Financial Accounting, 4e

Weygandt, Kieso, & Kimmel

Prepared by
Gregory K. Lowry
Mercer University
Marianne Bradford
The University of Tennessee

John Wiley & Sons, Inc.

 CHAPTER 9
ACCOUNTING FOR RECEIVABLES
After studying this chapter, you should be able to:
1 Identify the different types of receivables.
2 Explain how accounts receivable are
recognized in the accounts.
3 Distinguish between the methods and bases
used to value accounts receivable.
4 Describe the entries to record the disposition of
accounts receivable.
5 Compute the maturity date of, and interest on,
notes receivable.
 CHAPTER 9
ACCOUNTING FOR RECEIVABLES
After studying this chapter, you should be able to:
6 Explain how notes receivable are recognized in
the accounts.
7 Describe how notes receivable are valued.
8 Describe the entries to record the disposition of
notes receivable.
9 Explain the statement presentation and analysis
of receivables.
 PREVIEW OF CHAPTER 9
ACCOUNTING FOR
RECEIVABLES

Statement
Accounts Presentation and
Receivable Notes Receivable Analysis of
Receivables

Types of 
Determining  Presentation
Receivables maturity date
Recognizing
 Analysis
  Computing interest
accounts receivable
Recognizing notes
Valuing accounts  receivable
 receivable
Valuing notes
Disposing of  receivable
 accounts receivable Disposing of notes

receivable
 RECEIVABLES

 The term receivables refers to amounts due from

individuals and other companies; they are
claims expected to be collected in
cash.
 Three major classes of receivables are:
1 Accounts receivable are amounts owed
by customers on account.
2 Notes receivable are claims for which
formal instruments of credit are issued.
3 Other receivables include nontrade
receivables such as interest
 ACCOUNTS RECEIVABLE

The three primary accounting problems

associated with accounts receivable are:
1 Recognizing accounts receivable.
2 Valuing accounts receivable.
3 Disposing of accounts receivable.
 RECOGNIZING ACCOUNTS
RECEIVABLE
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
July 1 Accounts Receivable
Sales
(To record sales on account)
1,000

When a business sells merchandise to a customer on credit,

1,000
Accounts Receivable is debited and Sales is credited.
 RECOGNIZING ACCOUNTS
RECEIVABLE
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
July 5 Sales Returns and Allowances
Accounts Receivable
(To record merchandise returned)

100

When a business receives returned merchandise previously

100
sold to a customer on credit, Sales Returns and Allowances
is debited and Accounts Receivable is credited.
 RECOGNIZING ACCOUNTS
RECEIVABLE
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
July 11 Cash
Sales Discounts
Accounts Receivable
(To record collection of accounts
receivable)

882

When a business collects cash from a customer for

merchandise previously sold on credit during the discount
18
period, Cash and Sales Discounts are debited and Accounts
Receivable is credited.
 VALUING ACCOUNTS
RECEIVABLE
 To ensure that receivables are not overstated on the
balance sheet, they are stated at their cash realizable
value.
 Cash (net) realizable value is the net amount expected
to be received in cash and excludes amounts that the
company estimates it will not be able to collect.
 Credit losses are debited to Bad Debts
Expense and are considered a normal
and necessary risk of doing business.
 Two methods of accounting for uncollectible
accounts are the:
1 allowance method and
2 direct write-off method.
 THE ALLOWANCE METHOD

 The allowance method is required

when bad debts are deemed to be
material in amount.
 Uncollectible accounts are
estimated and matched against
sales in the same accounting period
in which the sales
occurred.
 RECORDING ESTIMATED
UNCOLLECTIBLES
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
Dec. 31 Bad Debts Expense
Allowance for Doubtful Accounts
(To record estimate of
uncollectible accounts)

12,000

Estimated uncollectibles are debited to Bad Debts Expense

and credited to Allowance for Doubtful Accounts12,000
at the
end of each period.
 RECORDING THE WRITE-OFF
OF AN UNCOLLECTIBLE
ACCOUNT
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
Mar. 1 Allowance for Doubtful Accounts 500
Accounts Receivable — R. A. Ware
(Write-off of R. A. Ware account)

Actual uncollectibles are debited to Allowance for Doubtful

500
Accounts and credited to Accounts Receivable at the time
the specific account is written off.
 RECOVERY OF AN
UNCOLLECTIBLE ACCOUNT
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
July 1 Accounts Receivable — R. A. Ware
Allowance for Doubtful Accounts
(To reverse write-off of R. A. Ware
account) 500

When there is recovery of an account that has been

500
written off: 1 reverse the entry made to write off the
account and...
 RECOVERY OF AN
UNCOLLECTIBLE ACCOUNT
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
July 1 Cash
Accounts Receivable — R. A. Ware
(To record collection from R. A.
Ware) 500

2 record the collection in the usual

500
manner.
 BASES USED FOR THE
ALLOWANCE METHOD
 Companies use either of two methods
in the estimation of uncollectibles:
1 percentage of sales or
2 percentage of receivables.
 Both bases are in accordance with
GAAP; the choice is a
management decision.
 ILLUSTRATION 9-5
COMPARISON OF BASES OF
ESTIMATING UNCOLLECTIBLES

Percentage of Sales Percentage of Receivables

Matching Cash Realizable Value
Allowance
Sales Bad Debts
Expense
Accounts for
Receivable Doubtful
Accounts

Emphasis on Income Statement Emphasis on Balance Sheet

Relationships Relationships
 PERCENTAGE OF
SALES BASIS
 In the percentage of sales basis, management
establishes a percentage relationship between
the amount of credit sales and expected losses
from uncollectible accounts.
 Expected bad debt losses are
determined by applying the
percentage to the sales base
of the current period.
 This basis better matches expenses
with revenues.
 PERCENTAGE OF
SALES BASIS
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
Dec. 31 Bad Debts Expense 8,000
Allowance for Doubtful Accounts
(To record estimated bad debts for
year)

If net credit sales for the year are $800,000, the estimated bad
debts expense is $8,000 (1% X $800,000). 8,000
 PERCENTAGE OF
RECEIVABLES BASIS
 Under the percentage of receivables basis, the
balance in the allowance account is derived
from an analysis of individual customer
accounts often called aging the accounts
receivable.
 The amount of the adjusting entry is the
difference between the required balance and
the existing balance in the allowance account.
 This basis produces the better estimate
of cash realizable value of receivables.
 PERCENTAGE OF
RECEIVABLES BASIS
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
Dec. 31 Bad Debts Expense
1,700
Allowance for Doubtful Accounts
(To record estimated bad debts for
year)

If the trial balance shows Allowance for Doubtful Accounts

1,700
with a credit balance of $528, an adjusting entry for $1,700
($2,228 - $528) is necessary.
 DIRECT WRITE-OFF METHOD
 Under the direct write-off method, bad debt losses
are not anticipated and no allowance account is
used.
 No entries are made for bad debts until an account is
determined to be uncollectible at which time the loss
is charged to Bad Debts Expense.
 No attempt is made to match bad debts to sales
revenues or to show cash realizable value of accounts
receivable on the balance sheet.
 Consequently, unless bad debt losses are
insignificant, this method is not acceptable for
financial reporting purposes.
DIRECT WRITE-OFF METHOD

GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
Dec. 12 Bad Debts Expense
Accounts Receivable — M. E. Doran
(To record write-off of M. E. Doran
account)
200

Warden Co. writes off M. E. Doran’s $200 balance as

uncollectible on December 12. When this method 200is used,
Bad Debts Expense will show only actual losses from
uncollectibles.
 DISPOSING OF
ACCOUNTS RECEIVABLE
 To accelerate the receipt of cash from
receivables, owners frequently:
1 sell to a factor such as a finance
lcompany or a bank and
2 make credit card sales
 A factor buys receivables from
businesses for a fee and collects the payments
directly from customers.
 SALE OF RECEIVABLES

GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
July 31 Cash 588,000
Service Charge Expense (2% x $600,000)
Accounts Receivable
(To record the sale of accounts
receivable)

12,000
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.
 CREDIT CARD SALES

1. Credit cards are frequently used by retailers

who wish to avoid the paperwork of issuing
credit.
2. Retailers can receive cash more quickly from
the credit card issuer.
3. A credit card sale occurs when a company
accepts national credit cards, such as Visa,
MasterCard, Discover, American Express,
and Diners Club.
 CREDIT CARD SALES
 Three parties involved when credit cards are
used in making retail sales are:
1 the credit card issuer,
2 the retailer, and
3 the customer.
 The retailer pays the credit card issuer
a fee of 2-6% of the invoice price for
its services.
 From an accounting standpoint, sales from Visa,
MasterCard, and Discover are treated differently
than sales from American Express and
Diners Club.
 VISA, MASTERCARD,
AND DISCOVER SALES
 Sales resulting from the use of VISA,
MasterCard, and Discover are considered
cash sales by the retailer.
 These cards are issued by banks.
 Upon receipt of credit card sales slips from a
retailer, the bank immediately
adds the amount to the
seller’s bank balance.
 VISA, MASTERCARD,
AND DISCOVER SALES
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
July 31 Cash
Service Charge Expense
Sales
(To record VISA credit card sales)

970

Lee Lenertz purchases a

number of compact discs for
her restaurant from Brieschke
Music Co. for $1,000 using her
VISA First Bank Card. The 30
service fee that First Bank
charges is 3%.
 AMERICAN EXPRESS &
DINERS CLUB SALES
 Sales using American Express and
Diners Club cards are reported as
credit sales, not cash sales.
 Conversion into cash does not
occur until American
Express/Diners Club remits the net
amount to the seller.
 AMERICAN EXPRESS
SALES
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
July 31 Accounts Receivable — American Express
Service Charge Expense
Sales
(To record American Express
credit card sales)

285

Four Seasons restaurant accepts

an American Express card for a
$300 bill. The service fee is 5%.
15
 NOTES RECEIVABLE

 A promissory note is a written promise

to pay a specified amount of money on
demand or at a definite time.
 The party making the promise is the
maker.
 The party to whom
payment is made is
called the payee.
 NOTES RECEIVABLE

 When the life of the note is expressed

in terms of months, the due date is
found by counting the months from
the date of issue
 Example: The maturity
date of a 3-month note
dated May 31 is August 31.
 ILLUSTRATION 9-11
DETERMINING THE MATURITY DATE

 When the life of the note is expressed in terms

of days, it is necessary to count the days.
 In counting days, the date of issue is omitted
but the due date is included.
 Example: The maturity date of a 60-day note
dated July 17 is:
Term of note 60
July 31 – 17 14
August 31 45
Maturity date, September 15
 ILLUSTRATION 9-13
FORMULA
FOR COMPUTING
INTEREST
The basic formula for computing
interest on an interest-bearing note is:
. Annual Time
Face Value X Interest X in Terms of = Interest
of Note Rate One Year

The interest rate specified on the

note is an annual rate of interest
 ILLUSTRATION 9-14
COMPUTATION OF
INTEREST

Terms of Note Interest Computation

Face X Rate X Time = Interest
$ 730, 18%, 120 days
$1,000, 15%, 6 months $ 730 X 18% X 120/360 = $ 43.80
$2,000, 12%, 1 year $1,000 X 15% X 6/12 = $ 75.00
$2,000 X 12% X 1/1 = $240.00

Helpful hint: The interest rate specified is the annual rate.

 RECOGNIZING NOTES
RECEIVABLE
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
May 1 Notes Receivable
Accounts Receivable — Brent Company
(To record acceptance of Brent
Company note)

1,000

Wilma Company receives a $1,000, 2-month, 12% promissory

note from Brent Company to settle an open account.
1,000
 VALUING NOTES
RECEIVABLE
 Like accounts receivable, short-term
notes receivable are reported at their
cash (net) realizable value.
 The notes receivable
allowance account is
Allowance for
Doubtful Accounts.
 HONOR OF
NOTES
RECEIVABLE
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
Oct. 1 Cash 10,300
Notes Receivable
Interest Revenue
(To record collection of Higley Inc.
note)

 A note is honored when it is paid 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 specified on the note. 10,000
 Betty Co. lends Higley Inc. $10,000 on June 1, accepting
a 4-month, 9% interest-bearing note.
 Betty Co. collects the maturity value of the note from
Higley on October 1.
 HONOR OF
NOTES
RECEIVABLE
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
Sept. 30 Interest Receivable
300
Interest Revenue
(To accrue four months' interest)

If Betty Co. prepares prepares financial statements as of

September 30, interest for 4 months, or $300, would be accrued.
300
 HONOR OF
NOTES
RECEIVABLE
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
Oct. 1 Cash
10,300
Notes Receivable
Interest Receivable
(To record collection of note at
maturity)

When interest has been accrued, it is necessary 10,000

to credit Interest Receivable at maturity.
 DISHONOR OF
NOTES RECEIVABLE
GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
Oct. 1 Accounts Receivable
10,300
Notes Receivable
Interest Revenue
(To record the dishonor of the
note)

 A dishonored note is a note that is not paid in full at

maturity.
 A dishonored note receivable is no longer negotiable. 10,000
 Since the payee still has a claim against the maker of the
note, the balance in Notes Receivable is usually
transferred to Accounts
Receivable.
 BALANCE SHEET PRESENTATION
OF RECEIVABLES

1. In the balance sheet, short-term receivables are

reported within the current assets section below
short term investments.
2. Both the gross amount of receivables and the
allowance for doubtful accounts should be
reported.
3. The following shows the current asset presentation
of receivables for Kellogg Company at December
31.
KELLOGG COMPANY
Accounts receivable (in millions) $705.9
Less: Allowance for doubtful accounts 12.9
Net receivables $693.0
 ILLUSTRATION 9-15
ACCOUNTS RECEIVABLE TURNOVER
RATIO AND COMPUTATION
1. The financial ratio used to assess the liquidity of
the receivables is the receivables turnover ratio
which measures the number of times, on average,
receivables are collected during the period.
2. If Lands’ End had net credit sales of $1,355
million for the year and a beginning net accounts
receivable balance of $17.8 million and and
ending accounts receivable balance of 19.8 million
its accounts receivable turnover ratio is computed
as follows:
Average Accounts Accounts
Net Credit Sales ÷ Receivable = Receivable Turnover

$17.8 + $19.8
$1,355 ÷ 2
= 72 times
 ILLUSTRATION 9-16
AVERAGE COLLECTION PERIOD FOR
RECEIVABLES FORMULA AND COMPUTATION

 The average collection period is a conversion of

the receivables turnover ratio that makes the
liquidity even more evident.
 Lands’ End turnover of 72 times is divided into
365 days as follows:

Accounts Average Collection

Days in Year ÷ Receivable Turnover = Period in Days

365 days ÷ 72 times = 5.1 days

 COPYRIGHT

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 CHAPTER 9
ACCOUNTING FOR RECEIVABLES