Chapter 8

Question 1

What does receivable mean?

Answer 1

Claims that are expected to be collected in cash

Question 2

What are the two receivables under trade receivables?

Answer 2

(1) Accounts receivable

(2) Notes receivable

Question 3

What is accounts receivable?

Answer 3

Amounts owed by the customer from normal business transactions of selling goods or services on credit

Question 4

What is notes receivable?

Answer 4

Claims for which formal credit arrangements between a credtior and a debtor

Question 5

What are some other receivables (Non-trade receivables)

Answer 5

Interest receivable

loans to company officers

Question 6

What is a bad debt expense?

Answer 6

When customers are not expected to pay you, this is considered an expense for the company. It is like the company lost money

Question 7

How is AR stated?

Answer 7

At net realizable value. Meaning, you should record at the amounts you are entitled to receive LESS any expected amount that is uncollectible (AFDA). So net realizable value of AR is AR - allowance for doubtful accounts

Question 8

What will innfluence amount of uncollectibles?

Answer 8

(1) Customer credit (AFDA higher in poorer customers)
(2) Company’s credit policy (AFDA higher if you have generous lax credit policy)
(3) Market conditions (ADFA higher in cases of recession or crisis)

Question 9

What is AFDA

Answer 9

Uncollectible AR in estimation

Question 10

What was the creit card default rate for Target at the height of the credit crisis?

Answer 10

Approximately 10%

Question 11

Adjusting entries for estimation

Answer 11

December 2022 adjusting estimation: (Dr) Bad debt expense (Cr) AFDA (increase)
Next year 2023 write-off run away: (Dr) AFDA (decrease) (Cr) A/R
Year 2075 recovery: (Dr) A/R (Cr) AFDA then (Dr) Cash (Cr) A/R

Question 12

Which event decreases assets?

Answer 12

Estimation

Question 13

How does each event affect the B/S Equation?

Answer 13

Estimation: Decrease in asset, decrease in equity (net AR amount is lower due to an increase in AFDA and bad debt expense will decrease net income amount as well)
Write-off: no change
Recovery: No change

Question 14

Assume a company uses the allowance method for bad debts. Describe the impact that the write off of a bad debt has on the company’s current ratio

Answer 14

No Impact on current ratio

Question 15

T account for A/R

Answer 15

Credit sales account receivable goes up
Cash collection A/R goes down
Write-Off A/R decreases
Recovery A/R increases (left side)

Question 16

T account for AFDA

Answer 16

Write off AFDA decreases
Estimated bad debts AFDA increases
Recovery AFDA increases (right side)

Question 17

Using AFDA how could a company manage earnings upwards with respect to credit policies?

Answer 17

If you liberalize credit policies your AR and revenue is higher. Your AFDA will be higher as well but if you ignore AFDA then bad debt expense will be close to 0. In terms of income if you want higher income you want higher revenue and minimize bad debt expense. To do this you can ignore certain amounts of AFDA. So you can liberalize credits policies and ignore certain amounts of AFDA

Question 18

What are the two methods to estimate bad debt expense?

Answer 18

(1) Percentage of credit sales (I/S approach)

2) Aging of accounts receivable (B/S approach

Question 19

Corporation made sales on account (i.e., credit sales) for 100,000 in 2012. On average, corporation is unable to collect 5% of their credit sales. What is the bad debt expense in 2012? What entries should corporation make?

Answer 19

Bad debt expense = 100,000 * 0.05

Estimation: (Dr) Bad debt expense 5000, (Cr) AFDA 5,000

Write-off: (Dr) NOT DONE

Question 20

On Jan 1, 2019, the company has a credit balance of 10,000 in AFDA> During the year, the company made 5,000 credit sales. And during the year, the company wrote off 2,500 of uncollectible AR. Using % of sales allowance method, the company estimates that 10% of net credit sales become uncollectible. What is the ending balance of AFDA?

Answer 20

Bad debt expense increases by 500 dollars and at the same time the company wrote of 2500 worth A/R so as we decrease A/R we also decrease AFDA by same amount so ending balance is 8000. This is because beginning balance is 10,000 + bad debt expense - write off = 8000

Question 21

When is bad debt expense recognized on the income statement?

Answer 21

When the uncollectible portion of A/R is estimated

Question 22

Two ways of calculating bad debt expense?

Answer 22

(1) % of net sales revenue method

(2) % of accounts receivable method/accounts receivable aging method

Question 23

% of net sales revenue method?

Answer 23

If net sale is 100 we have to think about how much is uncollectible. If it is 10% we multiple by 0.1 so 10 dollars is bad debt expense. As long as you know net sales revenue you can multiply percentage for bad debt expense

Question 24

What do you look at in % of accoutns receivable method?

Answer 24

Look at ending balance of accounts receivable

Question 25

Example of % of accounts receivable method?

Answer 25

If 10% is not collectible we determine end AFDA which is uncollectible A/R in estimation.

Question 26

When is ending AFDA not the same as bad debt expense?

Answer 26

If it is the first year, we have same value of ending AFDA and bad debt expense. If you have accounts receivbale from the last year this year and on then we need to think about creating AFDA T accounts

Question 27

What kind of account is AFDA?

Answer 27

A contra asset account. Beginning and ending balance are on right hand side (opposite to normal asset side)

Question 28

Adjusting entry for end of fiscal year

Answer 28

(Dr) Bad debt expense | (Cr) AFDA

Question 29

The company has credit balance of 5000 in AFDA befire any adjustments at the year-end date. Based on the review of AR aging table, the company determines that 10% if ending AR balance is estimated to be uncollectible. Ending AR balance is 250,000. What amount should the company report as allowance for doubtful accounts on the balance sheet as at the year-end date? What is the bas debt expsne for this year?

Answer 29

(1) 250,000 which is end AFDA (2) Bad debt expense not the same as ending AFDA: unadjusted balance is 5000. We do ending AFDA - adjusted balance which is 20,000 (250,000*0.1 - 5000)

Question 30

Is it possible to see a debit balance for the unadjusted AFDA balance on the fiscal-year end date?

Answer 30

Yes

Question 31

The company has credit balance of 5000 in AFDA befire any adjustments at the year-end date. Based on the review of AR aging table, the company determines that 10% if ending AR balance is estimated to be uncollectible. Ending AR balance is 250,000. What is the AFDA T account for this?

Answer 31

Ending AFDA is 25,000 | Dr) 5000 (Cr) 30,000 (5,000+25,000

Question 32

On October 31, 2013, the unadjusted balance in the allowance for doubtful accounts is debit 44,000. Assume the company uses the allowance account method for bad debts. The company estimates 3% of total outstanding receivables will not be collected. What is the bad debt expense amount in 2013?

Answer 32

Total receivables is 897,000 (given) ending balance of AFDA is 897 k * 0.03 (3%) = 26910 T-account for AFDA (Dr) 44,000 (Cr) 44000+26910 (to give an ending balance of 26910) (Cr) is the bad debt expense so answer is 70,910

Question 33

How do you get AFDA from total A/R?

Answer 33

from each category look at A/R and multiply by uncollectible percentage and add it all up. this gives ending balance of AFDA.

Question 34

What is accounts receivable factoring?

Answer 34

Sale of A/R. Once you sell product on account you do not want to wait for cash collection from customers. You can sell the A/R to debt collection agency. If you do this, when you sell A/R it goes down but you do not get entire cash amount. You have a loss or expense referred to as service charge expense

Question 35

Sale of receivables adjusting balance?

Answer 35

(Dr) Cash, Service charge expense | (Cr) Accounts receivable

Question 36

How does financial crisis in banking industry affect manufacturing businesses directly?

Answer 36

Manufacturers find it difficult to do factoring for their receivables so when they face short-term liquidity problems, they will become insolvent despite prospective outlooks

Question 37

What is notes receivable?

Answer 37

The right to receieve cash from the borrower. They often have an interest component

Question 38

Formula for calculating interest?

Answer 38

Face value of note X annual itnerest rate X time in terms of one year

Question 39

An interest rate is always annual. True or False?

Answer 39

True

Question 40

A/R turnover ratio equation?

Answer 40

Net credit sales/average gross A/R

Question 41

Average collection period/Days in A/R equation?

Answer 41

365/A/R turnover

Question 42

What is the A/R turnover ratio?

Answer 42

Shows the number of times the A/R are renewed every year

Question 43

What is average collection period?

Answer 43

Measures how long it takes to collect cash from custoemrs regarding previous credit sales

Question 44

Suppose that the beginning and ending balances of Gross A/R are 100 during the year. Two cash collection transactions take place on April 1 and October 1 for the A/R value of 100 in each event. At the end of each cash collection event, the company made 100 net credit sales Compute the A/R turnover ratio

Answer 44

On Apr 1 net credit sales is 100 (so in A.R on Oct 1 net credit sales increases by 100 so ending gross A/R is 100. We have credit sales 2 times 2*100/(100+100)/2 = 2

Question 45

Which A/R turnover ration might indicate that (1) the company is having difficulty collecting money from customers or (2) the company has very generous credit terms with them

Answer 45

(1) Lower A/R turnover ratio (=high average collection period for A/R so it takes longer to collect cash from customers i.e., company has hard time collecting cash from customers) (2) Low A/R turnover ratio

Question 46

The company estimates bad debt expense at 1.4% of credit sales and uses the allowance account method for bad debts. The average accounts receivable collection period during 2013 was 73 days and total receivables averaged 920,500 for the year. The assistant was unable to compute the 2013 bad debt expense. What is the correct amount of bad debts expense for 2013?

Answer 46

Average collection period for accounts recievables = 365/A/R turnover. Average collection period = 73 so we can figure out that A/R turnover is 5. Multiply 5 by average gross account receivable number and then multiple this by 1.4% Gives 64,435