interest and the payee removes the note from the accounts. In many cases, however, similar to accounts receivable, the holder of the note speeds up the conversion by selling the receivable to another party. In some situations, the maker of the note dishonors the note (defaults), and the note is written off.

4. Describe the statement presentation of receivables and the principles of receivables management. Companies should identify each major type of receivable in the balance sheet or in the notes to the �inancial statements. Short- term receivables are considered current assets. Companies report the gross amount of receivables and the allowance for doubtful accounts. They report bad debt and service charge expenses in the income statement as operating (selling) expenses, and interest revenue as other revenues and gains in the nonoperating section of the statement.

To properly manage receivables, management must (a) determine to whom to extend credit, (b) establish a payment period, (c) monitor collections, (d) evaluate the liquidity of receivables, and (e) accelerate cash receipts from receivables when necessary. The accounts receivable turnover and the average collection period both are useful in analyzing management's effectiveness in managing receivables. The accounts receivable aging schedule also provides useful information. If the company needs additional cash, management can accelerate the collection of cash from receivables by selling (factoring) its receivables or by allowing customers to pay with bank credit cards.

DECISION TOOLS REVIEW

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 41/84

GLOSSARY REVIEW Accounts receivable turnover A measure of the liquidity of accounts receivable,

computed by dividing net credit sales by average net accounts receivable.

Accounts receivable Amounts customers owe on account.

Aging the accounts receivable A schedule of customer balances classi�ied by the length of time they have been unpaid.

Allowance method A method of accounting for bad debts that involves estimating uncollectible accounts at the end of each period.

Average collection period The average amount of time that a receivable is outstanding, calculated by dividing 365 days by the accounts receivable turnover.

Bad Debt Expense An expense account to record losses from extending credit.

Cash (net) realizable value The net amount a company expects to receive in cash from receivables.

Concentration of credit risk The threat of nonpayment from a single large customer or class of customers that could adversely affect the �inancial health of the company.

Direct write-off method A method of accounting for bad debts that involves charging receivable balances to Bad Debt Expense at the time receivables from a particular company are determined to be uncollectible.

Dishonored (defaulted) note A note that is not paid in full at maturity.

Factor A �inance company or bank that buys receivables from businesses for a fee and then collects the payments directly from the customers.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 42/84

Maker The party in a promissory note who is making the promise to pay.

Notes receivable Written promise (as evidenced by a formal instrument) for amounts to be received.

Payee The party to whom payment of a promissory note is to be made.

Percentage-of-receivables basis A method of estimating the amount of bad debt expense whereby management establishes a percentage relationship between the amount of receivables and the expected losses from uncollectible accounts.

Promissory note A written promise to pay a speci�ied amount of money on demand or at a de�inite time.

Receivables Amounts due from individuals and companies that are expected to be collected in cash.

Trade receivables Notes and accounts receivable that result from sales transactions.

PRACTICE MULTIPLE-CHOICE QUESTIONS (LO 1)

1. A receivable that is evidenced by a formal instrument and that normally requires the payment of interest is:

(a) an account receivable.

(b) a trade receivable.

(c) a note receivable.

(d) a classi�ied receivable.

(LO 1)

2. Receivables are frequently classi�ied as:

(a) accounts receivable, company receivables, and other receivables.

(b) accounts receivable, notes receivable, and employee receivables.

(c) accounts receivable and general receivables.

(d) accounts receivable, notes receivable, and other receivables.

(LO 1)

3. Kersee Company on June 15 sells merchandise on account to Eng Co. for $1,000, terms 2/10, n/30. On June 20, Eng Co. returns merchandise worth $300 to Kersee Company. On

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 43/84

June 24, payment is received from Eng Co. for the balance due. What is the amount of cash received?

(a) $700.

(b) $680.

(c) $686.

(d) None of the above.

(LO 2, 4)

4. Accounts and notes receivable are reported in the current assets section of the balance sheet at:

(a) cash (net) realizable value

(b) net book value.

(c) lower-of-cost-or-market value.

(d) invoice cost.

(LO 2)

5. Net credit sales for the month are $800,000. The accounts receivable balance is $160,000. The allowance is calculated as 7.5% of the receivables balance using the percentage-of-receivables basis. If Allowance for Doubtful Accounts has a credit balance of $5,000 before adjustment, what is the balance after adjustment?

(a) $12,000.

(b) $7,000.

(c) $17,000.

(d) $31,000.

(LO 3)

6. In 2017, Patterson Wholesale Company had net credit sales of $750,000. On January 1, 2017, Allowance for Doubtful Accounts had a credit balance of $18,000. During 2017, $30,000 of uncollectible accounts receivable were written off. Past experience indicates that the allowance should be 10% of the balance in receivables (percentage-of-receivables basis). If the accounts receivable balance at December 31 was $200,000, what is the required adjustment to Allowance for Doubtful Accounts at December 31, 2017?

(a) $20,000.

(b) $75,000.

(c) $32,000.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 44/84

(d) $30,000.

(LO 2)

7. An analysis and aging of the accounts receivable of Raja Company at December 31 reveal these data:

Accounts receivable $800,000 Allowance for doubtful accounts per books before adjustment (credit) 50,000 Amounts expected to become uncollectible 65,000

What is the cash realizable value of the accounts receivable at December 31, after adjustment?

(a) $685,000.

(b) $750,000.

(c) $800,000.

(d) $735,000.

(LO 2)

8. Which of these statements about Visa credit card sales is incorrect?

(a) The credit card issuer conducts the credit investigation of the customer.

(b) The retailer is not involved in the collection process.

(c) The retailer must wait to receive payment from the issuer.

(d) The retailer receives cash more quickly than it would from individual customers.

(LO 2)

9. Good Stuff Retailers accepted $50,000 of Citibank Visa credit card charges for merchandise sold on July 1. Citibank charges 4% for its credit card use. The entry to record this transaction by Good Stuff Retailers will include a credit to Sales Revenue of $50,000 and a debit(s) to:

(a) Cash $48,000 and Service Charge Expense $2,000.

(b) Accounts Receivable $48,000 and Service Charge Expense $2,000.

(c) Cash $50,000.

(d) Accounts Receivable $50,000.

(LO 2)

10. A company can accelerate its cash receipts by all of the following except:

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 45/84

(a) offering discounts for early payment.

(b) accepting national credit cards for customer purchases.

(c) selling receivables to a factor.

(d) writing off receivables.

(LO 2)

11. Hughes Company has a credit balance of $5,000 in its Allowance for Doubtful Accounts before any adjustments are made at the end of the year. Based on review and aging of its accounts receivable at the end of the year, Hughes estimates that $60,000 of its receivables are uncollectible. The amount of bad debt expense which should be reported for the year is:

(a) $5,000.

(b) $55,000.

(c) $60,000.

(d) $65,000.

(LO 2)

12. Use the same information as in Question 11, except that Hughes has a debit balance of $5,000 in its Allowance for Doubtful Accounts before any adjustments are made at the end of the year. In this situation, the amount of bad debt expense that should be reported for the year is:

(a) $5,000.

(b) $55,000.

(c) $60,000.

(d) $65,000.

(LO 3)

13. Which of these statements about promissory notes is incorrect?

(a) The party making the promise to pay is called the maker.

(b) The party to whom payment is to be made is called the payee.

(c) A promissory note is not a negotiable instrument.

(d) A promissory note is more liquid than an account receivable.

(LO 3)

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 46/84

14. Michael Co. accepts a $1,000, 3-month, 12% promissory note in settlement of an account with Tani Co. The entry to record this transaction is:

(LO 3)

15. Schleis Co. holds Murphy Inc.'s $10,000, 120-day, 9% note. The entry made by Schleis Co. when the note is collected, assuming no interest has previously been accrued, is:

(LO 4)

16. If a company is concerned about extending credit to a risky customer, it could do any of the following except:

(a) require the customer to pay cash in advance.

(b) require the customer to provide a letter of credit or a bank guarantee.

(c) contact references provided by the customer, such as banks and other suppliers.

(d) provide the customer a lengthy payment period to increase the chance of paying.

(LO 4)

17. Eddy Corporation had net credit sales during the year of $800,000 and cost of goods sold of $500,000. The balance in receivables at the beginning of the year was $100,000 and at the end of the year was $150,000. What was the accounts receivable turnover and average collection period in days?

(a) 4.0 and 91.3 days.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 47/84

(b) 5.3 and 68.9 days.

(c) 6.4 and 57 days.

(d) 8.0 and 45.6 days.

(LO 4)

18. Prall Corporation sells its goods on terms of 2/10, n/30. It has an accounts receivable turnover of 7. What is its average collection period (days)?

(a) 2,555

(b) 30

(c) 52

(d) 210

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 48/84

SOLUTIONS

1. (c) A note receivable represent claims for which formal instruments of credit are issued as evidence of the debt. The note normally requires the payment of the principal and interest on a speci�ic date. Choices (a) account receivable, (b) trade receivable, and (d) classi�ied receivable rarely require the payment of interest if paid within a 30-day period.

2. (d) Receivables are frequently classi�ied as accounts receivable, notes receivable, and other receivables. The other choices are incorrect because receivables are not frequently classi�ied as (a) company receivables, (b) employee receivables, or (c) general receivables.

3. (c) Because payment is made within the discount period of 10 days, the amount received is $700 ($1,000−$300 return) minus the discount of $14 ($700×2%), for a cash amount of $686, not (a) $700 or (b) $680. Choice (d) is wrong as there is a correct answer.

4. (a) Accounts and notes receivable are reported in the current assets section of the balance sheet at cash (net) realizable value, not (b) net book value, (c) lower-of-cost-or-market value, or (d) invoice cost.

5. (a) The ending balance required in the allowance account is 7.5%×$160,000, or $12,000. Since there is already a balance of $5,000 in Allowance for Doubtful Accounts, the difference of $7,000 should be added, resulting in a balance of $12,000, not (b) $7,000, (c) $17,000, or (d) $31,000.

6. (c) After the write-offs are recorded, Allowance for Doubtful Accounts will have a debit balance of $12,000 ($18,000 credit beginning balance combined with a $30,000 debit for the write-offs). The desired balance, using the percentage-of-receivables basis, is a credit balance of $20,000 ($200,000×10%). In order to have an ending balance of $20,000, the required adjustment to Allowance for Doubtful Accounts is $32,000, not (a) $20,000, (b) $75,000, or (d) $30,000.

7. (d) The cash realizable value of the accounts receivable is Accounts Receivable ($800,000) less the expected ending balance in Allowance for Doubtful Accounts after adjustments ($65,000)=$735,000, not (a) $685,000, (b) $750,000, or (c) $800,000.

8. (c) There is no wait for payment. The retailer receives payment at the time the credit card is accepted from the customer. The other choices are true statements.

9. (a) The entry includes a credit to Sales Revenue for $50,000, a $48,000 debit to Cash, and a debit to Service Charge Expense for $2,000. The other choices are therefore incorrect.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 49/84

10. (d) Writing off receivables will result in a company failing to collect any money. Instead, choices (a) offering discounts for early payment, (b) accepting national credit cards for customer purchases, and (c) selling receivables to a factor will all allow a company to accelerate its cash receipts.

11. (b) By crediting Allowance for Doubtful Accounts for $55,000, the new balance will be the required balance of $60,000. This adjusting entry debits Bad Debt Expense for $55,000 and credits Allowance for Doubtful Accounts for $55,000, not (a) $5,000, (c) $60,000, or (d) $65,000.

12. (d) By crediting Allowance for Doubtful Accounts for $65,000, the new balance will be the required balance of $60,000. This adjusting entry debits Bad Debt Expense for $65,000 and credits Allowance for Doubtful Accounts for $65,000, not (a) $5,000, (b) $55,000, or (c) $60,000.

13. (c) Promissory notes are negotiable instruments, meaning if sold, the seller can transfer to another party by endorsement. The other choices are true statements.

14. (b) On the date Michael accepts the note, Notes Receivable is debited for $1,000 and Accounts Receivable is credited for $1,000. Interest is accrued only with the passage of time. The other choices are therefore incorrect.

15. (d) When Schleis receives payment, it will increase cash, reduce the notes receivable account, and recognize interest earned for the term of the note. Interest=$10,000×9%×120/360=$300. Total cash received=$10,000+$300=$10,300. The other choices are therefore incorrect.

16. (d) A longer payment period will increase the chances the customer will not pay. The other choices are incorrect as companies might require risky customers to (a) pay cash in advance, (b) provide letters of credit or bank guarantees, or (c) ask for references from banks and suppliers to determine their payment history.

17. (c) Accounts receivable turnover=Net credit sales($800,000)÷Average net accounts receivable[($100,000+$150,000)/2]=6.4. The average collection period in days=(365÷6.4)=57 days. The other choices are therefore incorrect.

18. (c) Average collection period=Number of days in the year(365)÷Accounts receivable turnover(7)=52 days, not (a) 2.555, (b) 30, or (d) 210.

PRACTICE EXERCISES

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 50/84

Journalize entries to record allowance for doubtful accounts using two different bases.

(LO 2)

1. The ledger of J.C. Cobb Company at the end of the current year shows Accounts Receivable $150,000, Sales Revenue $850,000, and Sales Returns and Allowances $30,000.

INSTRUCTIONS (a) If J.C. Cobb uses the direct write-off method to account for uncollectible accounts,

journalize the adjusting entry at December 31, assuming J.C. Cobb determines that M. Jack's $1,500 balance is uncollectible.

(b) If Allowance for Doubtful Accounts has a credit balance of $2,400 in the trial balance, journalize the adjusting entry at December 31, assuming bad debts are expected to be 10% of accounts receivable.

(c) If Allowance for Doubtful Accounts has a debit balance of $200 in the trial balance, journalize the adjusting entry at December 31, assuming bad debts are expected to be 6% of accounts receivable.

Journalize entries for notes receivable transactions.

(LO 3)

2. Troope Supply Co. has the following transactions related to notes receivable during the last 3 months of 2017.

Oct.   1

Loaned $16,000 cash to Juan Vasquez on a 1-year, 10% note.

Dec.  11

Sold goods to A. Palmer, Inc., receiving a $6,750, 90-day, 8% note.

16 Received a $6,400, 6-month, 9% note in exchange for J. Nicholas's outstanding accounts receivable.

31 Accrued interest revenue on all notes receivable.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 51/84

INSTRUCTIONS (a) Journalize the transactions for Troope Supply Co.

(b) Record the collection of the Vasquez note at its maturity in 2018.

PRACTICE PROBLEM

Prepare entries for various receivables transactions.

(LO 1, 2, 3)

Presented here are selected transactions related to B. Dylan Corp.

Mar. 1 Sold $20,000 of merchandise to Potter Company, terms 2/10, n/30. 11 Received payment in full from Potter Company for balance due on existing

accounts receivable. 12 Accepted Juno Company's $20,000, 6-month, 12% note for balance due on

outstanding account receivable. 13 Made B. Dylan Corp. credit card sales for $13,200. 15 Made Visa credit sales totaling $6,700. A 5% service fee is charged by Visa. Apr.  11

Sold accounts receivable of $8,000 to Harcot Factor. Harcot Factor assesses a service charge of 2% of the amount of receivables sold.

13 Received collections of $8,200 on B. Dylan Corp. credit card sales. May  10

Wrote off as uncollectible $16,000 of accounts receivable. (B. Dylan Corp. uses the percentage-of-receivables basis to estimate bad debts.)

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 52/84

June   30

The balance in accounts receivable at the end of the �irst 6 months is $200,000. The company estimates that 10% of accounts receivable will become uncollectible. At June 30, the credit balance in the allowance account prior to adjustment is $3,500. Recorded bad debt expense.

July   16

One of the accounts receivable written off in May pays the amount due, $4,000, in full.

INSTRUCTIONS

Prepare the journal entries for the transactions. (Omit cost of goods sold entries.)

WileyPLUS Brief Exercises, DO IT! Exercises, Exercises, Problems, and many additional resources are available for practice in WileyPLUS.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 53/84

QUESTIONS 1. What is the difference between an account receivable and a note receivable?

2. What are some common types of receivables other than accounts receivable or notes receivable?

3. What are the essential features of the allowance method of accounting for bad debts?

4. Lance Morrow cannot understand why the cash realizable value does not decrease when an uncollectible account is written off under the allowance method. Clarify this point for Lance.

5. Sarasota Company has a credit balance of $2,200 in Allowance for Doubtful Accounts before adjustment. The estimated uncollectibles under the percentage-of-receivables basis is $5,100. Prepare the adjusting entry.

6. What types of receivables does Apple report on its balance sheet? Does it use the allowance method or the direct write-off method to account for uncollectibles?

7. How are bad debts accounted for under the direct write-off method? What are the disadvantages of this method?

8. Tawnya Dobbs, the vice president of sales for Tropical Pools and Spas, wants the company's credit department to be less restrictive in granting credit. “How can we sell anything when you guys won't approve anybody?” she asks. Discuss the pros and cons of “easy credit.” What are the accounting implications?

9. JCPenney Company accepts both its own credit cards and national credit cards. What are the advantages of accepting both types of cards?

10. An article in the Wall Street Journal indicated that companies are selling their receivables at a record rate. Why do companies sell their receivables?

11. Calico Corners decides to sell $400,000 of its accounts receivable to Fast Cash Factors Inc. Fast Cash Factors assesses a service charge of 3% of the amount of receivables sold. Prepare the journal entry that Calico Corners makes to record this sale.

12. Your roommate is uncertain about the advantages of a promissory note. Compare the advantages of a note receivable with those of an account receivable.

13. How may the maturity date of a promissory note be stated?

14. Compute the missing amounts for each of the following notes.

Principal Annual Interest Rate Time Total Interest

(a)  6% 60 days $  270

$30,000  8% 3 years (d)

$60,000 (b)  5 months $2,500

$50,000 11% (c) $2,750

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 54/84

15. Mendosa Company dishonors a note at maturity. What are the options available to the lender?

16. General Motors Company has accounts receivable and notes receivable. How should the receivables be reported on the balance sheet?

17. What are the steps to good receivables management?

18. How might a company monitor the risk related to its accounts receivable?

19. What is meant by a concentration of credit risk?

20. The president of Ericson Inc. proudly announces her company's improved liquidity since its current ratio has increased substantially from one year to the next. Does an increase in the current ratio always indicate improved liquidity? What other ratio or ratios might you review to determine whether or not the increase in the current ratio is an improvement in �inancial health?

21. Since hiring a new sales director, Tilton Inc. has enjoyed a 50% increase in sales. The CEO has also noticed, however, that the company's average collection period has increased from 17 days to 38 days. What might be the cause of this increase? What are the implications to management of this increase?

22. The Coca-Cola Company's accounts receivable turnover was 9.05 in 2014, and its average amount of net receivables during the period was $3,424 million. What is the amount of its net credit sales for the period? What is the average collection period in days?

23. Douglas Corp. has experienced tremendous sales growth this year, but it is always short of cash. What is one explanation for this occurrence?

24. How can the amount of collections from customers be determined?

BRIEF EXERCISES

Identify different types of receivables.

(LO 1), C

BE8-1 Presented below are three receivables transactions. Indicate whether these receivables are reported as accounts receivable, notes receivable, or other receivables on a balance sheet.

(a) Advanced $10,000 to an employee.

(b) Received a promissory note of $34,000 for services performed.

(c) Sold merchandise on account for $60,000 to a customer.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 55/84

Record basic accounts receivable transactions.

(LO 1), AP

BE8-2 Record the following transactions on the books of Jarvis Co. (Omit cost of goods sold entries.)

(a) On July 1, Jarvis Co. sold merchandise on account to Stacey Inc. for $23,000, terms 2/10, n/30.

(b) On July 8, Stacey Inc. returned merchandise worth $2,400 to Jarvis Co.

(c) On July 11, Stacey Inc. paid for the merchandise.

Prepare entry for write-off, and determine cash realizable value.

(LO 2), AP

BE8-3 At the end of 2016, Safer Co. has accounts receivable of $700,000 and an allowance for doubtful accounts of $25,000. On January 24, 2017, it is learned that the company's receivable from Madonna Inc. is not collectible and therefore management authorizes a write-off of $4,300.

(a) Prepare the journal entry to record the write-off.

(b) What is the cash realizable value of the accounts receivable (1) before the write-off and (2) after the write-off?

Prepare entries for collection of bad debt write-off.

(LO 2), AP

BE8-4 Assume the same information as BE8-3 and that on March 4, 2017, Safer Co. receives payment of $4,300 in full from Madonna Inc. Prepare the journal entries to record this transaction.

Prepare entry using percentage-of-receivables method.

(LO 2), AP

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 56/84

BE8-5 Byrd Co. uses the percentage-of-receivables basis to record bad debt expense and concludes that 2% of accounts receivable will become uncollectible. Accounts receivable are $400,000 at the end of the year, and the allowance for doubtful accounts has a credit balance of $2,800.

(a) Prepare the adjusting journal entry to record bad debt expense for the year.

(b) If the allowance for doubtful accounts had a debit balance of $900 instead of a credit balance of $2,800, prepare the adjusting journal entry for bad debt expense.

Prepare entries for credit card sale and sale of accounts receivable.

(LO 2), AP

BE8-6 Consider these transactions:

(a) Tastee Restaurant accepted a Visa card in payment of a $200 lunch bill. The bank charges a 3% fee. What entry should Tastee make?

(b) Martin Company sold its accounts receivable of $65,000. What entry should Martin make, given a service charge of 3% on the amount of receivables sold?

Compute interest and determine maturity dates on notes.

(LO 3), AP

BE8-7 Compute interest and �ind the maturity date for the following notes.

Determine maturity dates and compute interest and rates on notes.

(LO 3), AP

BE8-8 Presented below are data on three promissory notes. Determine the missing amounts.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 57/84

Prepare entry for note receivable exchanged for accounts receivable.

(LO 3), AP

BE8-9 On January 10, 2017, Masterson Co. sold merchandise on account to Tompkins for $8,000, terms n/30. On February 9, Tompkins gave Masterson Co. a 7% promissory note in settlement of this account. Prepare the journal entry to record the sale and the settlement of the accounts receivable. (Omit cost of goods sold entries.)

Prepare entry for estimated uncollectibles and classi�i cations, and compute ratios.

(LO 2, 4), AP

BE8-10 During its �irst year of operations, Fertig Company had credit sales of $3,000,000, of which $400,000 remained uncollected at year-end. The credit manager estimates that $18,000 of these receivables will become uncollectible.

(a) Prepare the journal entry to record the estimated uncollectibles. (Assume an unadjusted balance of zero in Allowance for Doubtful Accounts.)

(b) Prepare the current assets section of the balance sheet for Fertig Company, assuming that in addition to the receivables it has cash of $90,000, merchandise inventory of $180,000, and supplies of $13,000.

(c) Calculate the accounts receivable turnover and average collection period. Assume that average net accounts receivable were $300,000. Explain what these measures tell us.

Analyze accounts receivable.

(LO 4), AP

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 58/84

BE8-11 Suppose the 2017 �inancial statements of 3M Company report net sales of $23.1 billion. Accounts receivable (net) are $3.2 billion at the beginning of the year and $3.25 billion at the end of the year. Compute 3M's accounts receivable turnover. Compute 3M's average collection period for accounts receivable in days.

Determine cash collections.

(LO 4), AP

BE8-12 Kennewick Corp. had a beginning balance in accounts receivable of $70,000 and an ending balance of $91,000. Credit sales during the period were $598,000. Determine cash collections.

DO IT! EXERCISES

Prepare entries to recognize accounts receivable.

(LO 1), AP

DO IT! 8-1 On March 1, Lincoln sold merchandise on account to Amelia Company for $28,000, terms 1/10, net 45. On March 6, Amelia returns merchandise with a sales price of $1,000. On March 11, Lincoln receives payment from Amelia for the balance due. Prepare journal entries to record the March transactions on Lincoln's books. (You may ignore cost of goods sold entries and explanations.)

Prepare entry for uncollectible accounts.

(LO 2), AP

DO IT! 8-2a Mantle Company has been in business several years. At the end of the current year, the unadjusted trial balance shows:

Accounts Receivable $   310,000 Dr. Sales Revenue 2,200,000 Cr. Allowance for Doubtful Accounts 5,700 Cr.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 59/84

Bad debts are estimated to be 7% of receivables. Prepare the entry to adjust Allowance for Doubtful Accounts.

Prepare entry for factored accounts.

(LO 2), AP

DO IT! 8-2b Neumann Distributors is a growing company whose ability to raise capital has not been growing as quickly as its expanding assets and sales. Neumann's local banker has indicated that the company cannot increase its borrowing for the foreseeable future. Neumann's suppliers are demanding payment for goods acquired within 30 days of the invoice date, but Neumann's customers are slow in paying for their purchases (60–90 days). As a result, Neumann has a cash �low problem.

Neumann needs $160,000 to cover next Friday's payroll. Its balance of outstanding accounts receivable totals $800,000. To alleviate this cash crunch, the company sells $170,000 of its receivables. Record the entry that Neumann would make. (Assume a 2% service charge.)

Prepare entries for notes receivable.

(LO 3), AP

DO IT! 8-3 Buffet Wholesalers accepts from Gates Stores a $6,200, 4-month, 9% note dated May 31 in settlement of Gates' overdue account. The maturity date of the note is September 30. What entry does Buffet make at the maturity date, assuming Gates pays the note and interest in full at that time?

Compute ratios for receivables.

(LO 4), AP

DO IT! 8-4 In 2017, Bismark Company has net credit sales of $1,600,000 for the year. It had a beginning accounts receivable (net) balance of $108,000 and an ending accounts receivable (net) balance of $120,000. Compute Bismark Company's (a) accounts receivable turnover and (b) average collection period in days.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 60/84

EXERCISES

Prepare entries for recognizing accounts receivable.

(LO 1), AP

E8-1 On January 6, Jacob Co. sells merchandise on account to Harley Inc. for $9,200, terms 1/10, n/30. On January 16, Harley pays the amount due.

Instructions

Prepare the entries on Jacob Co.'s books to record the sale and related collection. (Omit cost of goods sold entries.)

Prepare entries for recognizing accounts receivable.

(LO 1), AP

E8-2 On January 10, Molly Amise uses her Lawton Co. credit card to purchase merchandise from Lawton Co. for $1,700. On February 10, Molly is billed for the amount due of $1,700. On February 12, Molly pays $1,100 on the balance due. On March 10, Molly is billed for the amount due, including interest at 1% per month on the unpaid balance as of February 12.

Instructions

Prepare the entries on Lawton Co.'s books related to the transactions that occurred on January 10, February 12, and March 10. (Omit cost of goods sold entries.)

Journalize receivables transactions.

(LO 1, 2), AP

E8-3 At the beginning of the current period, Rose Corp. had balances in Accounts Receivable of $200,000 and in Allowance for Doubtful Accounts of $9,000 (credit). During the period, it had net credit sales of $800,000 and collections of $763,000. It wrote off as uncollectible accounts receivable of $7,300. However, a $3,100 account previously written off as uncollectible was recovered before the end of the current period. Uncollectible accounts are estimated to total $25,000 at the end of the period. (Omit cost of goods sold entries.)

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 61/84

Instructions (a) Prepare the entries to record sales and collections during the period.

(b) Prepare the entry to record the write-off of uncollectible accounts during the period.

(c) Prepare the entries to record the recovery of the uncollectible account during the period.

(d) Prepare the entry to record bad debt expense for the period.

(e) Determine the ending balances in Accounts Receivable and Allowance for Doubtful Accounts.

(f) What is the net realizable value of the receivables at the end of the period?

Prepare entries to record allowance for doubtful accounts.

(LO 2), AP

E8-4 The ledger of Macarty Company at the end of the current year shows Accounts Receivable $78,000, Credit Sales $810,000, and Sales Returns and Allowances $40,000.

Instructions (a) If Macarty uses the direct write-off method to account for uncollectible accounts, journalize the

adjusting entry at December 31, assuming Macarty determines that Matisse's $900 balance is uncollectible.

(b) If Allowance for Doubtful Accounts has a credit balance of $1,100 in the trial balance, journalize the adjusting entry at December 31, assuming bad debts are expected to be 10% of accounts receivable.

(c) If Allowance for Doubtful Accounts has a debit balance of $500 in the trial balance, journalize the adjusting entry at December 31, assuming bad debts are expected to be 8% of accounts receivable.

Determine bad debt expense, and prepare the adjusting entry.

(LO 2), AP

E8-5 Godfreid Company has accounts receivable of $95,400 at March 31, 2017. Credit terms are 2/10, n/30. At March 31, 2017, there is a $2,100 credit balance in Allowance for Doubtful Accounts prior to adjustment. The company uses the percentage-of-receivables basis for estimating uncollectible accounts. The company's estimates of bad debts are as shown below.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 62/84

Instructions (a) Determine the total estimated uncollectibles.

(b) Prepare the adjusting entry at March 31, 2017, to record bad debt expense.

(c) Discuss the implications of the changes in the aging schedule from 2016 to 2017.

Prepare entry for estimated uncollectibles, write-off, and recovery.

(LO 2), AP

E8-6 On December 31, 2016, when its Allowance for Doubtful Accounts had a debit balance of $1,400, Dallas Co. estimates that 9% of its accounts receivable balance of $90,000 will become uncollectible and records the necessary adjustment to Allowance for Doubtful Accounts. On May 11, 2017, Dallas Co. determined that B. Jared's account was uncollectible and wrote off $1,200. On June 12, 2017, Jared paid the amount previously written off.

Instructions

Prepare the journal entries on December 31, 2016, May 11, 2017, and June 12, 2017.

Prepare entry for sale of accounts receivable.

(LO 2), AP

E8-7 On March 3, Plume Appliances sells $710,000 of its receivables to Western Factors Inc. Western Factors Inc. assesses a service charge of 4% of the amount of receivables sold.

Instructions

Prepare the entry on Plume Appliances' books to record the sale of the receivables.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 63/84

Prepare entry for credit card sale.

(LO 2), AP

E8-8 On May 10, Keene Company sold merchandise for $4,000 and accepted the customer's Best Business Bank MasterCard. At the end of the day, the Best Business Bank MasterCard receipts were deposited in the company's bank account. Best Business Bank charges a 3.8% service charge for credit card sales.

Instructions

Prepare the entry on Keene Company's books to record the sale of merchandise.

Prepare entry for credit card sale.

(LO 2), AP

E8-9 On July 4, Mazie's Restaurant accepts a Visa card for a $250 dinner bill. Visa charges a 4% service fee.

Instructions

Prepare the entry on Mazie's books related to the transaction.

Prepare entries for notes receivable transactions.

(LO 3), AP

E8-10 Moses Supply Co. has the following transactions related to notes receivable during the last 2 months of the year. The company does not make entries to accrue interest except at December 31.

Nov. 1 Loaned $60,000 cash to C. Bohr on a 12-month, 7% note. Dec. 11 Sold goods to K. R. Pine, Inc., receiving a $3,600, 90-day, 8% note. 16 Received a $12,000, 180-day, 9% note to settle an open account from A. Murdock. 31 Accrued interest revenue on all notes receivable.

Instructions

Journalize the transactions for Moses Supply Co. (Omit cost of goods sold entries.)

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 64/84

Journalize notes receivable transactions.

(LO 3), AP

E8-11 These transactions took place for Bramson Co.

2016 May  1

Received a $5,000, 12-month, 6% note in exchange for an outstanding account receivable from R. Stoney.

Dec. 31

Accrued interest revenue on the R. Stoney note.

2017 May  1

Received principal plus interest on the R. Stoney note. (No interest has been accrued since December 31, 2016.)

Instructions

Record the transactions in the general journal. The company does not make entries to accrue interest except at December 31.

Prepare a balance sheet presentation of receivables.

(LO 4), AP

E8-12 Eileen Corp. had the following balances in receivable accounts at October 31, 2017 (in thousands): Allowance for Doubtful Accounts $52, Accounts Receivable $2,910, Other Receivables $189, and Notes Receivable $1,353.

Instructions

Prepare the balance sheet presentation of Eileen Corp.'s receivables in good form.

Identify the principles of receivables management.

(LO 4), K

E8-13 The following is a list of activities that companies perform in relation to their receivables.

1. Selling receivables to a factor.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 65/84

2. Reviewing company ratings in The Dun and Bradstreet Reference Book of American Business.

3. Collecting information on competitors' payment period policies.

4. Preparing monthly accounts receivable aging schedule and investigating problem accounts.

5. Calculating the accounts receivable turnover and average collection period.

Instructions

Match each of the activities listed above with a purpose of the activity listed below.

(a) Determine to whom to extend credit.

(b) Establish a payment period.

(c) Monitor collections.

(d) Evaluate the liquidity of receivables.

(e) Accelerate cash receipts from receivable when necessary.

Compute ratios to evaluate a company's receivables balance.

(LO 4), AN

E8-14 Suppose the following information was taken from the 2017 �inancial statements of FedEx Corporation, a major global transportation/delivery company.

(in millions) 2017 2016 Accounts receivable (gross) $ 3,587 $ 4,517 Accounts receivable (net) 3,391 4,359 Allowance for doubtful accounts 196 158 Sales revenue 35,497 37,953 Total current assets 7,116 7,244

Instructions

Answer each of the following questions.

(a) Calculate the accounts receivable turnover and the average collection period for 2017 for FedEx.

(b) Is accounts receivable a material component of the company's total current assets?

(c) Evaluate the balance in FedEx's allowance for doubtful accounts.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 66/84

Evaluate liquidity.

(LO 4), AN

E8-15 The following ratios are available for Ming Inc.

2017 2016 Current ratio 1.3:1 1.5:1 Accounts receivable turnover 12 times 10 times Inventory turnover 11 times 9 times

Instructions (a) Is Ming's short-term liquidity improving or deteriorating in 2017? Be speci�ic in your answer, referring

to relevant ratios.

(b) Do changes in turnover ratios affect pro�itability? Explain.

(c) Identify any steps Ming might have taken, or might wish to take, to improve its management of its accounts receivable and inventory turnovers.

Identify reason for sale of receivables.

(LO 4), C

E8-16 In a recent annual report, Of�ice Depot, Inc. notes that the company entered into an agreement to sell all of its credit card program receivables to �inancial service companies.

Instructions

Explain why Of�ice Depot, a �inancially stable company with positive cash �low, would choose to sell its receivables.

Determine cash �lows and evaluate quality of earnings.

(LO 4), AN

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 67/84

E8-17 Bailey Corp. signi�icantly reduced its requirements for credit sales. As a result, sales during the current year increased dramatically. It had receivables at the beginning of the year of $38,000 and ending receivables of $191,000. Credit sales were $380,000.

Instructions (a) Determine cash collections during the period.

(b) Discuss how your �indings in part (a) would affect Bailey Corp.'s quality of earnings ratio. (Do not compute.)

(c) What concerns might you have regarding Bailey's accounting?

EXERCISES: SET B AND CHALLENGE EXERCISES Visit the book's companion website, at www.wiley.com/college/kimmel (http://www.wiley.com/college/kimmel) , and choose the Student Companion site to access Exercises: Set B and Challenge Exercises.

PROBLEMS: SET A

Journalize transactions related to bad debts.

(LO 2), AP

P8-1A Rianna.com uses the allowance method of accounting for bad debts. The company produced the following aging of the accounts receivable at year-end.

Instructions (a) Calculate the total estimated bad debts based on the above information.

(b) Prepare the year-end adjusting journal entry to record the bad debts using the aged uncollectible accounts receivable determined in (a). Assume the unadjusted balance in Allowance for Doubtful Accounts is a $4,000 debit.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 68/84

(c) Of the above accounts, $5,000 is determined to be speci�ically uncollectible. Prepare the journal entry to write off the uncollectible account.

(d) The company collects $5,000 subsequently on a speci�ic account that had previously been determined to be uncollectible in (c). Prepare the journal entry(ies) necessary to restore the account and record the cash collection.

(e) Comment on how your answers to (a)–(d) would change if Rianna.com used 3% of total accounts receivable, rather than aging the accounts receivable. What are the advantages to the company of aging the accounts receivable rather than applying a percentage to total accounts receivable?

(a) Tot est. bad debts $10,120

Prepare journal entries related to bad debt expense, and compute ratios.

(LO 2, 4), AP

P8-2A At December 31, 2016, Suisse Imports reported this information on its balance sheet.

Accounts receivable $600,000 Less: Allowance for doubtful accounts 37,000

During 2017, the company had the following transactions related to receivables.

1. Sales on account $2,500,000 2. Sales returns and allowances 50,000 3. Collections of accounts receivable 2,200,000 4. Write-offs of accounts receivable deemed uncollectible 41,000 5. Recovery of bad debts previously written off as uncollectible 15,000

Instructions (a) Prepare the journal entries to record each of these �ive transactions. Assume that no cash discounts

were taken on the collections of accounts receivable. (Omit cost of goods sold entries.)

(b) Enter the January 1, 2017, balances in Accounts Receivable and Allowance for Doubtful Accounts, post the entries to the two accounts (use T-accounts), and determine the balances.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 69/84

(c) Prepare the journal entry to record bad debt expense for 2017, assuming that aging the accounts receivable indicates that estimated bad debts are $46,000.

(d) Compute the accounts receivable turnover and average collection period.

(b) A/R bal. $809,000

Journalize transactions related to bad debts.

(LO 2), AP

P8-3A Presented below is an aging schedule for Bryan Company.

At December 31, 2016, the unadjusted balance in Allowance for Doubtful Accounts is a credit of $8,000.

Instructions (a) Journalize and post the adjusting entry for bad debts at December 31, 2016. (Use T-accounts.)

(b) Journalize and post to the allowance account these 2017 events and transactions:

1. March 1, a $600 customer balance originating in 2016 is judged uncollectible.

2. May 1, a check for $600 is received from the customer whose account was written off as uncollectible on March 1.

(c) Journalize the adjusting entry for bad debts at December 31, 2017, assuming that the unadjusted balance in Allowance for Doubtful Accounts is a debit of $1,400 and the aging schedule indicates that

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 70/84

total estimated bad debts will be $36,700.

Compute bad debt amounts.

(LO 2), AP

P8-4A Here is information related to Morgane Company for 2017.

Total credit sales $1,500,000 Accounts receivable at December 31 840,000 Bad debts written off 37,000

Instructions (a) What amount of bad debt expense will Morgane Company report if it uses the direct write-off method

of accounting for bad debts?

(b) Assume that Morgane Company decides to estimate its bad debt expense based on 4% of accounts receivable. What amount of bad debt expense will the company record if Allowance for Doubtful Accounts has a credit balance of $3,000?

(c) Assume the same facts as in part (b), except that there is a $1,000 debit balance in Allowance for Doubtful Accounts. What amount of bad debt expense will Morgane record?

(d) What is a weakness of the direct write-off method of reporting bad debt expense?

Journalize entries to record transactions related to bad debts.

(LO 2), AP

P8-5A At December 31, 2017, the trial balance of Malone Company contained the following amounts before adjustment.

Debit Credit Accounts Receivable $180,000 Allowance for Doubtful Accounts $  1,500 Sales Revenue 875,000

Instructions (a) Prepare the adjusting entry at December 31, 2017, to record bad debt expense, assuming that the

aging schedule indicates that $10,200 of accounts receivable will be uncollectible.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 71/84

(b) Repeat part (a), assuming that instead of a credit balance there is a $1,500 debit balance in Allowance for Doubtful Accounts.

(c) During the next month, January 2018, a $2,100 account receivable is written off as uncollectible. Prepare the journal entry to record the write-off.

(d) Repeat part (c), assuming that Malone Company uses the direct write-off method instead of the allowance method in accounting for uncollectible accounts receivable.

(e) What are the advantages of using the allowance method in accounting for uncollectible accounts as compared to the direct write-off method?

Journalize various receivables transactions.

(LO 1, 3), AP

P8-6A On January 1, 2017, Harvee Company had Accounts Receivable of $54,200 and Allowance for Doubtful Accounts of $3,700. Harvee Company prepares �inancial statements annually. During the year, the following selected transactions occurred.

Jan.    5 

Sold $4,000 of merchandise to Rian Company, terms n/30.

Feb.    2 

Accepted a $4,000, 4-month, 9% promissory note from Rian Company for balance due.

       12 

Sold $12,000 of merchandise to Cato Company and accepted Cato's $12,000, 2-month, 10% note for the balance due.

       26 

Sold $5,200 of merchandise to Malcolm Co., terms n/10.

Apr.    5 

Accepted a $5,200, 3-month, 8% note from Malcolm Co. for balance due.

       12 

Collected Cato Company note in full.

June    2 

Collected Rian Company note in full.

       15 

Sold $2,000 of merchandise to Gerri Inc. and accepted a $2,000, 6-month, 12% note for the amount due.

Instructions

Journalize the transactions. (Omit cost of goods sold entries.)

Explain the impact of transactions on ratios.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 72/84

(LO 4), C

P8-7A The president of Mossy Enterprises asks if you could indicate the impact certain transactions have on the following ratios.

Instructions

Complete the table, indicating whether each transaction will increase (I), decrease (D), or have no effect (NE) on the speci�ic ratios provided for Mossy Enterprises.

Prepare entries for various credit card and notes receivable transactions.

(LO 2, 3, 4), AP

P8-8A Milton Company closes its books on its July 31 year-end. The company does not make entries to accrue for interest except at its year-end. On June 30, the Notes Receivable account balance is $23,800. Notes Receivable include the following.

During July, the following transactions were completed.

July  5  Made sales of $4,500 on Milton credit cards.      14  Made sales of $600 on Visa credit cards. The credit card service charge is 3%.      20  Received payment in full from Coote Inc. on the amount due.      24  Received payment in full from Brady Co. on the amount due.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 73/84

Instructions (a) Journalize the July transactions and the July 31 adjusting entry for accrued interest receivable.

(Interest is computed using 360 days; omit cost of goods sold entries.)

(b) Enter the balances at July 1 in the receivable accounts and post the entries to all of the receivable accounts. (Use T-accounts.)

(c) Show the balance sheet presentation of the receivable accounts at July 31.

(b) A/R bal. $ 4,500 (c) Tot. receivables $14,550

Calculate and interpret various ratios.

(LO 4), AN

P8-9A Suppose the amounts presented here are basic �inancial information (in millions) from the 2017 annual reports of Nike and adidas.

Nike adidas Sales revenue $19,176.1 $10,381 Allowance for doubtful accounts, beginning 78.4 119 Allowance for doubtful accounts, ending 110.8 124 Accounts receivable balance (gross), beginning 2,873.7 1,743 Accounts receivable balance (gross), ending 2,994.7 1,553

Instructions

Calculate the accounts receivable turnover and average collection period for both companies. Comment on the difference in their collection experiences.

PROBLEMS: SET B AND SET C Visit the book's companion website, at www.wiley.com/college/kimmel (http://www.wiley.com/college/kimmel) , and choose the Student Companion site to access Problems: Set B and Set C.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 74/84

CONTINUING PROBLEM Cookie Creations

(Note: This is a continuation of the Cookie Creations problem from Chapters 1 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch01#ch01) through 7 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch07#ch07) .)

CC8 One of Natalie's friends, Curtis Lesperance, runs a coffee shop where he sells specialty coffees and prepares and sells muf�ins and cookies. He is eager to buy one of Natalie's �ine European mixers, which would enable him to make larger batches of muf�ins and cookies. However, Curtis cannot afford to pay for the mixer for at least 30 days. He asks Natalie if she would be willing to sell him the mixer on credit. Natalie comes to you for advice.

Go to the book's companion website, www.wiley.com/college/kimmel (http://www.wiley.com/college/kimmel) , to see the completion of this problem.

ACR8 COMPREHENSIVE ACCOUNTING CYCLE | REVIEW Hudson Corporation's balance sheet at December 31, 2016, is presented below.

During January 2017, the following transactions occurred. Hudson uses the perpetual inventory method.

Jan.    1

Hudson accepted a 4-month, 8% note from Betheny Company in payment of Betheny's $1,200 account.

3 Hudson wrote off as uncollectible the accounts of Walter Corporation ($450) and Drake Company ($280).

8 Hudson purchased $17,200 of inventory on account. 11 Hudson sold for $25,000 on account inventory that cost $17,500. 15 Hudson sold inventory that cost $700 to Jack Rice for $1,000. Rice charged this

amount on his Visa First Bank card. The service fee charged Hudson by First Bank is 3%.

17 Hudson collected $22,900 from customers on account. 21 Hudson paid $16,300 on accounts payable.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 75/84

24 Hudson received payment in full ($280) from Drake Company on the account written off on January 3.

27 Hudson purchased advertising supplies for $1,400 cash. 31 Hudson paid other operating expenses, $3,218.

Adjustment data:

1. Interest is recorded for the month on the note from January 1.

2. Bad debts are expected to be 6% of the January 31, 2017, accounts receivable.

3. A count of advertising supplies on January 31, 2017, reveals that $560 remains unused.

4. The income tax rate is 30%. (Hint: Prepare the income statement up to “Income before taxes” and multiply by 30% to compute the amount; round to whole dollars.)

Instructions

(You may want to set up T-accounts to determine ending balances.)

(a) Prepare journal entries for the transactions listed above and adjusting entries. (Include entries for cost of goods sold using the perpetual inventory system.)

(b) Prepare an adjusted trial balance at January 31, 2017.

(c) Prepare an income statement and a retained earnings statement for the month ending January 31, 2017, and a classi�ied balance sheet as of January 31, 2017.

EXPAND YOUR | CRITICAL THINKING Financial Reporting

FINANCIAL REPORTING PROBLEM: Apple Inc.

AN CT8-1 Refer to the �inancial statements of Apple Inc. in Appendix A (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/a01#a01) .

Instructions (a) Calculate the accounts receivable turnover and average collection period for 2014. (Assume

all sales were credit sales.)

(b) Did Apple have any potentially signi�icant credit risks in 2014?

(c) What conclusions can you draw from the information in parts (a) and (b)?

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 76/84

Financial Analysis

COMPARATIVE ANALYSIS PROBLEM: Columbia Sportswear Company vs. VF Corporation

AN CT8-2 The �inancial statements of Columbia Sportswear Company are presented in Appendix B (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/a02#a02) . Financial statements for VF Corporation are presented in Appendix C (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/a03#a03) .

Instructions (a) Based on the information contained in these �inancial statements, compute the following

2014 values for each company.

(1) Accounts receivable turnover. (For VF, use “Net sales.” Assume all sales were credit sales.)

(2) Average collection period for accounts receivable.

(b) What conclusions concerning the management of accounts receivable can be drawn from these data?

Financial Analysis

COMPARATIVE ANALYSIS PROBLEM: Amazon.com, Inc. vs. Wal-Mart

AN CT8-3 The �inancial statements of Amazon.com, Inc. are presented in Appendix D (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/a04#a04) . Financial statements of Wal-Mart Stores, Inc. are presented in Appendix E (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/a05#a05) .

Instructions (a) Based on the information contained in these �inancial statements, compute the following

values for each company for the most recent �iscal year.

(1) Accounts receivable turnover. (For Amazon.com, use “Net product sales.” Assume all sales were credit sales.)

(2) Average collection period for accounts receivable.

(b) What conclusions concerning the management of accounts receivable can be drawn from these data?

Financial Analysis

INTERPRETING FINANCIAL STATEMENTS

AN CT8-4 Suppose the information below is from the 2017 �inancial statements and accompanying notes of The Scotts Company, a major manufacturer of lawn-care products.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 77/84

Instructions

Answer each of the following questions.

(a) Calculate the accounts receivable turnover and average collection period for 2017 for the company.

(b) Is accounts receivable a material component of the company's total 2017 current assets?

(c) Scotts sells seasonal products. How might this affect the accuracy of your answer to part (a)?

(d) Evaluate the credit risk of Scotts' 2017 concentrated receivables.

(e) Comment on the informational value of Scotts' Note 19 on concentrations of credit risk.

REAL-WORLD FOCUS

E CT8-5 Purpose: To learn more about factoring from websites that provide factoring services.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 78/84

Address: www.ccapital.net (http://www.ccapital.net) , or go to www.wiley.com/college/kimmel (http://www.wiley.com/college/kimmel)

Instructions

Go to the website, click on Invoice Factoring, and answer the following questions.

(a) What are some of the bene�its of factoring?

(b) What is the range of the percentages of the typical discount rate?

(c) If a company factors its receivables, what percentage of the value of the receivables can it expect to receive from the factor in the form of cash, and how quickly will it receive the cash?

S CT8-6 The August 31, 2009, issue of the Wall Street Journal includes an article by Serena Ng and Cari Tuna entitled “Big Firms Are Quick to Collect, Slow to Pay.”

Instructions

Read the article and answer the following questions.

(a) How many days did InBev tell its suppliers that it was going to take to pay? How many days did it take previously?

(b) What steps did General Electric take to free up cash? How much cash did it free up?

(c) On average, how many days did companies with more than $5 billion take to pay suppliers, and how many days did they take to collect from their customers? How did this compare to companies with less than $500 million in sales?

(d) Are there any risks involved with being too tough in negotiating delayed payment terms with suppliers?

Financial Analysis Writing Group Project

DECISION-MAKING ACROSS THE ORGANIZATION

E CT8-7 Emilio and René Santos own Club Fandango. From its inception, Club Fandango has sold merchandise on either a cash or credit basis, but no credit cards have been accepted. During the past several months, the Santos have begun to question their credit-sales policies. First, they have lost some sales because of their refusal to accept credit cards. Second, representatives of two metropolitan banks have convinced them to accept their national credit cards. One bank, Business National Bank, has stated that (1) its credit card fee is 4% and (2) it pays the retailer 96 cents on each $1 of sales within 3 days of receiving the credit card billings.

E The Santos decide that they should determine the cost of carrying their own credit sales. From the accounting records of the past 3 years, they accumulate these data:

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 79/84

2017 2016 2015 2017 2016 2015 Net credit sales $500,000 $600,000 $400,000 Collection agency fees for slow-paying customers 2,900 2,600 1,600 Salary of part-time accounts receivable clerk 4,400 4,400 4,400

Credit and collection expenses as a percentage of net credit sales are as follows: uncollectible accounts 1.6%, billing and mailing costs .5%, and credit investigation fee on new customers .2%.

Emilio and René also determine that the average accounts receivable balance outstanding during the year is 5% of net credit sales. The Santos estimate that they could earn an average of 10% annually on cash invested in other business opportunities.

Instructions

With the class divided into groups, answer the following.

(a) Prepare a tabulation for each year showing total credit and collection expenses in dollars and as a percentage of net credit sales.

(b) Determine the net credit and collection expenses in dollars and as a percentage of sales after considering the revenue not earned from other investment opportunities. (Note: The income lost on the cash held by the bank for 3 days is considered to be immaterial.)

(c) Discuss both the �inancial and non�inancial factors that are relevant to the decision.

COMMUNICATION ACTIVITY

E CT8-8 Chien Corporation is a recently formed business selling the “World's Best Doormat.” The corporation is selling doormats faster than Chien can make them. It has been selling the product on a credit basis, telling customers to “pay when they can.” Oddly, even though sales are tremendous, the company is having trouble paying its bills.

Instructions

Write a memo to the president of Chien Corporation discussing these questions:

(a) What steps should be taken to improve the company's ability to pay its bills?

(b) What accounting steps should be taken to measure its success in improving collections and in recording its collection success?

(c) If the corporation is still unable to pay its bills, what additional steps can be taken with its receivables to ease its liquidity problems?

ETHICS CASE

E CT8-9 As its year-end approaches, it appears that Mendez Corporation's net income will increase 10% this year. The president of Mendez Corporation, nervous that the stockholders

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 80/84

might expect the company to sustain this 10% growth rate in net income in future years, suggests that the controller increase the allowance for doubtful accounts to 4% of receivables in order to lower this year's net income. The president thinks that the lower net income, which re�lects a 6% growth rate, will be a more sustainable rate of growth for Mendez Corporation in future years. The controller of Mendez Corporation believes that the company's yearly allowance for doubtful accounts should be 2% of receivables.

Instructions (a) Who are the stakeholders in this case?

(b) Does the president's request pose an ethical dilemma for the controller?

(c) Should the controller be concerned with Mendez Corporation's growth rate in estimating the allowance? Explain your answer.

ALL ABOUT YOU

E CT8-10 Credit card usage in the United States is substantial. Many startup companies use credit cards as a way to help meet short-term �inancial needs. The most common forms of debt for startups are use of credit cards and loans from relatives.

Suppose that you start up Fantastic Sandwich Shop. You invested your savings of $20,000 and borrowed $70,000 from your relatives. Although sales in the �irst few months are good, you see that you may not have suf�icient cash to pay expenses and maintain your inventory at acceptable levels, at least in the short term. You decide you may need to use one or more credit cards to fund the possible cash shortfall.

Instructions (a) Go to the Internet and �ind two sources that provide insight into how to compare credit card

terms.

(b) Develop a list, in descending order of importance, as to what features are most important to you in selecting a credit card for your business.

(c) Examine the features of your present credit card. (If you do not have a credit card, select a likely one online for this exercise.) Given your analysis above, what are the three major disadvantages of your present credit card?

FASB CODIFICATION ACTIVITY

AP CT8-11 If your school has a subscription to the FASB Codi�ication, go to http://aaahq.org/ascLogin.cfm (http://aaahq.org/ascLogin.cfm) to log in and prepare responses to the following.

(a) How are receivables de�ined in the Codi�ication?

(b) What are the conditions under which losses from uncollectible receivables (Bad Debt Expense) should be reported?

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 81/84

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 82/84

LEARNING OBJECTIVE 5

Compare the accounting for receivables under GAAP and IFRS. 

The basic accounting and reporting issues related to the recognition, measurement, and disposition of receivables are essentially the same between IFRS and GAAP.

KEY POINTS

Following are the key similarities and differences between GAAP and IFRS related to the accounting for receivables.

Similarities

The recording of receivables, recognition of sales returns and allowances and sales discounts, and the allowance method to record bad debts are the same between GAAP and IFRS.

Both IFRS and GAAP often use the term impairment to indicate that a receivable or a percentage of receivables may not be collected.

The FASB and IASB have worked to implement fair value measurement (the amount they currently could be sold for) for �inancial instruments, such as receivables. Both Boards have faced bitter opposition from various factions.

Differences

Although IFRS implies that receivables with different characteristics should be reported separately, there is no standard that mandates this segregation.

IFRS and GAAP differ in the criteria used to determine how to record a factoring transaction. IFRS uses a combination approach focused on risks and rewards and loss of control. GAAP uses loss of control as the primary criterion. In addition, IFRS permits partial derecognition of receivables; GAAP does not.

LOOKING TO THE FUTURE

The question of recording fair values for �inancial instruments will continue to be an important issue to resolve as the Boards work toward convergence. Both the IASB and the FASB have indicated that they

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 83/84

believe that �inancial statements would be more transparent and understandable if companies recorded and reported all �inancial instruments at fair value. That said, in IFRS 9, which was issued in 2009, the IASB created a split model, where some �inancial instruments are recorded at fair value, but other �inancial assets, such as loans and receivables, can be accounted for at amortized cost if certain criteria are met. Critics say that this can result in two companies with identical securities accounting for those securities in different ways. A proposal by the FASB would require that practically all equity instruments be reported at fair value, and that debt instruments may or may not be reported at fair value depending on whether certain criteria are met.

IFRS Practice IFRS SELF-TEST QUESTIONS

1. Which of the following statements is false? (a) Receivables include equity securities purchased by the company.

(b) Receivables include credit card receivables.

(c) Receivables include amounts owed by employees as a result of company loans to employees.

(d) Receivables include amounts resulting from transactions with customers.

2. In recording a factoring transaction: (a) IFRS focuses on loss of control.

(b) GAAP focuses on loss of control and risks and rewards.

(c) IFRS and GAAP allow partial derecognition.

(d) IFRS allows partial derecognition.

3. Under IFRS: (a) the entry to record estimated uncollected accounts is the same as GAAP.

(b) it is always acceptable to use the direct write-off method.

(c) all �inancial instruments are recorded at fair value.

(d) None of the above.

INTERNATIONAL FINANCIAL REPORTING PROBLEM: Louis Vuitton

IFRS8-1 The �inancial statements of Louis Vuitton are presented in Appendix F (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/a06#a06) . Instructions for accessing and using the company's complete annual report, including the notes to its �inancial statements, are also provided in Appendix F (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/a06#a06) .

Instructions

Use the company's annual report to answer the following questions.

4/16/2019 Print

https://content.ashford.edu/print/Kimmel.2745.17.1?sections=cover,ch08,ch08lo1,ch08lo2,ch08lo3,ch08lo4,ch08ifrs&content=all&clientToken=50fc3… 84/84

(a) What is the accounting policy related to accounting for trade accounts receivable?

(b) According to the notes to the �inancial statements, what accounted for the difference between gross trade accounts receivable and net accounts receivable?

(c) According to the notes to the �inancial statements, what was the major reason why the balance in receivables increased relative to the previous year?

(d) Using information in the notes to the �inancial statements, determine what percentage the provision for impairment of receivables was as a percentage of total trade receivables for 2014 and 2013. How did the ratio change from 2013 to 2014, and what does this suggest about the company's receivables?

Answers to IFRS Self-Test Questions

1. a 2. d 3. a

1 (http://content.thuzelearning.com/books/Kimmel.2745.17.1/sections/ch08lo4#c08-note-0031a) If seasonal factors are signi�icant, determine the average accounts receivable balance by using monthly or quarterly amounts.