ACTY 2100 - Chapter 5

What credit sales transactions are also known as

Sales on account/Services on account

Discount Terms

2/10 and n/30; shorthand way to communicate the amount of the discount and the time period within which it's available

Net revenues

A company's total revenues less any amounts for discounts, returns, and allowances

If the company expects to receive the cash within one year, what is it recorded as?

A current asset; otherwise it classifies the receivables as a long-term asset

When is accounts receivables recorded?

AT the time of the sale or service

Allowance accounts provide a way to reduce what indirectly?

Accounts receivable, rather than decreasing the accounts receivable balance itself

Allowance Method

Allowing for the possibility that some accounts will be uncollectible at some point in the future

Contra Revenue Account

An account with a balance that is opposite, or "contra," to that of its related revenue account

Total revenues are further reduced by what entry?

An adjusting entry at the end of the year for the estimate of additional sales discounts, sales returns, and sales allowances expected to occur in the future but that relate to the current year

What is accounts receivable in the company's balance sheet?

An asset

What do credit sales typically include?

An informal credit agreement supported by an invoice; require payment within 30 to 60 days after the sale

Using the aging method to estimate uncollectible accounts is more accurate than what?

Applying a single percentage to all accounts receivable

Uncollectible Accounts

Bad debts; customers' accounts that we no longer consider collectible

Another name for the percentage of receivables method

Balance Sheet Method

Benefit in the long term for credit sales

Benefit the seller by increasing profitability of the company

Accounts Receivables

Cash owed to a company by its customers from the sale of products or services on account

What are sales returns and sales allowances classified as?

Contra accounts

Entry for when it knows a specific customer will not pay

Debit - Allowances for Uncollectible Accounts Credit - A/R

Entry for increasing the allowance account at the end of the year

Debit - Bad Debt Expense Credit - Allowance for Uncollectible Accounts

If the percentage increase in receivables i greater than the percentage increase in sales, the receivables turnover ratio will what?

Decline

What will the bad debt do to net income?

Decrease net income

What does the write-off of accounts receivable involve?

Decreasing a contra asset (Allowance for Uncollectible Accounts); Decreasing an asset (Accounts Receivable)

Under the allowance method, companies are required to what?

Estimate future uncollectible accounts and record those estimates in the current year

Percentage of Credit Sales Method

Estimates uncollectible accounts based on the percentage of credit sales (income statement method)

Percentage of Receivables Method

Estimating collectible accounts based on the percentage of accounts receivable expected not to be collected

Bad Dept Expense

Represents the cost of the estimated future bad debts

Total revenues are reduced by what?

Sales discounts, sales returns, and sales allowances that occur during the year

Allowance for Uncollectible Accounts

For adjustments for future bad debts

Sales Return

If a customer returns a product

When does the firm record asset/revenue?

Immediately once goods or services are provided to the customer and future collection from the customer is probable

How do we record sales discounts?

In a contra revenue account

Where do we report the allowance for uncollectible accounts and what does it represent?

In the asset section of the balance sheet, but it represents a reduction in the balance of accounts receivable

Where is bad debt expense included (financial statement)?

In the income statement of the same period with which these bad debts are associated

At the same time, failure to collect a customer's cash represents a cost inherent in using credit sales, so we must then do what?

Increase expenses (bad debt expense) to reflect the cost of offering credit to customers

2/10

Indicates the customer will receive a 2% discount if the amount owed is paid within 10 days

The upside of extending credit to customers

It boosts sales by allowing customers the ability to purchase on account and pay cash later

What does the legal right to receive cash represent?

It is valuable and represents an asset of the company (accounts receivable)

n/30

Means that if the customer does not take the discount, full payment net of any returns or allowances is due within 30 days

What effect does the write-off of the account receivable have?

No effect on total amounts reported in the balance sheet or income statement

Collecting cash on an account previous written off does what?

No effect on total assets and no effect on net income

Notes Receivable has what type of balance?

Normal debit balance

Downside of extending credit to customers

Not all customers will pay fully on their accounts

How do companies recognize trade discounts when recording a transaction?

Not directly, they recognize them indirectly by recording the sale at the discounted price

The more frequently a business is able to "turn over" its average accounts receivable the more quickly it is what?

Receiving cash from its customers

An account receivable we do not expect to collect has no value; thus we must do what?

Reduce assets (accounts receivable) by an estimate of the amount we don't expect to collect

Where are sales discounts recorded?

Reported with total revenues in the income statement, but with a negative balance

Trade Discounts

Represent a reduction in the listed price of a produce or service

Sales Discount

Represents a reduction, not in the selling price of a product or service, but in the amount to be paid by a credit customer if payment is made within a specific period of time

Average Collection Period

Shows the approximate number of days the average accounts receivable balance is outstanding

Receivables Turnover Ratio

Shows the number of times a year that the average accounts receivable balance is collected

Notes Receivable

Similar to accounts receivable but are more formal credit arrangements evidenced by a written debt instrument, or note

A debit balance before adjustment indicates what?

That the estimate at the beginning of the year was too low

What does the contra asset account Allowance for Uncollectible Accounts represent?

The amount of accounts receivables we do not expect to collect

Revenues are reported for what?

The amount of cash a company expects to be entitled to receive from customers for providing goods and services

Net Realizable Value

The amount of cash the firm expects to collect

Downside in the long term for credit sales

The delay in collecting cash from customers; some customers may not pay at all

Net Accounts Receivable

The difference between total accounts receivable and the allowance for uncollectible accounts (net realizable value)

A credit balance before adjustments indicates what?

The estimate of uncollectible accounts at the beginning of year may have been too high

The older the account...

The less likely it is to be collected

Benefit of extending credit

The seller makes it more convenient for the buyer to purchase goods and services

Why do we use a contra revenue account here?

To be able to keep up with the total revenue separate from the reduction in that revenue due to quick payment

Trade Discounts are used in what other way?

To change prices without publishing a new price list or to disguise real prices from competitors

Aging Method

To consider the various ages of individual accounts receivable, using a higher percentage for "old" accounts than for "new" accounts

Why do we use a contra revenue account?

To keep a record of the total revenue earned separate from the reduction due to subsequent sales returns or sales allowances

Why do companies use trade discounts?

To provide incentives to larger customers or consumer groups to purchase from the company

Another name for account receivables

Trade receivables

Credit sales

Transfer products and services to a customer today while bearing the risk of collecting payment from that customer in the future

Why does it have no effect?

We have already recorded the negative effects of the bad news

What happens after a sales return?

We reduce the customer's account balance if the sale was on account or we issue a cash refund if the sale was for cash

Direct Write-Off Method

We write off bad debts only at the time they actually become uncollectible

When are the company's revenues reduced?

When customers return unsatisfactory products or demand allowances for interior services or competitive pricing

Notes receivable

accompanied by formal credit agreements made with written debt instruments (or notes)

While discounts may be beneficial to the company's long term success, what can they reduce?

the amount of revenue reported in the current period

Sales Allowance

the customer does not return the product or service, but the seller reduces the customer's balance owed to provide at least a partial adjustment of the amount the customer owes