Read: Revsine: Chapters 9, 11 Read: Chapter 9 – Receivables Read: Chapter 11 – Long-Lived Assets Watch: Module 4 Presentation https://canvas
- Read: Revsine: Chapters 9, 11
- Read: Chapter 9 – Receivables
- Read: Chapter 11 – Long-Lived Assets
- Watch: Module 4 Presentation https://canvas.liberty.edu/courses/950718/pages/watch-module-4-presentation?module_item_id=90922760
Case Study: IFRS Adoption in the U.S. Assignment
Receivables
Revsine/Collins/Johnson/Mittelstaedt/Soffer: Chapter 9
© 2021 McGraw Hill. All rights reserved. Authorized only for instructor use in the classroom. No reproduction or further distribution permitted without the prior written consent of McGraw Hill.
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Learning Objectives 1 After studying this chapter, you will understand:
How to account for accounts receivable using net realizable value.
How to analyze accounts receivable under net realizable value accounting.
How to evaluate whether or not reported receivables arose from real sales and how to spot danger signals.
How to impute and record interest when notes receivable have either no explicit interest or an unrealistically low interest rate.
How to account for accounts and notes receivable using the fair value option.
How companies use receivables to accelerate cash inflows and how the accounting treatment affects financial statement ratios.
Why receivables are securitized and how the accounting treatment affects financial statement ratios.
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Learning Objectives 2 After studying this chapter, you will understand:
Why receivables are restructured when a customer experiences financial difficulty and how to account for the troubled-debt restructuring.
The key differences between current G A A P and I F R S requirements for receivable accounting.
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Assessing the Net Realizable Value of Accounts Receivable
Accounts receivable are generally reflected in the balance sheet at net realizable value.
Two things must be estimated to determine the net realizable value of receivables:
Credit losses—the amount that will not be collected because customers are unable to pay.
Returns and allowances—the amount that will not be collected because customers return the merchandise for credit or are allowed a reduction in the amount owed.
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Accounting for Credit Losses 1
Most companies establish credit policies by weighing the expected cost of credit sales against the benefit of increased sales.
Expected cost:
Customer collection and billing costs plus potential bad debts.
This tradeoff illustrates that bad debts are often unavoidable.
Accrual accounting requires that some estimate of uncollectible accounts be offset against current period sales.
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Treatment of Bad Debt Losses
Traditionally, firms referred to losses from uncollectible accounts as bad debt expense and treated them as operating expenses.
However, the final F A S B revenue recognition standard, effective for fiscal years beginning after December 15, 2017, requires that bad debt losses be treated as expenses and include them with other impairment losses.
The impairment losses must be disclosed separately if material.
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Recording and Reporting the Allowance for Credit Losses
Bristol Corporation estimates that bad debt losses arising from first quarter sales are expected to be $30,000.
| D R Credit loss expense | $30,000 | |
| C R Allowance for credit losses | $30,000 |
A contra-asset account subtracted from gross accounts receivable.
If Bristol’s gross accounts receivable and allowance for credit losses before recording this entry were $1,500,000 and $15,000, respectively, then after the entry the balance sheet would show:
| Accounts receivable (gross) | $1,500,000 |
| Less: Allowance for credit losses | (45,000) |
| Accounts receivable (net) | $1,455,000 |
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Approaches to Estimating Uncollectible Accounts: Sales Revenue Approach
Bristol Corporation prepares quarterly financial statements and must estimate the bad debt provision at the end of each quarter. Analyzing past customer payment patterns, Bristol determined that bad debt losses average about 1% of sales. First quarter sales total $3,000,000.
Sales Revenue Approach
Estimate the current period bad debt provision as a percentage of current period sales. For Bristol Corporation, the estimate is:
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Approaches to Estimating Uncollectible Accounts: Gross Receivables Approach
Gross Receivables Approach
Estimate the required allowance account balance as a percentage of gross receivables and then adjust the allowance upward or downward to this figure. For Bristol Corporation, the required allowance account balance is:
Access the text alternative for slide images.
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Writing Off Credit Losses
When a specific account receivable is known to be definitely uncollectible, the amount must be removed from the books.
Assume that Bristol later determines that a $750 receivable from Ralph Company cannot be collected.
| D R Allowance for credit losses | $750 | |
| C R Accounts receivable – Ralph Company | $750 |
Notice that the entry has no effect on income.
The specific account receivable (Ralph Company) is eliminated from the books and the allowance contra-account is reduced, but no credit loss expense is recorded.
This is consistent with the accrual accounting philosophy of recording estimated uncollectibles when the sales is made rather than at a later date when the nonpayment is identified.
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Assessing the Adequacy of the Allowance for Credit Losses Account Balance 1
No matter which method is used to estimate bad debts, management must periodically assess the reasonableness of the allowance for uncollectibles balance.
The F A S B approach uses a current expected credit loss (C E C L) model.
F A S B A S C Topic 326 does not require a specific method, but provides an aging of accounts receivable example.
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Assessing the Adequacy of the Allowance for Credit Losses Account Balance 2
Exhibit 9.1 Bristol Corporation: Allowance for Credit Losses Based on Aging of Receivables
On December 31, 20X1, Bristol Corporation’s gross accounts receivable are $1,600,000, and the balance of the Allowance for uncollectibles is $39,000. Bristol’s normal sales terms require payment within 30 days after the sale is made and the goods are received by the buyer. Bristol determines that the receivables have the following age distribution:
| Current | 31 to 90 days old | 91 to 180 days old | Over 180 days old | Total | |
| Amount | $1,450,000 | $125,000 | $15,000 | $10,000 | $1,600,000 |
Once the receivables have been grouped by age category, a separate estimate of credit losses by category is developed. Based on past experience, Bristol determines the following estimate of expected credit losses by category:
| Current | 31 to 90 days old | 91 to 180 days old | Over 180 days old | ||
| Historical % of credit losses | 2.3% | 5.5% | 18.4% | 36.8% |
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Assessing the Adequacy of the Allowance for Credit Losses Account Balance 3
Exhibit 9.1
Numerous government forecasts predict that economic growth will slow in 20X2. In addition, unemployment rates have increased. Consequently, Bristol estimates that the 20X2 credit loss rates will be approximately 8% higher. Consequently, it uses the following loss percentages to estimate its allowance at December 31, 20X1.
| Current | 31 to 90 days old | 91 to 180 days old | Over 180 days old | ||
| Forecasted % of credit losses | 2.5% | 6.0% | 20.0% | 40.0% |
The required balance in the Allowance for credit losses account would then be as follows:
| Current | 31 to 90 days old | 91 to 180 days old | Over 180 days old | Total | |
| Amount | $1,450,000 | $125,000 | $15,000 | $10,000 | $1,600,000 |
| Estimated % of credit losses | 2.5% | 6% | 20% | 40% | |
| = Allowance for credit losses | $ 36,250 | $ 7,500 | $ 3,000 | $ 4,000 | $ 50,750 |
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Assessing the Adequacy of the Allowance for Credit Losses Account Balance 4
Exhibit 9.1
Because the balance of the Allowance for credit losses is only $39,000 on December 31, 20X1, the account must be increased by $11,750. This is the difference between the $50,750 required balance (as computed) and the existing $39,000 balance. To bring the balance up to the $50,750 figure indicated by the aging, Bristol makes the following adjusting entry:
| D R Credit loss expense | $11,750 | |
| C R Allowance for credit losses | $11,750 |
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