Quiz 7 Exam 2 Study

Hancock Medical Supply Co., earned $160,000 of revenue on account during Year 1, its first year of operation. During Year 1, Hancock collected $128,000 of cash from its receivables accounts. The company did not write-off any uncollectible accounts. It estimates that it will be unable to collect 1% of revenue on account. What is the net realizable value of receivables that will be reported on the balance sheet at December 31, Year 1? Multiple Choice $30,400 $30,720 $32,000 $30,000

$30,400 Explanation Ending accounts receivable = Beginning accounts receivable of $0 + Revenue on account of $160,000 − Collections on account of $128,000 = $32,000 Ending allowance for doubtful accounts = Beginning allowance for doubtful accounts of $0 + Uncollectible accounts expense of ($160,000 × 1%) − Write-offs of $0 = $1,600 Net realizable value = Accounts receivable of $32,000 − Allowance for doubtful accounts of $1,600 = $30,400

Rosewood Company made a loan of $16,000 to one of the company's employees on April 1, Year 1. The one-year note carried a 6% rate of interest. What is the amount of interest revenue that Rosewood would report in Year 1 and Year 2, respectively? Multiple Choice $960 in Year 1 and $0 in Year 2 $0 in Year 1 and $960 in Year 2 $240 in Year 1 and $720 in Year 2 $720 in Year 1 and $240 in Year 2

$720 in Year 1 and $240 in Year 2 Explanation Interest revenue = Principal × Annual interest rate × Time outstandingYear 1 (April through December):Interest revenue = $16,000 × 6% × 9/12 months = $720 Year 2 (January through March):Interest revenue = $16,000 × 6% × 3/12 months = $240

Which of the following is (are) the term(s) used to describe the person responsible for making payment on the due date of a promissory note? Multiple Choice Lender or maker Maker or debtor Borrower Borrower or maker or debtor

Borrower or maker or debtor Explanation The maker is the person responsible for making payment on the due date. The maker may also be called the borrower or debtor.

How does the year-end adjusting entry to recognize uncollectible accounts expense affect the elements of the financial statements? Multiple Choice Decrease total assets and decrease stockholders' equity. Increase total assets and decrease stockholders' equity. Increase total liabilities and increase stockholders' equity. Decrease total liabilities and increase stockholders' equity.

Decrease total assets and decrease stockholders' equity. Explanation The adjusting entry will decrease assets (by increasing the allowance for doubtful accounts, a contra asset account) and stockholders' equity. It will increase expenses (uncollectible accounts expense), which decreases net income.

Collecting a credit card receivable is an asset source transaction. True or False

False Explanation Collection of a credit card receivable is an asset exchange transaction that increases assets (cash) and decreases assets (accounts receivable - credit card company).

When a company receives payment from a customer whose account was previously written off, the account is reinstated and the net realizable value of Accounts Receivable increases. True or False

False Explanation Reinstating an account receivable is performed by reversing the previous write-off; doing so increases the balances in Accounts Receivable and Allowance for Doubtful Accounts. Because the Allowance account is a contra asset account, the increase in it offsets the increase in the Accounts Receivable account, and the net realizable value is unchanged.

When a company accepts a credit card payment for a sale, the amount of sales revenue to be recorded is reduced by the amount of the credit card company's fee. True or False

False Explanation Revenue is recorded for the full amount of the sale, and the fee is recorded as a separate expense. Income increases by the amount of revenue and decreases by the amount of the credit card expense. Net income increases by the difference between the two amounts.

Some accountants believe that the percent of revenue method for estimating uncollectible accounts expense is superior to the percent of receivables method because it is more conservative. True or False

False Explanation Some accountants believe they can better estimate the amount of uncollectible accounts expense by basing their estimates on a percentage of accounts receivable rather than a percentage of revenue. This approach is commonly called the percent of receivables method of estimating uncollectible accounts expense.

The direct write-off method does a better job of matching revenues and expenses than does the allowance method. True or False

False Explanation The allowance method of accounting for uncollectible accounts is conceptually superior to the direct write-off method, in which uncollectible accounts expense is recognized when an account is determined to be uncollectible. The direct write-off method fails to match revenues with expenses and overstates accounts receivable on the balance sheet. It is easier to use, however, and is permitted by generally accepted accounting principles if the amount of uncollectible accounts expense is immaterial.

Elliston Company accepted credit card payments for $10,000 of services provided to customers. The credit card company charges a 3% fee for handling the transaction. Which of the following describes the effect of this transaction? Multiple Choice Increase revenue by $9,700 Increase assets by $10,000 Increase stockholders' equity (retained earnings) by $9,700 Increase net income by $10,000

Increase stockholders' equity (retained earnings) by $9,700 Explanation The credit card sale increases total assets (accounts receivable - credit card company) and increases stockholders' equity (retained earnings) by $9,700 [or $10,000 − ($10,000 × 3%)]. It increases revenue by $10,000, increases expenses (credit card expense) by $300 (or $10,000 × 3%), and increases net income by $9,700 (or $10,000 − $300). The statement of cash flows is not affected.

Which of the following is not a significant difference between the allowance method and the direct write-off method? Multiple Choice One method requires writing off of uncollectible accounts and the other does not. One method conforms to GAAP and the other typically does not. One method reports net realizable value on the balance sheet and the other does not. One method requires the estimation of uncollectible accounts and the other does not.

One method requires writing off of uncollectible accounts and the other does not. Explanation Both methods require writing off uncollectible accounts. The difference is the timing of when uncollectible accounts expense is recognized.

The net realizable value of accounts receivable is the amount of receivables a company expects to collect. True or False

True

Willis Company had $200,000 in credit sales for Year 1, and it estimated that 2% of the credit sales would not be collected. The balance in Accounts Receivable at the end of the year was $38,000. Willis had never used the allowance method to account for its receivables until Year 1. The net realizable value of its accounts receivable at the end of the year was $34,000. True or False

True Explanation Uncollectible accounts expense (increase to allowance for doubtful accounts) = $200,000 × 2% = $4,000 Net realizable value = Accounts receivable of $38,000 − Allowance for doubtful accounts of $4,000 = $34,000

On January 1, Year 1, the Accounts Receivable balance was $37,000 and the balance in the Allowance for Doubtful Accounts was $2,800. On January 15, Year 1, an $800 uncollectible account was written-off. What is the net realizable value of accounts receivable immediately after the write-off? Multiple Choice $36,200 $33,400 $35,000 $34,200

$34,200 Explanation Accounts receivable after the write-off = $37,000 − $800 = $36,200 Allowance for doubtful accounts after the write-off = $2,800 − $800 = $2,000 Net realizable value = Accounts receivable of $36,200 − Allowance for doubtful accounts of $2,000 = $34,200

How would accountants estimate the amount of a company's uncollectible accounts expense? Multiple Choice Consider new circumstances that are anticipated to be experienced in the future. Compute as a percentage of credit sales. Consult with trade association and business associates. All of these answer choices are correct.

All of these answer choices are correct. Explanation Accountants use a variety of methods to estimate uncollectible accounts expense. There is no requirement that they use a particular approach.

Which of the following is the term commonly used to describe the practice of reporting the net realizable value of receivables in the financial statements? Multiple Choice Cash flow method. Allowance method. Direct write-off method. Accrual method.

Allowance method. Explanation Reporting accounts receivable in the financial statements at net realizable value is commonly called the allowance method of accounting for uncollectible accounts.

The collection of an account receivable is an asset source transaction. True or False

False Explanation Collection of an account receivable is an asset exchange transaction. Assets (cash) increase while assets (accounts receivable) decrease.

Many businesses find it more efficient to offer credit directly to customers rather than to accept third-party credit cards. True or False

False Explanation Maintaining accounts and notes receivable is expensive. In addition to uncollectible accounts expense, companies extending credit to their customers incur considerable costs for such clerical tasks as running background checks and maintaining customer records. On the other hand, the credit card company deducts a service fee (usually between 1% and 5%) from the gross amount of the sale and pays the merchant the net balance (gross amount of sale less credit card fee) in cash. However, in return, the merchant avoids the risk of uncollectible accounts, as well as the cost of maintaining customer credit records. Many businesses find it more efficient to accept third-party credit cards instead of offering credit directly to their customers.

The face value of Accounts Receivable plus the balance in the Allowance for Doubtful Accounts is equal to the net realizable value of the receivables. True or False

False Explanation Net realizable value = Accounts receivable − Allowance for doubtful accounts

The adjusting entry to recognize uncollectible accounts expense does not affect the net realizable value of receivables. True or False

False Explanation Net realizable value = Accounts receivable − Allowance for doubtful accounts Recognizing uncollectible accounts expense decreases net realizable value because it increases allowance for doubtful accounts.

The net realizable value of accounts receivable decreases when an account receivable is written off. True or False

False Explanation Net realizable value = Accounts receivable − Allowance for doubtful accounts The net realizable value is unaffected by a write-off because both accounts receivable and allowance for doubtful accounts decrease by the same amount.

On June 1, Year 2, Carolina Company collected a $24,000 note receivable that had been issued on June 1, Year 1. The note carried a 6% interest rate. On June 1, Year 2, the company will recognize interest revenue in the amount of $1,440. True or False

False Explanation Only the interest earned during Year 2 of $600 (calculated below) should be recognized in Year 2. The interest earned during Year 1 of $840 (calculated below) should be accrued in an adjusting entry at the end of Year 1.Recognized in Year 1 (June through December):Interest revenue = $24,000 × 6% × 7/12 = $840

The best estimate of the amount of cash a company expects to collect from its accounts receivable is the face value of the receivables. True or False

False Explanation The best estimate of the amount of cash a company expects to collect is the net realizable value of its accounts receivable.

Hoff Company uses the allowance method. An account that had been previously written-off as uncollectible was recovered. How do the two parts of the recovery (reinstate receivable and collect the receivable) affect the elements of the financial statements when the two parts are considered together? Multiple Choice Increase total assets and stockholders' equity Increase total assets and decrease total liabilities Decrease total liabilities and increase stockholders' equity Has no effect on total assets, total liabilities or stockholders' equity

Has no effect on total assets, total liabilities or stockholders' equity Explanation Hoff must first reinstate the receivable that was previously written off. The reinstatement increases assets (accounts receivable) and decreases assets (by increasing the allowance for doubtful accounts, a contra asset account), with no net effect on any of the elements of the financial statements. Next, Hoff records collection of the receivable, which increases assets (cash) and decreases assets (accounts receivable) with no net effect on total assets.

What is the term used to describe the amount of accounts receivable that is actually expected to be collected? Multiple Choice Allowance for doubtful accounts Uncollectible accounts expense The present value of accounts receivable Net realizable value

Net realizable value Explanation The net realizable value of accounts receivable represents the amount of receivables a company estimates it will actually collect.

If the allowance method is used, how do the two entries recorded in connection with the recovery of an uncollectible account affect the elements of the financial statements? (Hint: Consider the effect of both entries taken together.) Multiple Choice No effect on total assets or stockholders' equity Increase stockholders' equity Decrease total assets Increase total assets and stockholders' equity

No effect on total assets or stockholders' equity Explanation When a company receives payment on a previously written-off account, it must first reinstate the written-off account. The reinstatement increases assets (accounts receivable) and decreases assets (by increasing the allowance for doubtful accounts, a contra asset account), with no net effect on any of the elements of the financial statements. Then, the company records collection of the receivable, which increases assets (cash) and decreases assets (accounts receivable), again with no net effect on total assets, total liabilities, or stockholders' equity. The event is reported as a cash inflow for operating activities on the statement of cash flows.

Glebe Company accepted a credit card account receivable in exchange for $1,100 of services provided to a customer. The credit card company charges a 5% fee for handling the transaction. What effect will the collection of cash from the credit card company have on the elements of the financial statements? Multiple Choice Increase assets by $1,045 Decrease assets and stockholders' equity by $55 Increase assets by $1,100 None of these answer choices are correct

None of these answer choices are correct Explanation Collecting the amount due from the credit card company increases assets (cash) and decreases assets (accounts receivable - credit card company), resulting in no net effect on total assets, total liabilities, or stockholders' equity.

The balance in Accounts Receivable at the beginning of the year amounted to $16,000. During the year, $64,000 of credit sales were made to customers. If the ending balance in Accounts Receivable amounted to $10,000, and uncollectible accounts expense amounted to $4,000, what is the amount of cash inflow from customers that would appear in the operating activities section of the cash flow statement? Multiple Choice $66,000. $64,000. $80,000. None of these answers are correct.

None of these answers are correct. Explanation The $4,000 in uncollectible accounts expense does not affect accounts receivable, and does not affect cash flows. Ending accounts receivable of $10,000 = Beginning accounts receivable of $16,000 + Credit sales of $64,000 − Collections on account Collections on account (that is, cash inflow from customers) = $16,000 + $64,000 − $10,000 = $70,000

Which one of the following is not an accurate description of the Allowance for Doubtful Accounts? Multiple Choice The account is a contra account. The account is a temporary account. The amount of the Allowance for Doubtful Accounts decreases the net realizable value of a company's receivables. The account is increased by an estimate of uncollectible accounts expense.

The account is a temporary account. Explanation Allowance for doubtful accounts is a contra asset account; thus, it is a permanent (rather than a temporary) account. Uncollectible accounts expense, which is reported on the income statement, is a temporary account.

Which of the following is a true statement about a company that uses the allowance method? Multiple Choice Uncollectible Accounts Expense is recorded when a receivable is written off. Uncollectible accounts are not recorded until the amount becomes significant. The net realizable value of its accounts receivable is shown on the balance sheet. None of these answer choices are correct.

The net realizable value of its accounts receivable is shown on the balance sheet. Explanation A company that uses the allowance method estimates uncollectible accounts expense before they actually become uncollectible, using a contra asset account known as allowance for doubtful accounts, and reports the net realizable value of accounts receivable on the balance sheet.

Which of the following is not an advantage of accepting credit cards from retail customers? Multiple Choice The acceptance of credit cards tends to increase sales. The credit card company performs credit worthiness assessments. There are fees charged for the privilege of accepting credit cards. The credit card company assumes the cost of slow collections and write-offs.

There are fees charged for the privilege of accepting credit cards. Explanation The fees associated with credit card sales are a disadvantage, not an advantage, of accepting credit cards.

Most companies report receivables on their balance sheets at the net realizable value. True or False

True Explanation GAAP requires the use of the allowance method, which results in the reporting of net realizable value (or accounts receivable minus the allowance for doubtful accounts) unless uncollectible accounts are immaterial.

Making a loan to another party is considered an investing activity on the statement of cash flows. True or False

True Explanation Loaning cash is a cash outflow for investing activities.

The adjusting entry to recognize uncollectible accounts expense is an asset use transaction. True or False

True Explanation Recognizing uncollectible accounts expense is an asset use transaction that decreases assets by increasing the allowance for doubtful accounts, a contra asset account.

When a company receives payment from a customer whose account was previously written off, the customer's account should be reinstated. True or False

True Explanation The account receivable is reinstated because a complete record of the customer's payment history may be useful if the customer requests credit again at some future date.

Using the allowance method of accounting for uncollectible receivables requires an estimate of the amount of receivables that will not be collected. True or False

True Explanation The estimate is made at the end of each accounting period.

When an uncollectible account receivable is written off, the amount of total assets is unchanged. True or False

True Explanation The write-off is an asset exchange transaction that decreases assets (accounts receivable) and increases assets (because it decreases the allowance for doubtful accounts, a contra asset account).

The year-end adjusting entry to accrue interest on a note receivable is an asset source transaction. True or False

True Explanation This is an asset source transaction. The entry increases assets (interest receivable) and increases stockholders' equity (retained earnings). It also increases interest revenue, which increases net income.

Which of the following is a cost of extending credit to customers? Multiple Choice Uncollectible accounts expense Lost sales Fees paid to credit card companies Explicit interest

Uncollectible accounts expense Explanation Two costs of extending credit to customers are uncollectible accounts expense and recordkeeping costs.