Chapter 6: Reporting and Interpreting Sales Revenue, Receivables and Cash

Chapter 6: Reporting and Interpreting Sales Revenue, Receivables and Cash A. Recognition of Revenue for Merchandising Companies FOB Shipping Point: title switch at shipping point Once you get it to a point of shipment, the responsibility is of the buyer (i.e. sellers title is passed onto you after UPS aka buyers responsibility) FOB Destination: title switch at destination Seller owns merchandise until it gets to buyers location/destination (sellers responsibility for shipping charges) B. Accounting for Sales Revenue Example: On May 4, Sally Distribution sold answering machines to Harry Electronics on account for $2,200, using credit term 2/10, n/30. Sally Distribution also sold answering machines to individual customers for $1,600 on credit card. The answering machines sold cost Sally Distribution $2,400. Record sales revenue and cost of goods sold for Sally Discounter. Sales discount: 2/10, net30 (if customer makes payment within 10 days, customer will get 2% off of what they owe) Initial sale: A/R Sales Revenue 2200 2200 Credit card sale: A/R credit card/ cash 1600 Sales Revenue 1600 ***Assume Perpetual inventory system every time they make a sale, COGS increases and inventory decreases Cost of goods sold 2400 Inventory 2400 Recognize sales revenue

Recognize COGS The credit card companies charge a fee for the service they provide. Sally Distribution was charged an average of 3% fee for its credit card sales. Record the credit card discount for Sally Distribution. Credit Card Company will only pay Sally 97% of what was owed: Cash 1552 Credit card Discount 48 A/R credit card 1600 **Credit card discount account is a contra-revenue account (decreases revenues therefore DR balance) Harry Electronics returned some unsatisfactory answering machines to Sally Distribution on May 8. These machines were sold to Harry for $200. The cost of these defective machines to Sally is $140. Sales, returns, and allowance minor damage to item so item is slightly reduced (allowance i.e. $20 off) or customer returns item (returns) contra-revenue account (DR balance) Sales Returns and Allowances 200 A/R 200 Inventory Cost of Goods Sold 140 140 Harry Electronics paid Sally Distribution the balance due on May 12. Record the sales discount for Sally Distribution. Sales discount paid within 10 days (2% off); always take total amount for A/R: Cash 1960 Sales Discount 40 A/R 2000 C. Reporting Net Sales and Gross Profit Percentage 1. Net Sales Sales Revenue Credit Card Discounts - Sales Returns and Allowances - Sales Discounts Calculate Sally Distribution s Net Sales in May: Net Sales 3800 48 200 40 3512

2. Gross Profit PercentageGross Profit Net Sales Tells you what % of each sales dollar can go toward paying for other expenses (or is profit) Calculate Sally Distribution s Gross Profit Percentage in May: GP Net Sales COGS GP 3512 (2400 + 140) 1252 GP % 1252/3512 35.6% **Must compare to industry or other company Exercise: Calculate the gross profit percentage for Slate Co. for the year ended March 31, Sales of merchandise for cash 220000 Sales of merchandise on credit 32000 Cost of Goods Sold 147000 Selling expense 40200 Administrative expense 19000 Sales returns and allowances 7000 GP D. Receivables and Accounting for Bad Debts 1. Receivables: Amounts due from individuals and companies; - Expected to be collected in cash. - Types of receivables: accounts receivable, notes receivable, and other receivables (e.g. interest receivable). 2. Accounting for Bad Debts -A credit loss will be incurred when an accounts receivable becomes uncollectible. - Bad debt expense (uncollectible accounts expense): an operating expense that reflects the cost of uncollectible receivables. - GAAP requires the allowance method to measure bad debt expense

Bad Debt Expense (IS) Allowance for Doubtful Accounts (BS) Allowance Method Accounts Receivalbe Less: Allowance for Doubtful Accounts Net Realizable Value Accounts Receivable Step 1: Estimate bad debt expense at the end of each accounting period Example: At the end of the March, Jerry Co. estimated that of its credit sales of $65,000 in the quarter, $1300 may become uncollectible. ESTIMATION IS ALWAYS GOING TO BE THIS ENTRY: Bad debt expense 1300 Allowance for doubtful accounts (AFDA) 1300 *** AFDA is a contra-asset Q1: What effect did recording bad debt expense have on net income and total asset? Estimation of bad debt decreases NI (expense increases) Step 2: Write off specific accounts determined to be uncollectible during the period In April, Jerry Co. determined that its credit sales to customer B in February, amounts $580, is uncollectible. WHEN YOU HAVE A WRITE-OFF: AFDA 580 Accounts Receivable 580 Q2: What effect did the write-off have on the amount of net income and total assets? ***A write-off will have NO impact*** A/R AFDA Net A/R 5580 1200 4380 5000 620 4380 Estimating Bad Debts: a) Percentage of credit sales

b) Aging of accounts receivable Example: a) Percentage of sales: In March, Richard Wholesale Company expected bad debt losses of 1% of credit sales and its credit sales were $65,000 Calculate Bad debt expense for March : 65000*0.01 650 Adjusting entry at the end of March : March 31 Bad debt expense AFDA 650 650 Assuming the beginning balance in Allowance for Doubtful account was $350 before adjustment, show the ending balance in Allowance for Doubtful account after the adjusting entry. Ending balance of AFDA 350 + 650 1000 (credit balance) therefore A/R will now be brought down by 1000 in total. b) Aging of accounts receivable: The older an A/R is, the more likely it is for you not to collect it (the greater the percentage uncollectible ) In March, the aging schedule of Richard Wholesale Company is as follows Aged Accounts Receivable Estimated Percentage Uncollectible Not Yet Due: 25000 x Up to 90 days past due: 6000 x Over 90 days past due: 100 x Total estimated uncollectible amount 2% 8% 25% Estimated Amounts Uncollectible $1005 is the final ending balance we would like to have in the Allowance for Doubtful 500 480 25 1005

Accounts Total A/R 31,100 (25000+6000+100) 1005 (ending balance you want in AFDA) Assuming the beginning balance in Allowance for Doubtful account was $350 before adjustment, calculate Bad Debt Expense for March : Adjusting Entry at the end of March : Exercise: Given the following information, determine the bad debt expense and ending balance in the Allowance for Doubtful Accounts under both the percent of credit sales method and aging of accounts receivable method. The percent of credit sales estimated to be uncollectible is ½%. The beginning balance in allowance for doubtful accounts was $10,000 and the company wrote off $6,000 of accounts receivable during the period. Credit Sales 1,500,000 Estimated uncollectible Total Not yet due 300,000 1-30 days past due 28,000 31-60 days past due 25,000 Over 60 days past due 10,000 2% $6,000 5% $1,400 10% $2,500 15% $1,500 Total $11,400 D. Ratio Analysis (Financial analysis on receivables): Liquidity Analyses: Receivables Turnover RatioNet Sales Average Net Accounts Receivable Average Collection Period 365 Receivables Turnover Ratio Net Sales Net accounts receivable Heinz 9,430,422 1,383,550 2011 9,407,949 1,237,804 Class exercise: Compute receivables turnover ratio and average collection period for Heinz E. Cash Controls and Bank Reconciliation 1. Cash and Cash Equivalent:

2. Internal Controls of Cash Segregation of Duties Use of a bank o minimizes the amount of cash that must be kept on hand (petty cash fund); o provides a double record of all cash transactions (one by the business; one by the bank). 3. Reconciling the Bank Statement with the Cash Account: Company balance and bank balance usually differ because of time lags, bank charges, interest, or errors. For example: a. Deposits in transit: deposits recorded by the depositor that have not been recorded By the bank. (due to time lag) b. Outstanding checks: checks issued and recorded by the company that have not been paid by the bank. (due to time lag) c. NSF checks: a check that is not paid by the bank because of insufficient funds in the check issuer s bank account. d. Interest: the interest paid by the bank. e. Bank Charges: Fees charged to you by the bank for maintaining the bank account or collecting notes for you, etc. f. Error: Reconciliation procedures: 1) The reconciliation should be prepared by an employee who has no other Responsibilities pertaining to cash

2) Matching cash balance per bank with cash balance per book (bank reconciliation) Steps in getting the correct cash balance per bank Steps in getting the correct cash balance per books 3) Journal entries after the bank reconciliation: --Each reconciling item to the company s book balance should be journalized and posted in order to show the correct balance in the company s Cash account --Journal entries should be made for bank service charge, for interest, for NSF checks, and for correcting bookkeeping errors. Example: Richard Wholesale Company received the bank statement with the closing date March 31. The cash balance on the bank statement was $32,500. On March 31, the cash balance in Richard Wholesale s book was $ 35,910. Comparing the bank statement with the cash account, the company identified the following events: 1. On March 19, Richard Wholesale issued Check No. 125 to Megan Co. for $2,000.Megan Co. had not deposited the check by March 30. 2. The bank statement included $50 for financial service charges. 3. The bank statement included $125 interest earned by Richard Wholesale for the period. 4. On March 27, the company recorded cash sales for $4,000. The deposit was received by the bank on April 5. 5. The bank statement showed $1,000 for an NSF check written by ABG Ltd, a customer. 6. On March 16, the company received $1,283 from a customer and deposited it in the bank. The cash receipts journal entry was incorrectly made for $1,238. The bank did not make any error. 7. The bank incorrectly charged $530 to Richard Wholesale during the period. Bank reconciliation From balance per bank to adjusted cash balance From balance per books to adjusted cash balance

Journal entries by Richard Wholesale: Chapter 6 Problems Jameson Company has the following accounts at December 31,. Dr. Net sales Accounts receivable Allowance for doubtful accounts Cr. 30,000,000 8,000,000 14,500 a) Make the entry at December 31, to estimate bad debts, assuming that the company has done an aging of receivables that indicates that about $160,000 worth of receivables are probably uncollectible.

b) In May, Jameson is notified that Lindsey Corporation is in bankruptcy and will not be able to pay a debt of $140,000. Record this write off. c) What effect did the write off in (b) have on the amount of total assets? (Circle answer) Increased assets Decreased assets Had no effect on assets d) If Jameson Company used the percentage of sales method instead of the aging of receivables method to estimate bad debts, what would have been your bad debts expense in entry a) if they estimated that half of 1% of sales would eventually be uncollectible? Chapter 6 Exercises Merchandise Sales: Credit Card, Sales Returns, and Sales Discounts The following transactions were selected from the records of All You Need Supplies: February 10 Sold merchandise to Able Company, who charged the $1,000 purchase on its Visa credit card. Visa charges a 2% credit card fee. 13 Sold merchandise to Baker Enterprises at an invoice price of $5,000, terms 3/10, n/30. 15 Sold merchandise to Charlie Corporation at an invoice price

of $3,000, terms 3/10/, n/30. 17 Charlie Corporation returned items purchased on February 15 with an invoice price of $1,000 due to product defect. 20 Collected payment from Baker Enterprises from the February 13 sale. 28 Collected payment from Charlie Corporation from the February 17 sale.

Allowance Method of Accounting for Bad Debts: Income Statement Approach During, Credit, Inc., recorded total sales of $2,500,000, $250,000 of which were over-thecounter cash sales. Based on experience, the company estimates that 0.75% of credit sales may prove to be uncollectible. The Allowance for Doubtful Accounts reflects a $15,000 unadjusted normal balance. REQUIRED: (a) Record the adjusting entry to estimate bad debts. (b) Give the balance sheet presentation after the adjustment. (c) Assume a customer who owed $200 has proven to be uncollectible. Write off the account.

Allowance Method of Accounting for Bad Debts: Balance Sheet Approach AFDA Company provides the following aging analysis of its accounts receivable: Current 31 60 days past due 61 90 days past due Over 90 days past due Total $20,000 8,000 3,000 1,000 Bad Debt Experience 2% 10% 30% 60% The Allowance for Doubtful Accounts reflects an unadjusted normal balance of $2,000. REQUIRED: (a ) Record the adjusting entry to estimate bad debts. (b) Assume that the Allowance for Doubtful Accounts has an unadjusted debit balance of $500. Record the adjusting entry to estimate bad debts.

Activity Indicators: Accounts Receivable Turnover and Days Sales in Accounts Receivable UCC Company provides the following information for its two (2) most recent years: 2011 Accounts receivable $3,200,000 $2,800,000 Less: Allowance for doubtful accounts (120,000) (100,000) Net realizable value $3,080,000 $2,700,000 Net credit sales REQUIRED: $25,000,000 Determine the: (a) Accounts receivable turnover (b) Days sales in accounts receivable

Bank Reconciliation The January 31,, bank statement for FDIC, Inc., and the January ledger accounts for cash are given below: BANK STATEMENT Checks and Other Debits Balance, 1/1/12 Deposits clearing Checks clearing NSF check Service charges Balance, 1/31/12 $27,000 $28,500 250 50 January 1 January Balance Deposits January 31 Balance REQUIRED: Deposits and Other Credits Cash in Bank 6,300 January 28,000 5,500 Balance $ 6,300 33,300 4,800 4,550 4,500 4,500 Checks written (a) Prepare a bank reconciliation in good form. (b) Record any necessary general entries. 28,800

HANDOUT 6 1 ACCOUNTS RECEIVABLE JOURNAL ENTRIES Prepare journal entries to record the following transactions: (1) On December 15,, the company recorded $150,000 sales on credit. Dec. 15 Ensure the equation still balances and debits credits Assets Liabilities + Stockholders Equity (2) On December 31,, the company estimated bad debt expenses of $15,000. Dec. 31 Ensure the equation still balances and debits credits Assets Liabilities + Stockholders Equity (3) On January 12,, collect $100,000 worth of accounts receivable. Jan. 12 Ensure the equation still balances and debits credits Assets Liabilities + Stockholders Equity

HANDOUT 6 1, CONTINUED (4) After many collection attempts, the Company determined on June 15, that it would not collect $10,000 in accounts receivables from Pendant Publishing. It decided to write-off this account. Jun. 15 Ensure the equation still balances and debits credits Assets Liabilities + Stockholders Equity (5) On July 16, Pendant Publishing called to say that they have had financial problems but can afford to pay $7,000 to settle their $10,000 debt in full. Vandolay Industries agreed to these terms, and reversed $7,000 of the prior write-off. It received a $7,000 check from Pendant the next day. Jul. 16 Jul. 16 Ensure the equation still balances and debits credits Assets Liabilities :Post the above entries to the following T-accounts + Accounts Receivable (A) + Stockholders Equity - Allowance for Doubtful Accounts (xa) +

HANDOUT 6 2 ESTIMATION AND RECORDING OF UNCOLLECTIBLE ACCOUNTS PERCENTAGE OF CREDIT SALES RECEIVABLE METHOD Part 1 During, Vandolay reported $300,000 in sales. The company s allowance for doubtful accounts has an unadjusted credit balance of $12,000 at December 31,. Based on prior experience, management estimates that 2.5% of sales will result in bad debts. Prepare the required adjusting journal entry. Dec. 31 Ensure the equation still balances and debits credits Assets Liabilities + Bad Debt Expense (E) + Stockholders Equity - Allowance for Doubtful Accounts (xa) + Part 2 Assume instead that the company s allowance for doubtful accounts has an unadjusted debit balance of $400. Prepare the required adjusting journal entry. Dec. 31 Ensure the equation still balances and debits credits Assets + Bad Debt Expense (E) Liabilities + Stockholders Equity - Allowance for Doubtful Accounts (xa) +

HANDOUT 6 3 ESTIMATION AND RECORDING OF UNCOLLECTIBLE ACCOUNTS AGING OF ACCOUNTS RECEIVABLE METHOD Part 1 During, Vandolay reported $300,000 in sales. The company s allowance for doubtful accounts has an unadjusted credit balance of $1,200 at December 31,. Vandolay Industries accountants prepared the following Aging of Accounts Receivable: Customer Alpha Sales Total $ 700 Gamma Manufacturing Co. Delta Shipping Corp. 1,900 Epsilon Industries 6,000 Theta Manufacturing Zeta Industries Other customers Totals 2,200 1,800 600 136,800 $150,00 0 Number of days unpaid 30-60 60-90 Over 90 $ 700 $ 1,900 $ 2,200 0-30 $ 6,000 88,100 $90,00 0 1,800 600 26,900 $30,00 0 9,800 $12,00 0 12,000 $18,00 0 Vandolay accountants believe that receivables 0-30 days old have a 2% chance of noncollection. Receivables 30-60 days old have a 4% chance of noncollection. Receivables 6090 days old have an 8% chance of noncollection. Receivables over 90 days old have a 20% chance of noncollection. The company s allowance for doubtful accounts has an unadjusted credit balance of $12,000. Prepare the required adjusting journal entry. Dec. 31 Ensure the equation still balances and debits credits Assets Liabilities + Bad Debt Expense (E) + Stockholders Equity Allowance for Doubtful Accounts (xa) +

HANDOUT 6 3, CONTINUED Part 2 Assume instead that the company s allowance for doubtful accounts has an unadjusted debit balance of $400. Prepare the required adjusting journal entry. Dec. 31 Ensure the equation still balances and debits credits Assets Liabilities + Bad Debt Expense (E) + Stockholders Equity Allowance for Doubtful Accounts (xa) + HANDOUT 6 4 BANK RECONCILIATION Information from the records and bank statement and of Matrix, Inc. as of July 31, is set forth below Cash balance per bank, July 31, Cash balance per general ledger, July 31, Outstanding checks at July 31, Check mailed to the bank for deposit that had not reached the bank by July 31, NSF check (from a customer for a payment on account) returned by bank July interest earned per bank statement Check no. 781 for supplies expense cleared the bank for $240, but was erroneously recorded in the books at $268. Deposit by Acme Company erroneously credited by the bank to our account Part A Prepare the bank reconciliation for Matrix, Inc. $9,61 0 7,430 2,417 500 281 30 486

HANDOUT 6 4, continued Part B Prepare any journal entries that should be made as a result of the bank reconciliation. Date Accounts Debit Credit HANDOUT 6 5 BANK RECONCILIATION Prepare the bank reconciliation for Donna s Day Care using the following information: Cash balance per bank, June 30, Cash balance per general ledger, June 30, Outstanding checks, June 30, Deposit in transit, June30, NSF check (from a customer for a payment on account) returned by bank June interest earned per bank statement Check no. 800 in payment of accounts payable cleared the bank for $1,100, but was erroneously recorded in the books at $$800. Deposit in amount of $6,000, recorded properly on books, erroneously credited on bank statement as $5,800 Part A Prepare the bank reconciliation for Donna s Day Care. $5,58 6 5,055 1,816 750 450 15

HANDOUT 6 5, continued Part B Prepare any journal entries that should be made as a result of the bank reconciliation. Date Accounts Debit Credit HANDOUT 6 6 SALES JOURNAL ENTRIES On March 3, Gooddeal.com sold merchandise for $2,500, terms 2/10 n/30. Prepare the journal entry. Debit and credit the accounts affected Mar. 3 Ensure the equation still balances and debits credits Assets Liabilities + Stockholders Equity The customer paid for the merchandise on March 6, taking advantage of the permitted discount. Prepare the journal entry. Debit and credit the accounts affected Mar. 6 Ensure the equation still balances and debits credits Assets Liabilities + Stockholders Equity

On March 8, the customer returned $1,250 (or one-half) of the merchandise that was purchased back on March 3. Prepare the journal entry. Debit and credit the accounts affected Mar. 8 Ensure the equation still balances and debits credits Assets Liabilities + Stockholders Equity