Chapter 8 Receivables
True/False
[QUESTION]
1. Under the sales revenue approach to estimating uncollectible accounts receivable, a loss
percentage is applied to gross accounts receivable.
2. The direct write-off method is used only for tax reporting purposes.
3. In practice, estimated sales returns and allowances are seldom material in relation to accounts
receivable so, consequently, no end-of-period accrual is typically made for these items.
4. A company’s independent auditor is required to perform very detailed and stringent
procedures for accounts receivable.
5. An increase in receivables growth exceeding sales growth could indicate aggressive revenue
recognition policies.
6. For long-term credit sales transactions utilizing notes receivable, interest income is recorded
each period over the note’s term to maturity using the prevailing borrowing rate.
7. Most companies establish credit policies by weighing the expected cost of credit sales against
the benefit of increased interest income.
8. Interest must be imputed whenever the stated rate is higher than the prevailing borrowing rates
at the time of the transaction.
9. Under U.S. GAAP, firms have the option to record accounts and notes receivable at fair value.
10. In a transaction where the transferor surrenders control over its receivables, the transaction is
treated as a collateralized borrowing and any gain or loss is recognized in earnings.
11. A securitization entity is a trust or corporation that is legally distinct from the transferor and
is created solely to execute securitization transactions.
12. Because the securitization entity’s credit rating is based on the quality of the transferred
receivables, it will generally be the same as the rating of the transferor’s general debt.
13. A restructuring of debt constitutes a troubled debt restructuring if the creditor, for legal or
economic reasons related to the debtor’s financial difficulties, grants a concession to the debtor
that it would otherwise not consider.
14. Under IFRS, firms may elect the fair value option only in cases where it eliminates an
accounting mismatch or when a group of assets is managed and evaluated using fair values.
15. Under IFRS, firms are required to report short-term receivables at fair value and to disclose
their net realizable value in the notes to the financial statements.
Multiple Choice
[QUESTION]
16. Net realizable value of receivables is gross receivables minus
a. bad debt provision and sales returns.
b. bad debt provision and estimated returns and allowances.
c. estimated uncollectible accounts and estimated returns and allowances.
d. proven uncollectible accounts and estimated returns and allowances.
17. If sales terms, customer creditworthiness, and accounting methods remain constant, the
percentage change in sales and the percentage change in accounts receivable:
a. should be about equal.
b. should drift farther apart.
c. will be zero.
d. None of these answer choices are correct.
18. The allowance for uncollectibles account is
a. added to gross accounts receivable.
b. added to net accounts receivable.
c. subtracted from gross accounts receivable.
d. subtracted from net account receivable.
Use the following to answer questions 19 – 22:
REFERENCE: Ref. 08_01
Edsel Inc. has the following unadjusted year end trial balance information available for 2018:
Credit sales
$600,000
Ending accounts receivable balance
$180,000
Ending allowance for uncollectibles
$1,500
Estimated uncollectibles
2%
[QUESTION]
REFER TO: Ref. 08_01
19. If Edsel uses the sales revenue approach for estimating the bad debt provision, the income
statement should show an expense of
a. $10,000
b. $12,000
c. $14,000
d. $20,000
20. If Edsel uses the gross accounts receivable approach for estimating the bad debt provision,
the income statement will show an expense of
a. $2,100
b. $3,600
c. $5,100
d. $8,500
21. If Edsel uses the sales revenue approach for estimating the bad debt provision, the allowance
for uncollectibles account, after the proper adjustments to the accounts are recorded, should
show a balance of
a. $11,500
b. $13,500
c. $15,500
d. $21,500
22. If Edsel uses the gross accounts receivable approach for estimating the bad debt provision,
the allowance for uncollectibles account, after the proper adjustments to the accounts are
recorded, should show a balance of
a. $2,600
b. $3,600
c. $5,600
d. $6,200
23. When a specific account receivable is written off, the entry
a. increases net income.
b. decreases net income.
c. can either decrease or increase net income.
d. has no effect on net income.
24. Management must periodically assess the reasonableness of the allowance for uncollectibles
if it uses the
a. direct write-off method.
b. percent of sales method only.
c. percent of gross receivables method only.
d. percent of sales or the percent of gross receivables method.
25. Echo Company’s 2018 beginning and ending accounts receivable balances were $72,500 and
$41,250 respectively. During 2018, the company’s credit sales amounted to $857,250. Per
Echo’s 2018 cash flow statement, $873,500 was collected from customers while $18,750 related
to uncollectible accounts was listed among the “non–cash expenses.” If Echo’s beginning balance
in the allowance for uncollectibles was $17,600, the ending balance in this account must be
a. $15,000
b. $21,350
c. $36,350
d. The required “allowance for uncollectibles” balance cannot be determined from the data
given.
26. The allowance for uncollectibles account is classified as
a. a contra-asset account.
b. a contra-revenue account.
c. a contra-expense account
d. a contra-equity account
27. Smith Company is a manufacturer of medical devices and has an excellent quality control
department, thus defective product returns are rare. In 2018, Smith reported sales of
$276,344,000. The company did, however, have two returns in 2018 related to the wrong product
model being shipped. Smith’s 2018 journal entry to record a $37,500 return from a customer
(Foxtrot Medical) would be:
a.
DR Sales returns and allowances
$37,500
CR Accounts receivable—Foxtrot Medical
$37,500
b.
DR Sales returns and allowances
$37,500
CR Sales
$37,500
c.
DR Sales
$37,500
CR Accounts receivable—Foxtrot Medical
$37,500
d.
DR Sales returns expense
$37,500
CR Accounts receivable—Foxtrot Medical
$37,500
28. An analyst notes that ABC Inc.’s allowance for uncollectible accounts as a percentage of
year-end accounts receivable has changed. Which of the following would not be a plausible
explanation for the change?
a. ABC’s management expects a default rate on outstanding receivables different than prior
years.
b. ABC’s management is using the bad debt provision to “manage” earnings.
c. The company ages its receivables and the distribution of accounts receivable over the various
age categories is different than prior years.
d. The company has stopped making sales on credit.
29. Research evidence suggests that
a. companies increase their provision for doubtful accounts when earnings are otherwise low and
then decrease the provision when earnings are high.
b. companies reduce their provision for doubtful accounts when earnings are otherwise low and
then increase the provision when earnings are high.
c. companies reduce their provision for doubtful accounts when earnings are otherwise high and
then increase the provision when earnings are low.
d. companies increase their provision for doubtful accounts when earnings are otherwise high
and then decrease the provision when earnings are low.
30. XYZ Co.’s 2018 ratio of allowance for uncollectibles to gross receivables has declined from
the ratio at the end of 2017. To help evaluate whether the reduction in XYZ’s ratio is reasonable,
an analyst should do all of the following except:
a. compare the ratio to other firms in XYZ’s industry.
b. look for additional discussion in XYZ’s annual report.
c. contact the SEC for more information.
d. listen to the company’s earnings briefing for the analysts.
31. Which one of the following explanations for the growth of accounts receivable outstripping
the growth of sales represents a red flag?
a. The firm adopts new credit terms that lengthen the payment terms to the industry average.
b. The firm adopts an aggressive revenue recognition policy.
c. The firm develops an attractive credit policy for first time buyers.
d. The firm changes its timing of revenue recognition to a more conservative approach.
32. Which one of the following is an example of an aggressive revenue recognition policy?
a. A firm recognizes revenue at time of collection.
b. A firm recognizes revenue at the expiration of the sales returns period.
c. A firm with a liberal sales return policy recognizes revenue at shipment.
d. A firm with a liberal sales return policy recognizes revenue at shipment with a corresponding
allowance for returns and allowances.
33. When a note receivable has a stated interest rate that is lower than the prevailing rate for
similar loans, it is recorded at
a. present value based on the stated interest rate.
b. present value based on the prevailing rate of interest.
c. maturity value.
d. net realizable value.
34. Non-interest bearing notes are initially recorded at
a. historical cost.
b. maturity value because they bear no interest.
c. present value, based on the prevailing interest for loans of this type.
d. future value, based on the prevailing interest for loans of this type.
Use the following to answer questions 35 – 38:
REFERENCE: Ref. 08_02
The Palmer Corporation sells goods to its customers on a note basis with 10% credit terms and
interest payable at the end of each quarter. All notes are due in one year. Palmer makes the
following sales on July 1, 2018:
Customer
Note Maturity
Interest Due
Interest Rate
J. Perez
$100,000
Quarterly
10%
P. Berg
$100,000
—
Negotiated
To encourage sales, Berg was given a special deal on interest. Additional information:
Future value of $100,000 in one year (quarterly interest) is $110,381.
Present value of $100,000 for one year (quarterly interest) is $90,595.
[QUESTION]
REFER TO: Ref. 08_02
35. What amount will Palmer use to record the sale to Perez?
a. $90,000
b. $90,595
c. $100,000
d. $110,381
36. What amount will Palmer use to record the sale to Berg?
a. $90,000
b. $90,595
c. $100,000
d. $110,382
37. At the end of the first quarter, which of the following entries will be made to record the
interest earned by Palmer on the Perez note?
a.
DR Cash
$2,500
CR Interest income
$2,500
b.
DR Accrued interest receivable
$2,500
CR Interest income
$2,500
c.
DR Notes receivable—Perez
$2,265
CR Interest income
$2,265
d.
DR Cash
$2,265
CR Accrued interest receivable
$2,265
38. At the end of the first quarter, which one of the following entries will be made to record the
interest earned by Palmer on the Berg note?
a.
DR Cash
$2,500
CR Interest income
$2,500
b.
DR Accrued interest receivable
$2,500
CR Interest income
$2,500
c.
DR Notes receivable—Berg
$2,265
CR Interest income
$2,265
d.
There is no entry because the note is non-interest bearing.
Use the following to answer questions 39 – 41:
REFERENCE: Ref. 08_03
On January 2, 2018, Jensen Corporation sells equipment it manufactured to Lewisburg
Fabricators in exchange for an $80,000 note due in five years. The note bears no stated interest
rate, but requires the entire $80,000 to be repaid at the end of five years. Jensen recently sold the
same equipment to another company for $54,447. When Lewisburg Fabricators sought bank
financing for this purchase the company was offered the funds at 8%, but decided to let Jensen
hold the note.
[QUESTION]
REFER TO: Ref. 08_03
39. What amount will Jensen recognize as interest income during 2018?
a. $4,356
b. $4,704
c. $5,111
d. $0
40. What amount will Jensen recognize as interest income during 2019?
a. $4,356
b. $4,704
c. $5,111
d. $0
41. What will be the balance in the Notes Receivable—Lewisburg Fabricators account at the end
of 2019?
a. $54,447
b. $58,802
c. $63,507
d. $80,000
42. Accounting for long-term credit sales transactions utilizing notes receivable
a. ignores interest unless an interest rate is specified in the note.
b. makes it difficult to assess the degree to which a company’s overall earnings are due to
profitable credit sales versus profitable customer financing.
c. achieves a clear separation between income from credit sales and interest earned.
d. is controversial because it necessitates use of an assumed interest rate.
43. Guthrie Corporation reports accounts receivable at a net realizable value of $2,940,000 (gross
receivable of $3,000,000 minus allowance for uncollectible accounts of $60,000). Assume that
there is an active market for these types of receivables and that the price is 94% of face value. To
adjust the receivable’s carrying value to fair value, Guthrie would make which of the following
entries?
a.
DR Realized loss on receivables
$180,000
CR Accounts receivable
$180,000
b.
DR Unrealized loss on receivables
$120,000
CR Fair value adjustment—accounts receivable
$120,000
c.
DR Unrealized loss on receivables
$180,000
CR Fair value adjustment—accounts receivable
$180,000
d.
DR Realized loss on receivables
$120,000
CR Accounts receivable
$120,000
44. The Fair value adjustment—accounts receivable account is an asset valuation account
a. that would be adjusted upward or downward as fair values change and as the receivables are
collected.
b. that is created when fair value accounting is adopted but is not subsequently adjusted.
c. that can only be adjusted downward.
d. that is unaffected by the subsequent collection of receivables.
45. When a firm does not adopt the fair value option, it
a. need not disclose the fair value of its long-term notes receivable or accounts receivable
b. still must disclose the fair value of its long-term notes receivable but need not disclose the
accounts receivable fair value if the fair values approximates the reported value
c. must disclose the fair value of its long-term notes receivable only if the reported value exceeds
fair value.
d. must disclose both the fair value of both notes and accounts receivable under all circumstances
46. The sale of receivables to a third party is called
a. factoring.
b. collateralizing.
c. discounting.
d. securitization.
47. With a loan collateralized by receivables,
a. the bank makes the loan without recourse.
b. the bank has recourse against the accounts receivable customers.
c. a company receives cash and is not responsible for repaying the loan.
d. a company receives cash and is responsible for repaying the loan.
Use the following to answer questions 48 – 50:
REFERENCE: Ref. 08_04
Frank Ritter, Inc. enters into an arrangement with Hisker Enterprises whereby Hisker will
assume $100,000 of Ritter’s receivables for a 6% fee. These receivables have a related allowance
for doubtful accounts of $3,500.
[QUESTION]
REFER TO: Ref. 08_04
48. Assuming the transaction was a factoring arrangement without recourse, which one of the
following entries will Ritter make?
a.
DR Cash
$100,000
CR Accounts receivable
$100,000
b.
DR Cash
$94,000
DR Loss on sale of receivables
6,000
CR Accounts receivable
$100,000
c.
DR Cash
$94,000
DR Allowance for doubtful accounts
3,500
DR Loss on sale of receivables
2,500
CR Accounts receivable
$100,000
d.
DR Cash
$94,000
DR Loss on sale of receivables
6,000
CR Due to Hisker Enterprises
$100,000
49. Assume that the transaction was a factoring arrangement with recourse and included a
holdback of $6,000. If the fair value of the recourse obligation is equal to the allowance of
$3,500, which one of the following entries will Ritter make to record this transaction?
a.
DR Cash
$100,000
DR Allowance for doubtful accounts
3,500
CR Accounts receivable
$100,000
CR Recourse obligation
3,500
b.
DR Cash
$88,000
DR Loss on sale of receivables
6,000
DR Allowance for doubtful accounts
3,500
DR Due from Hisker Enterprises
6,000
CR Accounts receivable
$100,000
CR Recourse obligation
3,500
c.
DR Cash
$88,000
DR Loss on sale of receivables
12,000
CR Accounts receivable
$100,000
d.
DR Cash
$88,000
DR Loss on sale of receivables
12,000
CR Due to Hisker Enterprises
$100,000
50. Assuming the transaction was a collateralized loan, which one of the following entries will
Ritter make to record this transaction?
a.
DR Cash
$94,000
DR Prepaid interest
6,000
CR Accounts receivable
$100,000
b.
DR Cash
$94,000
DR Interest expense
6,000
CR Loan Payable—Hisker
Enterprises
$100,000
c.
DR Cash
$94,000
DR Prepaid interest
6,000
CR Loan Payable—Hisker
Enterprises
$100,000
d.
DR Cash
$94,000
CR Loan Payable—Hisker
Use the following to answer questions 51 and 52:
REFERENCE: Ref. 08_05
Harry Jones accepted a six-month, 8%, $40,000 note receivable from a customer on July 1, 2018.
Jones has an arrangement with the National Bank to discount selected customer notes at 10%
without recourse.
[QUESTION]
REFER TO: Ref. 08_05
51. On August 1, 2018, Jones discounted the note under the arrangement with National Bank.
What was the amount of proceeds Jones received from the discounted note?
a. $38,267
b. $39,867
c. $40,000
d. $41,600