Accounting for Bad Debts, Credit Sales, and Assets
Chapter 7: Bad Debts Expense
1. Direct Write-Off Method
When using the direct write-off method, the journal entry is as follows:
- Debit: Bad Debt Expense
- Credit: Accounts Receivable (A/R) – Customer
Example:
- A/R: $2,000,000
- Allowance for Bad Debt: < ($50,000) >
- Net A/R: $1,950,000
Allowance Accounts (3 Methods)
There are three primary methods for estimating bad debts using allowance accounts:
- Percentage of Credit Sales (Income Statement approach)
- Percentage of Total Sales (Income Statement approach)
- Percentage of Accounts Receivable (Balance Sheet approach)
- Accounts Receivable Aging (Balance Sheet approach)
1A. Percentage of Credit Sales Example
Calculation: 0.025 x $1,342,000 = $33,550
- Debit: Bad Debt Expense $33,550
- Credit: Allowance for Bad Debt $33,550
1B. Percentage of Total Sales Example
Calculation: 0.015 x ($1,025,000 + $1,342,000) = $35,505
- Debit: Bad Debt Expense $35,505
- Credit: Allowance for Bad Debt $35,505
1C. Percentage of A/R Example
Calculation: 0.06 x $575,000 = $34,500
- Debit: Bad Debt Expense $27,000
- Credit: Allowance for Bad Debt $27,000
Balances:
- $75,000
- $27,000
- $34,500
Example:
- A/R: $575,000
- Allowance: < ($44,050) >
- Net A/R: $533,950
Example:
- A/R: $575,000
- Allowance: < ($34,500) >
- Net A/R: $540,500
A/R Aging Example
- Current: $396,400 x 0.020 = $7,928
- 1-30 days: $277,800 x 0.040 = $11,112
- 31-60 days: $48,000 x 0.085 = $4,080
- 61-90 days: $6,600 x 0.390 = $2,574
- Over 90 days: $2,800 x 0.820 = $2,296
- Total: $731,600, Allowance: $27,990
Example:
- A/R: $731,600
- Allowance: < ($27,990) >
- Net A/R: $703,610
Allowance:
$3,400 | Bad Debt Expense $31,390
| $31,390, Allowance: $31,390
| $27,990
Example:
- A/R: $2,000,000
- Allowance: < ($50,000) >
- Net A/R: $1,950,000
Allowance in Bad Debt: $10,000
A/R Customer: $10,000
Accounting for Credit Card Sales
Journal Entry:
- Debit: Credit Card Expense
- Debit: Cash
- Credit: Sales
Example: Levine Company
Levine Company uses the perpetual inventory system and accepts two credit cards:
- SunTrust Bank Card: 4% service charge, immediate credit.
- Continental Card: 2.5% service charge, weekly payments.
Transactions:
April 8: Sold merchandise for $8,400 (cost $6,000), accepted SunTrust Bank Card.
April 12: Sold merchandise for $5,600 (cost $3,500), accepted Continental Card.
April 20: Received payment from Continental for the April 12 billing, less the service charge.
Journal Entries:
April 8:
- Debit: Cash $8,064
- Debit: Credit Card Expense $336
- Credit: Sales $8,400
- Debit: COGS $6,000
- Credit: Merchandise Inventory $6,000
April 12:
- Debit: A/R – Continental $5,460
- Debit: Credit Card Expense $140
- Credit: Sales $5,600
- Debit: COGS $3,500
- Credit: Merchandise Inventory $3,500
April 20:
- Debit: Cash $5,460
- Credit: A/R – Continental $5,460
Explanation:
- April 8: Credit Card Expense = $8,400 x 0.04 = $336
- April 12: Credit Card Expense = $5,600 x 0.025 = $140
Chapter 8: Cost of Plant Assets
Example: Rizio Co.
Rizio Co. purchases a machine with the following costs:
- Invoice Price: $12,500 (Terms: 2/10, n/60, FOB shipping point)
- Freight Charges (prepaid by seller): $360
- Mounting and Power Connections: $895
- Assembly: $475
- Damages during transit: $180
- Adjustment Materials: $40
Cost Calculation:
- Invoice Price: $12,500
- Less: Discount (2% of $12,500): ($250)
- Net Purchase Price: $12,250
- Freight Charges: $360
- Mounting and Power Connections: $895
- Assembly: $475
- Materials Used in Adjusting: $40
- Total Cost Recorded: $14,020
Note: The $180 repair charge is an expense, not part of the asset’s cost.
Chapter 9: Recording Known Current Liabilities
Example: Piper Company
Adjusting Entries at December 31, 2013:
a. Unrecorded cash sales of $10,000,000 (costing $5,000,000) with a 4% sales tax.
- Debit: Cash $10,400,000
- Credit: Sales $10,000,000
- Credit: Sales Taxes Payable $400,000
- Debit: COGS $5,000,000
- Credit: Merchandise Inventory $5,000,000
b. Earned $50,000 of $125,000 previously received in advance for services.
- Debit: Unearned Services Revenue $50,000
- Credit: Earned Services Revenue $50,000
Chapter 10: Recording Bond Issuance and Interest
Example: Bringham Company
Bringham Company issues bonds with a par value of $800,000, maturing in 10 years, paying 6% annual interest semiannually. The annual market rate is 8%.
Semiannual Interest Payment:
$800,000 x 3% = $24,000
Number of Semiannual Payments:
20
Bond Issue Type:
Discount (because the market rate is higher than the coupon rate)
Price of the Bonds:
- Present Value of Par Value: 0. 4564 x $800,000 = $365,120
- Present Value of Interest Payments: 13.5903 x $24,000 = $326,167
- Price of Bonds = $691,287
Journal Entry for Bond Issuance:
- Debit: Cash $691,287
- Debit: Discount on Bonds Payable $108,713
- Credit: Bonds Payable $800,000
Chapter 11: Dividends on Common and Noncumulative Preferred Stock
Example: York Corporation
York has 80,000 shares of noncumulative 7.5% preferred stock ($5 par value) and 200,000 shares of common stock ($1 par value). Dividends paid over four years:
- 2013: $20,000
- 2014: $28,000
- 2015: $200,000
- 2016: $350,000
Annual Preferred Dividend:
$5.00 x 7.5% x 80,000 = $30,000
Dividend Distribution:
| Year | Total Cash Dividend Paid | Paid to Preferred | Paid to Common |
|---|---|---|---|
| 2013 | $20,000 | $20,000 | $0 |
| 2014 | $28,000 | $28,000 | $0 |
| 2015 | $200,000 | $30,000 | $170,000 |
| 2016 | $350,000 | $30,000 | $320,000 |
| Total | $598,000 | $108,000 | $490,000 |
Chapter 12: Indirect Method – Statement of Cash Flows
Example: IKIBAN INC.
Comparative Balance Sheets:
| IKIBAN INC. | 2013 | 2012 |
|---|---|---|
| Assets | ||
| Cash | $87,500 | $44,000 |
| Accounts Receivable, Net | $65,000 | $51,000 |
| Inventory | $63,800 | $86,500 |
| Prepaid Expenses | $4,400 | $5,400 |
| Equipment | $124,000 | $115,000 |
| Accumulated Depreciation – Equipment | ($27,000) | ($9,000) |
| Total Assets | $317,700 | $292,900 |
| Liabilities and Equity | ||
| Accounts Payable | $25,000 | $30,000 |
| Wages Payable | $6,000 | $15,000 |
| Income Taxes Payable | $3,400 | $3,800 |
| Notes Payable (Long Term) | $30,000 | $60,000 |
| Common Stock, $5 Par Value | $220,000 | $160,000 |
| Retained Earnings | $33,300 | $24,100 |
| Total Liabilities and Equity | $317,700 | $292,900 |
Income Statement (Year Ended June 30, 2013):
| Sales | $678,000 |
| Cost of Goods Sold | $411,000 |
| Gross Profit | $267,000 |
| Operating Expenses: | |
| Depreciation Expense | $58,600 |
| Other Expenses | $67,000 |
| Total Operating Expenses | $125,600 |
| Income from Operations | $141,400 |
| Gain on Sale of Equipment | $2,000 |
| Income Before Taxes | $143,400 |
| Income Taxes Expense | $43,890 |
| Net Income | $99,510 |
Additional Information:
- a. A $30,000 note payable was retired at its carrying value.
- b. Retained earnings changes: net income and cash dividends.
- c. New equipment acquired for $57,600 cash.
- d. Equipment costing $48,600 sold for cash, yielding a $2,000 gain.
- e. Prepaid Expenses and Wages Payable relate to Other Expenses.
- f. All merchandise purchases and sales are on credit.
Statement of Cash Flows (Indirect Method)
| IKIBAN, INC. | |
|---|---|
| Statement of Cash Flows (Indirect Method) | |
| For Year Ended June 30, 2013 | |
| Cash Flows from Operating Activities | |
| Net Income | $99,510 |
| Adjustments to Reconcile Net Income: | |
| Increase in Accounts Receivable | ($14,000) |
| Decrease in Merchandise Inventory | $22,700 |
| Decrease in Prepaid Expenses | $1,000 |
| Decrease in Accounts Payable | ($5,000) |
| Decrease in Wages Payable | ($9,000) |
| Decrease in Income Taxes Payable | ($400) |
| Depreciation Expense | $58,600 |
| Gain on Sale of Plant Assets | ($2,000) |
| Net Cash Provided by Operating Activities | $151,410 |
| Cash Flows from Investing Activities | |
| Cash Received from Sale of Equipment | $10,000 |
| Cash Paid for Equipment | ($57,600) |
| Net Cash Used in Investing Activities | ($47,600) |
| Cash Flows from Financing Activities | |
| Cash Received from Stock Issuance | $60,000 |
| Cash Paid to Retire Notes | ($30,000) |
| Cash Paid for Dividends | ($90,310) |
| Net Cash Used in Financing Activities | ($60,310) |
| Net Increase in Cash | $43,500 |
| Cash Balance at Prior Year-End | $44,000 |
| Cash Balance at Current Year-End | $87,500 |
Cash Flow on Total Assets Ratio
Calculation:
Cash Flow on Total Assets = Operating Cash Flows / Average Total Assets
= $151,410 / [($317,700 + $292,900) / 2]
= $151,410 / $305,300
= 49.6%
Interpretation: A 49.6% cash flow on total assets ratio indicates very good performance.
Chapter 13: Common-Size Percents
To calculate common-size percentages, divide each asset amount by the total assets and multiply by 100.
Example: If Cash is $20,000 and Total Assets are $100,000, the common-size percentage for Cash is 20%.
Chapter 13: Liquidity Analysis and Interpretation
Example: Simon Company
Balance Sheets:
| At December 31 | 2014 | 2013 | 2012 |
|---|---|---|---|
| Assets | |||
| Cash | $31,800 | $35,625 | $37,800 |
| Accounts Receivable, Net | $89,500 | $62,500 | $50,200 |
| Merchandise Inventory | $112,500 | $82,500 | $54,000 |
| Prepaid Expenses | $10,700 | $9,375 | $5,000 |
| Plant Assets, Net | $278,500 | $255,000 | $230,500 |
| Total Assets | $523,000 | $445,000 | $377,500 |
| Liabilities and Equity | |||
| Accounts Payable | $129,900 | $75,250 | $51,250 |
| Long-Term Notes Payable | $98,500 | $101,500 | $83,500 |
| Common Stock, $10 Par Value | $163,500 | $163,500 | $163,500 |
| Retained Earnings | $131,100 | $104,750 | $79,250 |
| Total Liabilities and Equity | $523,000 | $445,000 | $377,500 |
Income Statements (For Years Ended December 31):
| 2014 | 2013 | |
|---|---|---|
| Sales | $673,500 | $532,000 |
| Cost of Goods Sold | $411,225 | $345,500 |
| Other Operating Expenses | $209,550 | $134,980 |
| Interest Expense | $12,100 | $13,300 |
| Income Taxes | $9,525 | $8,845 |
| Total Costs and Expenses | $642,400 | $502,625 |
| Net Income | $31,100 | $29,375 |
| Earnings per Share | $1.90 | $1.80 |
Days’ Sales Uncollected
Calculation:
- 2014: ($89,500 / $673,500) x 365 = 48.5 days
- 2013: ($62,500 / $532,000) x 365 = 42.9 days
Accounts Receivable Turnover
Calculation:
- 2014: $673,500 / [($89,500 + $62,500) / 2] = 8.9 times
- 2013: $532,000 / [($62,500 + $50,200) / 2] = 9.4 times