Accounting Chapter 7 The note can be considered to be impaired only

*PROBLEM 7.14 (Continued)

(b)

November 30

Cash …………………………………………………………………

1,400.00

Interest Revenue ……………………………………….

1,400.00

Office Expense (bank charges) …………………………..

Cash …………………………………………………………

Accounts Receivable …………………………………………

Cash …………………………………………………………

*PROBLEM 7.15

(a) The entries for the issuance of the note on January 1, 2020:

The present value of the note is: $1,200,000 X .68058 = $816,700

(Rounded by $4).

Botosan Company (Debtor):

Cash ………………………………………………………………

816,700

Discount on Notes Payable …………………………..

Notes Payable ……………………………………………

National Organization Bank (Creditor):

Notes Receivable …………………………………………….

Discount on Notes Receivable …………………….

Cash ……………………………………………………….

(b) The amortization schedule for this note is:

SCHEDULE FOR INTEREST AND DISCOUNT AMORTIZATION—

EFFECTIVE-INTEREST METHOD

$1,200,000 Note Issued to Yield 8%

Date

Cash

Paid

Interest

Expense

Discount

Amortized

Carrying

Amount of

Note

1/1/20

$ 816,700

12/31/20

1,028,807

12/31/23

0

12/31/24

1,200,000

*PROBLEM 7.15 (Continued)

(c) The note can be considered to be impaired only when it is probable

(d)

The loss is computed as follows:

Carrying amount of loan (12/31/21) …………………………..

$952,599a

Loss due to impairment …………………………………………..

December 31, 2021

National Organization Bank (Creditor):

Bad Debt Expense …………………………………….

317,535

Allowance for Doubtful Accounts …………

TIME AND PURPOSE OF CONCEPTS FOR ANALYSIS

CA 7.1 (Time 10–15 minutes)

Purpose—to provide the student with the opportunity to discuss the deficiencies of the direct write-off

CA 7.2 (Time 15–20 minutes)

Purpose—to provide the student with the opportunity to discuss the accounting for cash discounts,

CA 7.3 (Time 25–30 minutes)

Purpose—to provide the student with the opportunity to discuss the advantages and disadvantages of

CA 7.4 (Time 25–30 minutes)

Purpose—to provide the student the opportunity to discuss when interest revenue from a note receivable

CA 7.5 (Time 20–25 minutes)

Purpose—to provide the student with a discussion problem related to notes receivable sold without and

with recourse.

CA 7.6 (Time 20–30 minutes)

Purpose—to provide the student the opportunity to account for a zero-interest-bearing note exchanged

CA 7.7 (Time 25–30 minutes)

Purpose—to provide the student the opportunity to calculate interest revenue on an interest-bearing

CA 7.8 (Time 25–30 minutes)

Purpose—to provide the student with a case related to the imputation of interest. One company has

CA 7.9 (Time 25–30 minutes)

Purpose—to provide the student with a case to analyze receivables irregularities, including a shortage.

This is a good writing assignment.

CA 7.10 (Time 25–30 minutes)

SOLUTIONS TO CONCEPTS FOR ANALYSIS

CA 7.1

(a) The direct write-off method overstates the trade accounts receivable on the balance sheet by

reporting them at more than the net amount expected to be collected. Furthermore, because the

write-off often occurs in a period after the revenues were generated, the direct write-off method

CA 7.2

(a) 1. Kimmel should account for the sales discounts at the date of sale using the net method by

2. There is no effect on Kimmel’s sales revenues when customers do not take the sales discounts.

Kimmel’s net income is increased by the amount of interest (discount) earned when customers

do not take the sales discounts.

(b) Trade discounts are neither recorded in the accounts nor reported in the financial statements.

CA 7.2 (Continued)

Kimmel should report interest revenue from the notes receivable on its income statement for the

CA 7.3

(1) Allowances and charge-offs. Method (a) is recommended. In the case of this company which

has a large number of relatively small sales transactions, it is practicable to give effect currently to

(2) Collection expenses. Method (a) or (b) is recommended. In the case of this company, one strong

argument for method (a) is that it is advisable to have the Bad Debt Expense account show the full

amount of expense relating to efforts to collect and failure to collect balances receivable. On the

(3) Recoveries. Method (c) is recommended. This method treats the recovery as a correction of a

previous write-off. It produces an allowance account that reflects the net experience with bad

CA 7.4

Part 1

CA 7.4 (Continued)

Part 2

(a) The allowance method based on the balance in accounts receivable is consistent with the expense

recognition principle. It attempts to value accounts receivable at the amount expected to be

collected and records bad debt expense in periods when credit quality decreases. The method is

CA 7.5

(a) The appropriate valuation basis of a note receivable at the date of sale is its discounted present

value of the future amounts receivable for principal and interest using the customer’s market rate

of interest, if known or determinable, at the date of the equipment’s sale.

(b) Corrs should increase the carrying amount of the note receivable by the effective-interest revenue

CA 7.6

(a) 1. It was not possible to determine the machine’s fair value directly, so the sales price of the

2. Rolen reports 2019 interest revenue determined by multiplying the note’s carrying amount at

September 30, 2019 times the buyer’s market rate of interest at the date of issue, times three–

twelfths. Rolen should recognize that there is an interest factor implicit in the note, and this

interest is recognized with the passage of time. Therefore, interest revenue for 2019 should

include three months’ revenue. The rate used should be the market rate established by the

original present value, and this is applied to the carrying amount of the note.

CA 7.7

(a) 1. For the interest-bearing note receivable, the interest revenue for 2020 should be determined by

2. For the zero-interest-bearing note receivable, the interest revenue for 2020 should be deter-

mined by multiplying the carrying value of the note by the prevailing rate of interest at the date

of the note by one third (September 1, 2020, to December 31, 2020). The carrying value of the

note at September 1, 2020, is the face amount discounted for two years at the prevailing interest

CA 7.7 (Continued)

(d) Because the trade accounts receivable were factored on a without recourse basis, the factor is

CA 7.8

The controller of Engone Company cannot justify the manner in which the company has accounted for

the transaction in terms of sound financial accounting principles.

Central to the transaction is the issue of imputed interest. If we assume that an arm’s-length exchange

has taken place, then the zero-interest-bearing feature masks the question of whether a gain, no gain

or loss, or a loss occurred.

For a gain to occur, the interest imputation must result in an interest rate of about 5% or less. To

illustrate:

CA 7.9

To: Mark Price, Branch Manager

From: Accounting Major

Date: October 3, 2020

Subject: Discrepancy in the Accounts Receivable Account

While performing a routine test on accounts receivable balances today, I discovered a $2,000

discrepancy. I believe that this matter deserves your immediate attention.

To compute the overage, I determined that the accounts receivable balance should have been based

Note to Instructors: This situation could result from 1) Collins colluding with a customer, or 2) a

lack of segregation of duties where Collins is also involved with collections.

CA 7.10

(a)

(1) Steps to Improve

Accounts Receivable Situation

(2) Risks and Costs Involved

Establish more selective credit-

This policy could result in lost sales and

CA 7.10 (Continued)

(1) Steps to Improve

Accounts Receivable Situation

(2) Risks and Costs Involved

Establish a more rigorous col-lection

policy either through external

This policy may offend current

customers and thus risk future sales.

(b) No, the controller should not be concerned with Marvin Company’s growth rate in estimating the

allowance. The accountant’s proper task is to make a reasonable estimate of uncollectible

accounts. In making the estimate, the controller should consider the previous year’s write–offs and

FINANCIAL REPORTING PROBLEM

(a) Under “Cash Equivalents” in its notes to the consolidated financial

statements, P&G indicates:

(b) P&G has $5,569 billion in cash and cash equivalents. As disclosed in

(c) As indicated in Note 1, the company’s products are sold primarily

through retail operations including mass merchandisers, grocery

stores, membership club stores, drug stores, department stores, salons,

COMPARATIVE ANALYSIS CASE

(a) Cash and cash equivalents: ($ millions) at year-end 2017:

Coca-Cola, PepsiCo,

(b) Accounts receivable (net):

Coca-Cola,

PepsiCo,

$3,667

$7,024

(c) Accounts Receivable turnover ratio and days outstanding for

receivables:

Coca-Cola

PepsiCo

FINANCIAL STATEMENT ANALYSIS CASE 1

(a) Cash may consist of funds on deposit at the bank, negotiable instru–

ments such as money orders, certified checks, cashier’s checks,

personal checks, bank drafts, and money market funds that provide

checking account privileges.

(c) A compensating balance is that portion of any cash deposit main-

tained by an enterprise which constitutes support for existing borrow–

ing arrangements with a lending institution.

(d) Short-term investments are investments held temporarily in place of

cash which can be readily converted to cash when current financing

needs make such conversion desirable. Examples of short-term invest–

FINANCIAL STATEMENT ANALYSIS CASE 1 (Continued)

(e) Occidental would record a loss of $30,000,000 as revealed in the

following entry to record the transaction: