accounting test 3 chapter 7 review questions

What is the formula for computing interest revenue?

Interest is computed as:Principal x annual interest x time outstanding

In which section of the statement of cash flows will Big report the cash collected in f question 23?

When Big Corp. collects the $12,720, $12,000 will be reported as inflow from investing activities, and $720 will be reported as inflow from operating activites.

What is "aging of accounts receivable"?

When using an aging schedule for estimating uncollectible accounts, accounts receivable is divided into categories based on due dates. Different percentages are then applied to each category. For instance a higher percentage would be applied to the group of accounts that are more than 90 days past due than to the group that is only 30 days past due.

What is a promissory note?

A promissory note is a legal document that sets forth credit terms such as interest rate, payment amounts, and maturity date. Promissory notes are commonly used when credit extended is for a large amount or for a long period of time.

What is accrued interest?

Accrued interest is interest that has been earned but not yet collected.

How is the accounts receivable turnover ratio computed? What information does the ratio provide?

Accounts Receivable = Sales Turnover Accounts Receivable The A/R turnover tells how many times during the year on average accounts receivable is collected (i.e., converted to cash)

How is the average number of days to collect accounts receivable computed? What information does the ratio provide?

Average days to collect = 365 Accounts Receivable Accounts Receivable Turnover This ratio tells the user how many days on average it takes a company to collect its accounts receivable.

Define the following terms: maker payee principal interest maturity date collateral

Maker: the borrower or debtor Payee: the person to whom the note is made payable Principal: the amount of money loaned by the payee to the borrower Interest: the economic benefit earned by the payee for loaning the principal to the maker Maturity date: the date on which the maker must repay the principal and any unpaid interest Collateral: assets belonging to the maker assigned as security for the note in the event of the maker's default on the note

What is the effect on the accounting equation of recognizing uncollectible accounts expense?

Recognizing uncollectible accounts expense reduces accounts receivable on the asset side and reduces retained earnings on the equity side.

When is an adjusting entry for accrued interest generally recorded?

The adjusting entry for accrued interest is generally only recorded when financial statements are prepared. At this time the accounts are adjusted to reflect the interest that has been earned, but not yet collected.

What is the advantage of using the allowance method of accounting for uncollectible accounts? What is the advantage of using the direct write-off method?

The advantage of using the allowance method is that it improves the accuracy of the financial statements; the advantage of using the direct write-off method is that it is convenient to use.

What types of costs do businesses avoid when they accept major credit cards as compared with handling credit sales themselves?

The acceptance of major credit cards enables a business to avoid the cost of uncollectible accounts and the clerical costs of maintaining accounts receivable records. In addition, the business avoids the implicit cost of lost opportunities due to delayed cash flows.

When is it acceptable to use the direct write-off method of accounting for uncollectible accounts?

The direct write-off method is not GAAP, but is allowed if the amount of uncollectible accounts is immaterial (i.e., insignificant).

What is the effect on the accounting equation of writing off an uncollectible account receivable when the allowance method is used? When the direct write-off method is used?

A write-off of an uncollectible account when the allowance method is used has no effect on the accounting equation because the allowance account, a contra asset account, is reduced and the accounts receivable account, also on the asset side, is reduced.When the direct write-off method is used, a write-off of an uncollectible account reduces assets (accounts receivable) and reduces retained earnings (increases uncollectible accounts expense).

what is the difference between accounts receivable and notes receivable?

Accounts receivable are the expected future receipts when a company permits its customers to buy now and pay later. The credit is usually short term to maturity.Notes Receivable usually have longer terms to maturity than accounts receivable and are legal documents that have specific items which must be in writing on the document. The note specifies the maturity date, interest rate, and other credit terms.

What type of account is the Allowance for Doubtful Accounts? Allowance for Doubtful Accounts is a contra asset account.

Allowance for Doubtful Accounts is a contra asset account.

What are two ways in which estimating uncollectible accounts improves the accuracy of the financial statements? Estimating uncollectible accounts expense improves the accuracy of financial statements by 1) reporting expected realizable value of receivables (i.e., future cash flows) and 2) presenting a better matching of expenses with related revenues. This provides a better measure of managerial performance.

Estimating uncollectible accounts expense improves the accuracy of financial statements by 1) reporting expected realizable value of receivables (i.e., future cash flows) and 2) presenting a better matching of expenses with related revenues. This provides a better measure of managerial performance.

What are some factors considered in estimating the amount of uncollectible accounts receivable?

Factors for use in estimating uncollectible accounts include: 1) the percentage of uncollectible accounts from years past 2) adjustment for new circumstances that are anticipated to be experienced in the future 3) industry averages or experiences of similar businesses 4) examination of current accounts and company credit policies

How do companies determine the percentage estimate of uncollectible accounts when using the percent of revenue method?

If the company is an established business, it will examine its credit history; that is, the actual write-offs for the previous year as a percentage of sales. A new business must rely on trade publications and others experienced in the industry to determine an appropriate percent. This percent is then adjusted at least annually to reflect current conditions.

Assume that on July 1, 2016, Big Corp. loaned Little Corp. $12,000 for a period of one year at 6 percent interest. What amount of interest revenue will Big report for 2016? What amount of cash will Big receive upon maturity of the note?

Interest revenue refers to the revenue earned from investments by the company irrespective of whether received or not, recorded in the books of accounts under accrual basis of accounting.

Why is it generally beneficial for a business to accept major credit cards as payment for goods and sendees even when the fee charged by the credit card company is substantial?

It is generally beneficial to accept major credit cards because the business then avoids the risk of bad debts as well as the cost of maintaining credit records. The business may also attract more customers.

Is accounting terminology standard in all countries? What term is used in the United Kingdom to refer to sales? What term is used to refer to inventory? What is a gearing ratio? Is it important to know about these differences?

No, accounting terminology is not standard even in English-speaking countries. In the U.K. sales is called "turnover," inventory is "stocks," and the "gearing ratio" refers to the debt-to-assets ratio. Knowing this terminology is important for companies involved in international trade.

What is the difference between the allowance method and the direct write-off method of accounting for uncollectible accounts?

The allowance method is a method of accounting for bad debts where bad debts are estimated and expense in the same period in which the corresponding sales are recognized. The receivables are reported at net realizable value in the financial statements.The direct write-off method is the practice of recognizing bad debt expense only when specific accounts are determined to be uncollectible.

What is the most common format for reporting accounts receivable on the balance sheet? What information does this method provide beyond showing only the net amount?

The most common format for reporting accounts receivable on the balance sheet is gross receivables less the allowance for doubtful accounts. This format allows the users to see both the total amount owed by the customers and the amount the company expects to collect.

What is the net realizable value of receivables?

The net realizable value is the amount expected to be collected from accounts receivable. It is the face amount of receivables less an allowance for estimated uncollectible accounts.

What is the operating cycle of a business?

The operating cycle is the length of time it takes to convert inventory to accounts receivable plus the time it takes convert accounts receivable to cash.

What is an advantage of using the percent of receivables method of estimating uncollectible accounts expense?

The percent of receivables is a more accurate measure because it uses the actual receivables and the amount of time they have currently been outstanding. Those receivables that have been outstanding for a longer time are less likely to be collected.

Why is it necessary to make an entry to reinstate a previously written off account receivable before the collection is recorded?

The practice of reestablishing a previously written off account, then recording its collection as a payment on account, reflects a complete record of account activity. Such a record provides an accurate picture of the source of cash flows and improves the portrayal of the customer's credit history.

How does the recovery of a previously written-off account affect the income statement when the allowance method is used? How does the recovery of a previously written-off account affect the statement of cash flows when the allowance method is used?

The recovery of an uncollectible account when the allowance method is used does not affect the income statement. Only accounts receivable, cash, and allowance for doubtful accounts are affected. Cash flow from operations increases as a result of the collection.

When using the allowance method, why is uncollectible accounts expense an estimated amount?

When using the allowance method, uncollectible accounts expense is matched with current revenues. A company does not know which accounts will not be collectible at the time a sale is made; consequently, in order to record the expense currently, an estimate is used.