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P8-15. Accounting for transfer of receivables (LO 8-6)
It seems that Ricoh Company is treating the discounting of receivables
as a sale. Note that Ricoh indicates that “trade notes receivable
discounted are contingent liabilities.” If Ricoh had treated the
Crown Crafts appear to use a similar accounting treatment, i.e., the
money received from the factor is considered as a liquidation of the
receivables.
There are substantial differences in the economics of the transactions.
Crown Craft transfers the receivable without recourse as to credit
losses, i.e., in effect, the factor becomes the “true” owner of the
receivables by bearing the credit risk. Whereas, Ricoh is still
responsible for all the credit risk since the transfers are with full
recourse, i.e., Ricoh retains the economic risk (i.e., risk of credit
losses) of owning the receivables. However, Foxmeyer falls
P8-16. Determining whether existing receivables represent real sales
(LO 8-3)
Requirement 1:
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The shipment of the 19 motors to Macco Corporation do not represent
sales, but a transfer of inventory from one point (Moto-Lite’s factory) to
The remaining ten aircraft engines at Macco’s represent consigned
Requirement 2:
As stated above, the aircraft engines at Macco’s facility represent
Moto-Lite (consigned) inventory until they are placed into Macco’s
production process. The nine engines used by Macco would be
included in Moto-Lites sales for the quarter ending October 31.
Moto-Lite Company
Summary of Overstatements
Accounts Gross Profit
Description Receivable Sales (35% of sales)
Originally recorded:
Inventory is understated by $39,000. This is determined as follows.
The average cost of each engine is $3,900 (i.e., $6,000 selling price
© 2018 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale
or distribution in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted
on a website, in whole or part. 8-2
Financial Reporting and Analysis (7th Ed.)
Chapter 8 Solutions
Receivables
Cases
Cases
C8-1. Garrels Company: Analyzing allowances—Comprehensive (LO
8-2)
Requirement 1:
Allowance for Doubtful Accounts
(2015)
Allowance for doubtful
accounts (2016)
Write-offs “A” Write-offs 622
“C” Ending balance
Allowance for Doubtful Accounts
(2017)
Write-Offs 1
2015:
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on a website, in whole or part. 8-3
End. balance = beg. Balance + current year bad debt provision -
write-offs
2016:
B = Beginning balance in 2016 = ending balance in 2015 = $1,302
End. Balance 2016 = Beg. balance + current year bad debt provision -
write-offs
C = $1,302 + $502 - $622
2017:
D = Beginning balance in 2017 = ending balance in 2016 = $1,182
End. balance 2017 = Beg. balance + current year bad debt provision -
write-offs
Requirements 2 & 3:
Allowance method Direct write-off
2015
DR Allowance for doubtful
2016
DR Allowance for doubtful
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or distribution in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted
on a website, in whole or part. 8-4
CR Allowance for doubtful
Requirement 4:
The allowance method is consistent with the matching principle
underlying the accrual accounting model, whereas the direct write-off
method is not.
Requirement 5:
The cumulative income difference is equal to the change in the
balance of the allowance account from 2015 to 2017.
So income under the allowance method would be $129 lower since
the allowance has increased by $129. To “prove” this, subtract the
Income
Difference
Year
Requirement 6:
If the firm wanted to be conservative, the initial provision could be
increased by the entire $300,000. If the firm wanted to be optimistic,
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or distribution in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted
on a website, in whole or part. 8-5
make an estimate of the probability that the customer will go bankrupt
(e.g., 35.0%), and then the initial provision could be increased by this
probability times the $300,000(i.e., $105,000). Management’s
Requirement 7:
a) Here, the CFO might want to take the entire $300,000 thousand as
an additional provision because earnings before income taxes of $11
million is well below the bonus plan minimum of $17 million. In other
b) Here, the CFO might not want to take any additional bad debt
provision because earnings before income taxes of $18.02 million is
above the bonus plan minimum of $17 million. Every dollar of extra
c) Here, the CFO might want to take the entire $300,000 as an
additional bad debt provision because earnings before income taxes
of $38.25 million exceeds the ceiling of the bonus plan ($27 million).
Here, management doesn’t lose any bonus money by taking any or all
d) Here, management might want to take an additional provision of
$150,000 because earnings before income taxes of $27.15 million
The moral of the story is that management’s financial reporting
decisions are not going to be made in isolation of other factors.
Requirement 8:
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on a website, in whole or part. 8-6
Managers might use the provision for bad debts to help avoid violation
of debt covenant restrictions that are written in terms of accounting
numbers. Some debt contracts contain minimum (or maximum) levels
that various financial ratios must adhere to or the firm will be declared
Requirement 9:
“Managing” a financial statement item suggests the ability to influence
net income and the pattern of net income growth from year to year.
a) Depreciation method choice.
C8-2. Citigroup, Inc.: Analyzing allowance for loan losses (LO 8-2, LO 8-7)
Requirement 1 – Allowance for loans
Details of Citigroup’s Credit Loss Experience are reproduced below (in
millions).
2009 2008 2007 2006 2005
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Net loans charged-off
(30,741
) (19,011) (9,926) (6,861) (6,816)
Allowance for loan losses as a percentage of total
loans 6.09% 4.27% 2.07% 1.32% 1.68%
Net consumer credit losses as a percentage of
Requirement 1.a. – Comparison of charge-offs for 2008 and 2009
Requirement 1.b. – Provision for loan losses
Requirement 1.c. – Trend in provision for loan losses to total loans
The provision as a percentage of total loans has increased substantially
since 2005 with the largest increases in the percentage occurring in
1 Other—net includes reductions to the loan loss reserve related to securitizations and the sale or
transfers to held-for-sale of various loans.
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on a website, in whole or part. 8-8
Requirement 2 – Evaluation of loan performance
Based on the increases to the allowance and provision account, we
would expect that the loans on the books in 2009 are lower quality and
that defaults should be higher than in past years. Management
acknowledges that 2009 was a difficult year, but that signs of
improvement in the economy were in evidence. The company took a
number of steps in 2009 to improve its financial position and operating
2010 BUSINESS OUTLOOK
While showing signs of improvement, the macroeconomic environment going into
2010 remains challenging, with U.S. unemployment still elevated. The U.S.
government has indicated its intention to continue scaling back programs put in
place to support the market during 2008 and 2009. The impact of the U.S.
government’s exit from many of these programs is a source of uncertainty in 2010,
In addition, the potential impact of new laws and regulations (e.g., The Credit Card
Accountability Responsibility and Disclosure Act of (CARD Act)), potential new
capital standards, and other legislative and regulatory initiatives is a source of
Citigroup’s loan loss experience in 2010, and beyond, will certainly be
affected by events like those mentioned that are largely beyond their
control.
Requirement 3 – Effect of FAS 166 and FAS 167 on Citigroup
Adopting FAS 166 and FAS 167 will impact Citigroup’s regulatory capital
ratios by requiring Citigroup to include in its consolidated financial
statements certain variable interest entities and qualifying special purpose
© 2018 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale
or distribution in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted
on a website, in whole or part. 8-9
© 2018 by McGraw-Hill Education. This is proprietary material solely for authorized instructor use. Not authorized for sale
or distribution in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted
on a website, in whole or part. 8-10
