Chapter 9 Receivables 171
SUGGESTED APPROACH
After the students have covered the material on how to determine the uncollectible values using both the
allowance method and the direct write-off method, it is helpful to summarize the differences between the
two. The allowance method is the preferred method and the only GAAP-approved method in most
instances because it adheres to the matching concept, thus matching expenses with the revenue that
generated them. It, however, requires determining a method of estimating these expenses (percent of
credit sales or receivables aging procedures). Since this expense is an estimate, it requires keeping track
of the estimated expense compared to the actual expense. This is accomplished by using a contra asset
account normally called the Allowance for Doubtful Accounts, which is credited with the estimated bad
debt expense at the end of each period and debited with the actual bad debts when they are determined to
be uncollectible. Allowance for Doubtful Accounts is reflected on the balance sheet as a reduction of
Accounts Receivable, thus showing the net receivables value on the statement.
Compared to the allowance method, the journal entries for the direct write-off method of recording
uncollectible accounts are very straightforward. Uncollectible receivable accounts are expensed and
written-off when it is determined that they cannot be collected. Thus, there is no need for either
Allowance for Doubtful Accounts or the associated adjusting entry at the end of the accounting period.
However, the direct write-off method does not comply with the matching principle and, therefore, is not
suitable for use in most cases.
OBJECTIVE 6
Describe the accounting for notes receivable.
SYNOPSIS
A note has advantages over an accounts receivable in that the note holder has a stronger legal claim.
When a business has a note, the debtor has usually signed the note and agreed to pay, with interest, the
amount due on a specific date. Exhibit 6 displays a promissory note, and Exhibit 7 demonstrates how to
determine the due date of the note. On the due date, the maker of the note must pay the maturity value to
the payee. A promissory note may be received by a business when a customer cannot pay his account
when due. Essentially, the customer is promising to pay interest if given a longer period to pay. The notes
receivable is replacing the accounts receivable. This transaction is shown at the bottom of page 428 in the
text. On the date the note is paid, the business records the receipt of cash and credits Notes Receivable
and Interest Revenue. If the maker fails to pay, the note is dishonored. Because the amount owed is still
due, Notes Receivable is credited and the account receivable is reinstated.
Key Terms and Definitions
• Dishonored Note Receivable – A note that the maker fails to pay on the due date.
• Maturity Value – The amount that is due at the maturity or due date of a note.
172 Chapter 9 Receivables
Relevant Example Exercises and Exhibits
• Example Exercise 9-5 Note Receivable
• Exhibit 6 – Promissory Note
• Exhibit 7 – Determining Due Date of Promissory Note
SUGGESTED APPROACH
The accounting implications of a promissory note referenced by this learning objective are determining
(1) the due date of a note, (2) the interest on a note, and (3) the maturity value of a note. These objectives
can be covered effectively by demonstrating each calculation and asking your students to practice the
same technique through a group learning activity.
One advantage of a note receivable is that it represents a stronger legal claim than an accounts receivable.
Because the debt and repayment terms are acknowledged by the debtor’s signature, a note will hold up
better in court if disputed. Since notes are a stronger legal document, it is a good idea to ask a credit
customer to sign a note receivable (rather than allowing him or her to buy on an open account) if the
following conditions exist:
1. The credit period is longer than 60 days.
2. The purchase involves a large sum of money.
3. The customer is asking for a time extension on an account receivable.
DEMONSTRATION PROBLEM—Determining the Due Date of a Note
To determine the due date of a note, start with the number of days in the term of the note. Next, subtract
the number of days in each month that pass until you reach 30 or less. That number represents the due
date of the note.
For example, assume that a 120-day note is signed on March 11. The due date of that note is calculated as
follows:
Term of the note 120
Days that pass in March:
Number of days in March 31
Date of the note 11 20
Number of days left 100
Days that pass in April 30
Number of days left 70
Days that pass in May 31
Number of days left 39
Days that pass in June 30
Number of days left 9 9 < 31; therefore, the due date is July 9
Chapter 9 Receivables 173
Usually, the only aspect of this calculation that troubles students is determining the number of days that
pass in the month the note is signed. Remind students that interest is not charged on the date the note is
signed. Therefore, you should begin counting on the day after the date on the note to determine the due
date.
For example, in the preceding problem, the note was signed on March 11. Therefore, count the number of
days in the month of March, starting with March 12. Some students will argue that there are 19 days
between March 12 and March 31 (31 – 12 = 19 days). However, if you want to begin with March 12, you
subtract only the first 11 days (31 – 11 = 20 days). If your doubting students don’t agree with that
argument, tell them to count the days on their fingers, beginning with March 12—that will convince them.
After you convince them that there really are 20 days between March 12 and March 31, your students
may ask if it really matters whether you collect the note on July 9 or July 10. Remind them that accepting
payment on a note one day late without charging interest or a penalty may set a precedent that will make
it difficult to collect a note on time in the future.
DEMONSTRATION PROBLEM—Calculating Interest and Maturity Value of a
Note
The formula for calculating interest is as follows:
Interest = Face Amount (or Principal) Rate Time
Because interest rates are stated in annual percentages, the formula must include a time period if a note is
outstanding for less than one year. The time period is stated either in terms of months (e.g., 9/12 for 9
months) or days (e.g., 60/360), depending on how the time period on the note is stated. Remind students
that 360 days is assumed to be the number of days in a year for all their interest calculations.
To demonstrate this concept, calculate the interest on a $10,000, 120-day, 12 percent note:
$10,000 12% 120/360 = $400 interest
The interest on any amount for 60 days at 6 percent can be determined by moving the decimal point in the
principal two places to the left. For example, the interest on $1,500 for 60 days at 6 percent is $15. This is
called the 60–day, 6 percent method. This method is useful for checking the “reasonableness” of
computations when a calculator is used.
You will also need to demonstrate the calculation of maturity value. The maturity value of a note is the
amount that is due to be paid on the maturity date. The formula is:
Maturity Value = Face Amount + Interest
The maturity value on the $10,000, 120-day, 12 percent note is calculated as follows:
$10,000 + $400 = $10,400
174 Chapter 9 Receivables
GROUP LEARNING ACTIVITY—Determining Due Date, Interest, and
Maturity Value of a Note
TM 9-5 provides information on two promissory notes. Divide the class into small groups and ask your
students to determine the due date, interest, and maturity value for each. TM 9-6 shows the solution to
this exercise.
Coverage of journalizing related to accounting for notes receivable transactions should begin with the
entries to record acceptance and collection of notes. A Demonstration Problem for that purpose follows.
Your students should find the entries to record the acceptance and collection of notes to be relatively
simple. Therefore, as an alternative to showing students how to do these entries, you may want to ask
them to try the entries on their own. Give the class the transactions and ask them to record the correct
journal entries. Ask them to work individually on this assignment. After allowing a couple of minutes to
work, write the correct entries on the board. This approach helps develop critical-thinking skills. It also
sends a subtle message to your students that you don’t have to tell them every answer. Transactions for
dishonored notes and accruing interest earned on notes will be more difficult for your students. You will
probably need to demonstrate those entries.
DEMONSTRATION PROBLEM—Journal Entries for Notes Receivable
Transactions
Two reasons for accepting a note from a customer are (1) as a promise of payment on a credit purchase
and (2) to grant a time extension on an amount owed on an open account. In both cases, the customer’s
note is recorded in a notes receivable account.
Use the following transactions for Joy’s TV and Electronics to demonstrate journal entries for your class:
1. June 1: Sold a $2,000 big-screen TV to a customer. The customer was asked to sign a 120-
day, 12 percent note. (Hint: The interest is not recorded until it is earned.)
June 1 Notes Receivable……………………. 2,000
Sales…………………….…. 2,000
2. Sept. 29: Received payment on the $2,000, 120-day, 12 percent note.
Sept. 29 Cash………………………………… 2,080
Notes Receivable……………. 2,000
Interest Revenue…………….. 80
3. Oct. 1: Granted a 60-day time extension to S. Greene, who owed $1,000 on account. Ms.
Greene signed a 60-day, 15 percent note for the amount owed.
Oct. 1 Notes Receivable…………………….. 1,000
Accounts Receivable-S. Greene 1,000
4. Nov. 30: Received payment on the $1,000, 60-day, 15 percent note from S. Greene.
Nov. 30 Cash………………………………….. 1,025
Notes Receivable…………….. 1,000
Interest Revenue……………… 25
5. Dec. 1: Granted a 90-day time extension to J. Smith, who owed $800 on an account. Mr. Smith
signed a 90-day, 15 percent note for the amount owed.
Dec. 1 Notes Receivable………………………. 800
Accounts Receivable—J. Smith 800
NOTE: Assume the accounting period ends on December 31. At that time, 30 days of interest have been
earned on the note from J. Smith. The matching concept dictates that any interest earned but not received
must be recorded through an adjusting entry. Therefore, an adjusting entry would be made to record 30
days of interest on the $800 note.
6. Dec. 31: Recorded interest earned on the note from J. Smith.
Dec. 31 Interest Receivable……………………. 10
Interest Revenue………………. 10
7. Mar 1: Received payment on the $800, 90-day, 15 percent note from J. Smith.
Mar. 1 Cash ………………………………… 1,030
Notes Receivable……………. 1,000
Interest Receivable………….. 10
Interest Revenue……………. 20
DEMONSTRATION PROBLEM—Dishonored Note
If the maker of a note fails to pay the note when it is due, the note has been dishonored. The total amount
due on the dishonored note is transferred back to the customer’s accounts receivable account. This places
a record of the dishonored note in the customer’s account, making it visible should the customer attempt
to purchase additional merchandise on credit.
On October 1, Joy’s TV and Electronics accepts a $1,500, 60 day, 10 percent note from R. Sams as a time
extension on an open account. The note is dishonored on its due date, November 30.
Entry to record acceptance of the note on October 1:
Oct. 1 Notes Receivable…………………….. 1,500
Accounts Receivable—R. Sams 1,500
Entry to record dishonor of the note on November 30:
Nov. 30 Accounts Receivable—R. Sams……… 1,525
Notes Receivable……………… 1,500
Interest Revenue………………. 25
176 Chapter 9 Receivables
OBJECTIVE 7
Describe the reporting of receivables on the balance sheet.
SYNOPSIS
Receivables expected to be realized within a year are reported on the balance sheet as a current asset.
Assets are recorded in order of liquidity, beginning with cash. Some businesses report their receivables at
the net realizable value.
SUGGESTED APPROACH
The Group Learning Activity that follows asks your students to prepare the Current Assets section of a
balance sheet.
GROUP LEARNING ACTIVITY—Current Assets on the Balance Sheet
TM 9-7 shows information taken from the accounting records of Leder Hardware. Divide your class into
small groups and ask them to prepare the Current Assets section of the balance sheet. Emphasize that
current assets are normally presented in order of their liquidity on the balance sheet. TM 9-8 contains the
solution.
OBJECTIVE 8
Describe and illustrate the use of accounts receivable turnover and number of days’ sales in
receivables to evaluate a company’s efficiency in collecting its receivables.
SYNOPSIS
This chapter uses two financial measures that are especially helpful in evaluating the efficiency with
which a business collects its receivables. The first is the accounts receivable turnover; it measures how
frequently during the year the accounts receivable are being converted to cash. It is calculated as:
accounts receivable turnover = sales/average accounts receivable. The number of days’ sales in
receivables is an estimate of the length of time the accounts receivable have been outstanding. It is
calculated as: number of days’ sales in receivables = average accounts receivable/average daily sales.
Key Terms and Definitions
• Accounts Receivable Turnover – The relationship between sales and accounts receivable,
computed by dividing the sales by the average net accounts receivable; measures how frequently
during the year the accounts receivable are being converted to cash.
• Number of Days’ Sales in Receivables – The relationship between sales and accounts receivable,
computed by dividing the net accounts receivable at the end of the year by the average daily sales.
Chapter 9 Receivables 177
Relevant Example Exercises and Exhibits
• Example Exercise 9-6 Accounts Receivable Turnover and Number of Days’ Sales in Receivables
SUGGESTED APPROACH
The ratios to compute accounts receivable turnover and average days’ sales in receivables are used to
evaluate the efficiency in collecting receivables and managing credit. They provide a method to analyze
the accounting data related to receivables. A Lecture Aid for use in presenting this material follows.
LECTURE AID—Financial Ratios Related to Receivables
Accounts receivable turnover measures the efficiency in collecting accounts receivable by comparing a
company’s average accounts receivable balance to sales. The formula is:
Accounts Receivable Sales
Turnover = Average Accounts Receivable
In effect, this ratio measures how many times during a year a company collects its average outstanding
accounts receivable. For example, if a company sold $300 in merchandise during a year and its average
accounts receivable balance that year was $100, the company turned over (or collected) its receivables
three times ($300/100 = 3). The company sold $100 worth of merchandise and collected its money three
times.
The ratio uses average accounts receivable instead of the ending balance of accounts receivable in order
to smooth out any seasonal fluctuations in receivables. In determining this average, it is ideal to average
accounts receivable at the end of each month for a year. However, in many cases, monthly data are not
available, so the beginning and end of the year accounts receivable data are averaged.
Average Accounts Beginning Accounts Receivable + Ending Accounts Receivable
Receivable = 2
Number of days’ sales in receivables estimates the average time (in days) it takes a company to collect its
accounts receivable. This collection time can be compared with the company’s standard credit terms to
determine whether the credit collection policies are effective in collecting receivables. For example, a
number of days’ sales in receivables of 45 is not good if the standard credit terms are n/30.
The formula for number of days’ sales in receivables is as follows:
Number of Days’ Sales Accts. Receivable Balance, End of Year
in Receivables = Average Daily Sales
where:
Sales
Average Daily Sales = 365
178 Chapter 9 Receivables
For example, assume a business sold a total of $839,500 during the current year and its accounts
receivable balance at the end of the year was $73,600. The number of days’ sales in receivables would be
computed as follows:
Average Daily Sales = $2,300 ($839,500/365)
Number of Days’ Sales in Receivables = 32 ($73,600/$2,300)
Ask your students to comment on this ratio if the company’s standard credit terms ask customers to pay in
30 days.
Assume that same business had $72,000 in accounts receivable on December 31 of the prior year. What
was the business’s accounts receivable turnover?
Average Accounts Receivable = $72,800 [($72,000 + $73,600)/2]
Accounts Receivable Turnover = 11.5 ($839,500/72,800)
Type Item Description LO(s) Difficulty Time Est BUSPROG AICPA ACBSP – APC Bloom’s EE Excel GL SMH FAI Service Real World Writing Ethics Internet Group
DQ 1 1 Easy 5 min. Analytic Measurement Receivables Reporting Remembering
DQ 2 2 Easy 5 min. Analytic Measurement Receivables Reporting Remembering
DQ 3 4 Easy 5 min. Analytic Measurement Receivables Reporting Remembering
DQ 4 7 Easy 5 min. Analytic Measurement Receivables Reporting Remembering
DQ 5 4 Easy 5 min. Analytic Measurement Receivables Reporting Remembering
DQ 6 5 Easy 5 min. Analytic Measurement Receivables Reporting Remembering
DQ 7 6 Easy 5 min. Analytic Measurement Receivables Reporting Remembering
DQ 8 6 Easy 5 min. Analytic Measurement Receivables Reporting Remembering
DQ 9 6 Easy 5 min. Analytic Measurement Receivables Reporting Applying
DQ 10 6 Easy 5 min. Analytic Measurement Receivables Reporting Applying
PE 1A Direct write-off method 3 Easy 5 min. Analytic Measurement Receivables Reporting Applying x
PE 1B Direct write-off method 3 Easy 5 min. Analytic Measurement Receivables Reporting Applying x
PE 2A Allowance method 4 Easy 5 min. Analytic Measurement Receivables Reporting Applying x
PE 2B Allowance method 4 Easy 5 min. Analytic Measurement Receivables Reporting Applying x
PE 3A Percent of sales method 4 Easy 10 min. Analytic Measurement Receivables Reporting Applying x
PE 3B Percent of sales method 4 Easy 10 min. Analytic Measurement Receivables Reporting Applying x
PE 4A Analysis of receivables method 4 Easy 10 min. Analytic Measurement Receivables Reporting Applying x
PE 4B Analysis of receivables method 4 Easy 10 min. Analytic Measurement Receivables Reporting Applying x
PE 5A Note receivable 6 Easy 10 min. Analytic Measurement Receivables Reporting Applying x
PE 5B Note receivable 6 Easy 10 min. Analytic Measurement Receivables Reporting Applying x
PE 6A Accounts receivable turnover and number of days’ sales in receivables 8 Moderate 15 min. Analytic Measurement Receivables Reporting Applying x x
PE 6B Accounts receivable turnover and number of days’ sales in receivables 8 Moderate 15 min. Analytic Measurement Receivables Reporting Applying x x
EX 1 Classifications of receivables 1 Easy 5 min. Analytic Measurement Receivables Reporting Applying x
EX 2 Nature of uncollectible receivables 2 Easy 10 min. Analytic Measurement Receivables Reporting Applying x x
EX 3 Entries for uncollectible accounts, using direct write-off method 3 Easy 10 min. Analytic Measurement Receivables Reporting Applying x
EX 4 Entries for uncollectible accounts, using allowance method 4 Easy 10 min. Analytic Measurement Receivables Reporting Applying x
EX 5 Entries to write off accounts receivable 3,4 Easy 10 min. Analytic Measurement Receivables Reporting Applying
EX 6 Providing for doubtful accounts 4 Moderate 15 min. Analytic Measurement Receivables Reporting Applying x
EX 7 Number of days past due 4 Easy 15 min. Analytic Measurement Receivables Reporting Applying
EX 8 Aging of receivables schedule 4 Moderate 20 min. Analytic Measurement Receivables Reporting Applying x x
EX 9 Estimating allowance for doubtful accoutns 4 Moderate 20 min. Analytic Measurement Receivables Reporting Applying x x
EX 10 Entry for uncollectible accounts 4 Easy 5 min. Analytic Measurement Receivables Reporting Applying x
EX 11 Estimating doutful accounts 4 Moderate 15 min. Analytic Measurement Receivables Reporting Applying x
EX 12 Entry for uncollectible accounts 4 Easy 5 min. Analytic Measurement Receivables Reporting Applying x
EX 13 Entries for bad debt expense under the direct write-off and allowance methods 5 Moderate 30 min. Analytic Measurement Receivables Reporting Applying x x
EX 14 Entries for bad debt expense under the direct write-off and allowance methods 5 Moderate 30 min. Analytic Measurement Receivables Reporting Applying x x x
EX 15 Effect of doubtful accounts on net income 5 Easy 10 min. Analytic Measurement Receivables Reporting Applying
EX 16 Effect of doubtful accounts on net income 5 Moderate 15 min. Analytic Measurement Receivables Reporting Applying
EX 17 Entries for bad debt expense under the direct write-off and allowance methods 5 Moderate 30 min. Analytic Measurement Receivables Reporting Applying x
EX 18 Entries for bad debt expense under the direct write-off and allowance methods 5 Moderate 30 min. Analytic Measurement Receivables Reporting Applying
EX 19 Determine due date and interest on notes 6 Easy 15 min. Analytic Measurement Receivables Reporting Applying x x
EX 20 Entries for notes receivable 6 Easy 10 min. Analytic Measurement Receivables Reporting Applying x
EX 21 Entries for notes receivable 6 Moderate 15 min. Analytic Measurement Receivables Reporting Applying
EX 22 Entries for notes receivable, including year-end entries 6 Easy 10 min. Analytic Measurement Receivables Reporting Applying x
EX 23 Entries for receipt and dishonor of notes receivable 6 Easy 10 min. Analytic Measurement Receivables Reporting Applying
EX 24 Entries for receipt and dishonor of notes receivable 4,6 Moderate 15 min. Analytic Measurement Receivables Reporting Applying x
EX 25 Receivables on the balance sheet 7 Easy 5 min. Analytic Measurement Receivables Reporting Applying
EX 26 Accounts receivable turnover and days’ sales in receivables 8 Moderate 15 min. Analytic Measurement Receivables Reporting Applying x x x
EX 27 Accounts receivable turnover and days’ sales in receivables 8 Moderate 15 min. Analytic Measurement Receivables Reporting Applying x x
EX 28 Accounts receivable turnover and days’ sales in receivables 8 Moderate 15 min. Analytic Measurement Receivables Reporting Applying x
EX 29 Accounts receivable turnover 8 Moderate 15 min. Analytic Measurement Receivables Reporting Applying x x
PR 1A Entries related to uncollectible accounts 4 Challenging 1 hour Analytic Measurement Receivables Reporting Applying x x
PR 2A Aging of receivables; estimating allowance for doubtful accounts 4 Challenging 1 hour Analytic Measurement Receivables Reporting Applying x
PR 3A Comparing two methods of accounting for uncollectible receivables 3,4,5 Challenging 1 hour Analytic Measurement Receivables Reporting Applying x
PR 4A Details of notes receivable and related entries 6 Moderate 30 min. Analytic Measurement Receivables Reporting Applying x
PR 5A Notes receivable entries 6 Moderate 1 hour Analytic Measurement Receivables Reporting Applying
PR 6A Sales and notes receivable transactions 6 Moderate 1 hour Analytic Measurement Receivables Reporting Applying x
PR 1B Entries related to uncollectible accounts 4 Challenging 1 hour Analytic Measurement Receivables Reporting Applying x x
PR 2B Aging of receivables; estimating allowance for doubtful accounts 4 Challenging 1 hour Analytic Measurement Receivables Reporting Applying x
PR 3B Comparing two methods of accounting for uncollectible receivables 3,4,5 Challenging 1 hour Analytic Measurement Receivables Reporting Applying x
PR 4B Details of notes receivable and related entries 6 Moderate 30 min. Analytic Measurement Receivables Reporting Applying x
PR 5B Notes receivable entries 6 Moderate 1 hour Analytic Measurement Receivables Reporting Applying
PR 6B Sales and notes receivable transactions 6 Moderate 1 hour Analytic Measurement Receivables Reporting Applying x
CP 1 Ethics and professional conduct in business 6 Easy 5 min. Ethics Industry Receivables Reporting Applying x x
CP 2 Estimate uncollectible accounts 4 Moderate 30 min. Analytic Measurement Receivables Reporting Applying x
CP 3 Accounts receivable turnover and days’ sales in receivables 8 Challenging 30 min. Reflective Thinking Critical Thinking Receivables Reporting Applying x x
CP 4 Accounts receivable turnover and days’ sales in receivables 8 Challenging 1 hour Reflective Thinking Critical Thinking Receivables Reporting Applying x x
CP 5 Accounts receivable turnover and days’ sales in receivables 8 Moderate 30 min. Reflective Thinking Critical Thinking Receivables Reporting Applying x x
CP 6 Accounts receivable turnover 8 Challenging 1 hour Reflective Thinking Critical Thinking Receivables Reporting Applying x x
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