ACCOUNTS

RECEIVABLE--------------------------------------------------------------------------------------------------
 Receivable------------------------------------------------------------------------------------------------------------
------
→ financial assets that represent contractual rights to receive cash or other financial asset from another
entity.

Financial assets --- an asset that will be converted into cash

→ involves atleast two parties:

creditor (sells goods or services and obtain receivable)
debtor (makes the purchase and creates a payable)
Two General Classes of Receivables (for Non-financial Institutions) ----------------------------------------

 Trade Receivables – claims arises from sale of goods or services in the ordinary course of business
→ classified as current assets (expected to be realized in cash within one year or within the normal
operating cycle, whichever is longer)
two major types:

- Accounts Receivable (open account---supported by oral or informal promises to pay)

- Notes Receivable (supported by written or formal promises to pay in the form of promissory
notes)
 Non-Trade Receivables – represents claims arising from sources other than sale of goods or services
in the ordinary course of business
→ classified as current assets when (expected to be realized in cash within one year)
noncurrent assets when (more than 1 year)
Rule of Silence (non –trade)

- Loan Receivable (loans extended by financial institutions) --- also supported by promissory
notes
- Advances (officers and employees--NC, suppliers--C, and affiliates--NC)
- Accrued Income (income earned but not yet collected: interest income, dividend income) ---
C
- Creditor’s account with debit balance—receivable---C
- Deposits (reimbursable deposits paid: to cover potential damages or losses, for guarantee of
performance or payment, for returnable items) ---NC
- Claims Receivable (carriers for damaged/loss goods; supplier for returned or damaged
goods) ---C
- Subscription receivable

Financial Statement
Presentation----------------------------------------------------------------------------------------
→ Trade and non-trade receivables that are currently collectible are combined and presented on the
statement of financial position in a single line item as “Trade and other Receivables”

Note:

Financial institutions have no current or non-current distinction (because in preparing statement of

financial position, receivables are presented based on liquidity.

Abnormal Balances in
Accounts-----------------------------------------------------------------------------------------
→ for abnormal balances, adjustment is needed to eliminate it prior to the preparation of fs
o Credit balance in Accounts Receivable
 resulting from overpayments, advances, or errors
 presented as current liabilities and not offset against receivables
Example:
ABC Co. has an outstanding receivable of 10,000 from Customer A.

Customer A remits 16,000 (payment for the existing Accounts Receivable Customer-A
receivable and the excess as advance payment. beg. bal. 10,000 16,000 collection

Cash 16,000 (6.000) end. bal.

Accounts Receivable 16,000
Adjusting Entry Accounts Receivable Customer-A
beg. bal. 10,000
Accounts Receivable 6,000 AJE 6,000 16,000 collection
Advances from Customers 6,000
- end. bal.

Note: Accounts in the Subsidiary Ledger are credited for all cash receipts regardless of whether the cash
receipt is for the collection of recorded receivables or as an advance payment.

o Debit Balance in Accounts Payable

 resulting from overpayments, advances, or errors
 presented as current assets and not offset against payable

Note: Accounts in the Subsidiary Ledger are debited for all cash payments regardless of whether the cash
payment is for the settlement of recorded payables or as an advance payment.

Additional Info:
 Identification of abnormal balances in accounts is part of audit procedures
 Scanning (analytical procedure where accounts are scanned for abnormal balances)
 Computer Assisted Audit Techniques (CAATs) ---app that identifies abnormal balances
Valuation and Classification of
Receivables--------------------------------------------------------------------------
Initial Measurement – initially recognized at fair value plus transaction costs
Subsequently – measured at amortized cost
 Accounts
Receivable----------------------------------------------------------------------------------------------------
→ measured initially at face value/ original invoice price
→ subsequently measured at net realizable value / recoverable amount (amount of cash the entity actually
expects to collect from the receivables) --- by deducting allowances from the gross accounts receivable

Accounts Receivable xx
Less: Allowance for sales discount xx
Allowance for sales return and allowances xx
Allowance for freight xx
Allowance for bad debts xx
Net Realizable Value xx

o Sales Discount
- Trade Discounts – given to encourage orders in large quantities or to alter prices , deducted
from the list price to determine the invoice price (not recorded by either the buyer or seller)
- Cash Discounts – given to encourage prompt payment, deducted from the invoice price
o Sales return and allowances
o Freight

FOB (Free on Board) ---who will shoulder the freight

- FOB Destination (seller) --- record sale and A/R when the buyer received the goods
- FOB Shipping Point (buyer) --- record sale and A/R upon shipment

Freight Charges --- who will actually pay the freight

 Freight Prepaid – paid in advance by the seller before the shipment
 Freight Collect – will collect the shipping costs from the buyer upon delivery
o Bad Debts

Accounting for Receivables-------------------------------------------------------------------------------------------

 Gross Method (accounts receivable and sales are initially recorded at amounts gross amount)
 Net Method (accounts receivable and sales are initially recorded at net amounts immediately)

Accounting for Cash Discounts

GROSS METHOD NET METHOD

To record sale of merchandise: To record sale of merchandise:
 Accounts Receivable xx Accounts Receivable xx (net of sale discounts)
Sales xx Sales xx
To record collection within discount period To record collection within discount period

Cash xx Cash xx
Sales Discount xx Accounts Receivable xx
Accounts Receivable xx
To record Collection beyond the discount period To record Collection beyond the discount period

Cash xx Cash xx
Accounts Receivable xx Accounts Receivable xx
Sales Discount Forfeited xx (other
income)

 Accounting for Accounts Accounts--------------------------------------------------------------------------

Factors for Credit decision (past records of payments, financial condition, income of customers)
Two General Methods of Accounting for Uncollectible Accounts

 Allowance Method
 allowance is recognized for bad debts expense when the accounts becomes doubtful or
questionable
 when an account is determined to be uncollectible, the accounts are written off

Note: Write off---reduce the gross carrying amount of receivables when it has no reasonable
expectations of recovering.

 To record recovery (accounts collected after the write-off), reverse the write-off entry and
record collection

Note: The allowance account is credited instead of accounts receivable because the entity does not
actually know which specific accounts are uncollectible and besides the amount involved is only an
estimate.

 Direct Write-off Method

 bad debt expense is directly written off
 no entry is made for accounts that are merely doubtful of collection
 not acceptable for financial reporting purposes (except for entities with total asset/ liabilities
below 3,000,000)

Allowance Method Direct Write off Method

Date of Sale
Accounts Receivable xx Accounts Receivable xx
Sale xx Sale xx
Collectability become doubtful
Bad debt expense xx NO ENTRY
Allowance for bad debt expense xx
 Write-off
Allowance for bad debt expense xx Bad debt expense xx
Accounts Receivable xx Accounts Receivable xx
Recovery
Accounts Receivable xx Accounts Receivable xx
Allowance for bad debt expense xx Bad debt Expense xx

Cash xx Cash xx
Accounts Receivable xx Accounts Receivable xx

Methods of Estimating Uncollectible

Accounts---------------------------------------------------------------------
a. Percentage of Net Credit Sales
 Income Statement Approach (adherence to matching principle) --- bad debts are directly matched
to sales recognized in a period
 Doubtful Account Expense is computed

Note: Ending balance of AFDA = DAE+ Unadjusted AFDA (Beg AFDA – Write-offs + Recoveries)

b. Percentage of Receivable
 Financial Position Approach
 Required Balance of Allowance for Doubtful Accounts is computed

Note: Required Balance – Unadjusted Carrying Amount of AFDA (before recognizing DAE) = DAE

c. Aging of Receivable
 Financial Position Approach
 Required Balance of Allowance for Doubtful Accounts is computed by applying various
estimated percentages
 Receivables are classified into not due or past due (period beyond the maximum credit term)

Note: Required Balance – Unadjusted Carrying Amount of AFDA (before recognizing DAE) = DAE

Percentage Computation

Percentage = (Write-offs – Recoveries) / (Net Credit Sales)

Combination of
Methods---------------------------------------------------------------------------------------------------------
Classification of Bad
Debts-------------------------------------------------------------------------------------------------------
 presented in the income statement and other comprehensive income (function of expense
method)
  as administrative expense (credit granting and collections of accounts is separated from selling
expense)

Note: Write-offs and provision of DAE – authorized by the management and treasurer (credit
department)
 DAE – recognized periodically and part of regular expenses (not losses in the FS)
However, material write-downs of A/R should be presented as losses
Debit Balance in
AFDA------------------------------------------------------------------------------------------------------
→ when the amount needed to be written-off exceeds the existing balance of the allowance
→ adjusting entry is needed to eliminate the abnormal balance (Dr DAE and Cr AFDA)
Receivables dominated in foreign currency
 initially translated at the exchange rate at the date of transaction
 subsequently translated at the exchange rate at the end of accounting period
 adjustments for changes in exchange rates are recognized in profit or loss as foreign exchange
gain or loss (sales revenue on receivables are not adjusted)
Risk of Accounting loss or Off-balance sheet risk
Risk of Accounting Loss → risk that the carrying amount of a recognized asset will not be recovered
Ex.
A/R – 100,000
AFDA – 20,000 --- (100k – 20k) = 80k --- Risk of Accounting Loss
Off-balance Sheet Risk → potential loss that may exceed the amount recognized as an asset
Ex.
Total Potential loss: 120,000
Less: Carrying A/R: 80,000
Off Balance Sheet Risk: 40,000
Note: Possible losses but not probable are normally not recognized but rather disclosed only.
NOTES
RECEIVABLE---------------------------------------------------------------------------------------------------------
Promissory Note
→ unconditional promise in writing made by one person to another to pay on demand or at a fixed
determinable future time, a sum of certain money to order or bearer
Negotiable Instruments Law – a note can be transferred or sold to another person or a bank which is not
a party to the original loan
Two parties involved in Promissory Note:
 o Maker (who signs and promises to pay the amount required in the instrument)
o Payee (the person to whom the promise is made and to whom the instrument is payable)
 may either be interest-bearing note (principal amount to be paid at maturity date plus interest at a
specified date) or non-bearing note (does not specify interest rate but the face amount already
includes the interest charge)
Essential Elements
 Maker
 Payee
 Principal/Face Value (amount appearing on the face of the note --- amount borrowed)
 Simple Interest Rate (annual rate of interest --- basis for interest charges)
 Term (period of time which interest should be computed)
 Issue date (date when the note was signed and issued)
 Maturity date (date when maturity value should be paid)

Simple Interest = Principal x Rate x Time

Maturity Value = Principal + Interest

Valuation and Classification/Measurement

Notes Receivable Initially Subsequently

Short-term Interest Bearing Face Value Face Value
Long-term Interest Bearing Face Value Face Value
Short-term Noninterest Bearing Face Value Face Value
Long-term Noninterest Bearing Present Value Amortized Cost

Receivable Financing
→ the capability or financial flexibility of the company to generate cash out of its receivable
Common forms of Receivable Financing
1. Pledging (hypothecation) → receivables in general (no specific receivable is stated in the loan
contract) are used as collateral securities for loans
 does not qualify as transfer of financial asset (the borrower retains control over the pledged
receivables)
 treated as secured borrowing
 lender may hold any of the borrower’s receivables as collateral security
 not derecognized
Note: No changes in Accounting pertaining to Receivables – treated as normal receivable
Loan Transaction:

Interest not deducted in advance Interest deducted in advance

Borrowing of Loan Cash xx Cash xx
Loans Payable xx Discount on Notes Payable xx
Loans Payable
Payment of Interest Interest Expense xx Interest Expense xx
 Cash xx Discount on Notes Payable xx

Note: Only the loan transaction is recorded. NO ENTRY is made for the pledged receivables.
(only a note disclosure is necessary)

2. Assignment → more formal borrowing arrangement in which specific receivables used as collateral
are identified and stated in the loan contract
 lender may only hold as collateral security the specific receivables assigned
 transfer of financial asset that does not qualify for derecognition (assignor retains control
over the receivable transferred)
 evidence by financing agreement and promissory notes

Note: An entry is needed to specifically identify the assigned receivables from other receivables; as
“Receivables – Assigned”

Characteristics of Assignment
 The loan is at specified percentage of the face value of the collateral. Interest and service fee
are charged to the assignor.
 Notification basis – occasionally, debtors whose receivables have been assigned are notified to
the assignment.
 Debtors will remit payments not to the assignor but the assignee (assignee will inform the
assignor of collections made)
 Non-notification basis – mostly, debtors whose receivables have been assigned are not notified
to the assignment.
 Debtors will remit payments to the assignor
 Assigned accounts are segregated from other accounts. To determine the equity in assigned A/R
(A/R-assigned – Loans Payable)
Pro-forma Entries

Non-notification Basis Notification Basis

To record the Accounts Receivable – Assigned xx Accounts Receivable – Assigned xx
assignment. Accounts Receivable xx Accounts Receivable
xx
To record the receipt Interest deducted in advance Interest deducted in advance
of loan. Cash xx Cash xx
Service Fees xx Service Fees xx
Discount on Loans Payable xx Discount on Loans Payable xx
Loans Payable xx Loans Payable
xx
Interest not deducted in advance
Cash xx Interest not deducted in advance
Service Fees xx Cash xx
Loans Payable xx Service Fees xx
Loans Payable
xx
To record collections Cash xx No entry
 Sales Ret. And Allow. Xx
Accounts Receivable – Assigned
xx
Notified by the bank Loan Payable xx
for the collection Sales Ret. and Allow xx
Accounts Receivable – Assigned
xx
To record remittance Interest deducted in advance Payment of interest to the bank
of collections to the Loan Payable xx Interest Expense xx
bank. Cash Cash
xx xx

Interest not deducted in advance

Loan Payable
Discounts on Loans Payable xx
Cash
xx

3. Factoring → sale of receivables to a finance company, which is called a factor (buyer).

 Derecognition of asset --- transfer of control/ownership (the buyer handles the billing and
collection function)
 notification basis
Factoring with recourse – the transferor is held liable up to the guaranteed amount in case the debtor
fails to pay
Factoring without recourse – the transferor is not held liable in case the debtor fails to pay.

- Financial component approach (transferors continuing involvement)

Factor’s holdback
 With or without recourse, the transferor is responsible for any reduction in the collection (sales
returns, discounts, and allowances)
 Transferor records this under the “Factor’s holdback” account or “Receivable from Factor”
(the factor records a corresponding liability for the holdback)

Commissions and Interest Charges

 Factor charges the transferor certain percentage of receivables as service fee or commission

Two types of Factoring

 Casual Factoring

Cash xx
Allowance for Doubtful Accounts xx
Loss on Sale of Receivables (interest and service fee) xx
Receivable from factor xx
Accounts Receivable xx
 Receivable from Factor

Sales Return and Allowances xx

Receivable from factor xx

Cash xx
Receivable from factor xx
With recourse

Loss on Sale of Receivable xx

Recourse Liability xx

(if wajd gabayad)

Recourse Liability xx
Cash xx

(if gabayad) xx
Recourse Liability
Gain on Sale of Receivable xx

 Continue Agreement/ Regular Means

Cash xx
Allowance for Doubtful Accounts xx
Interest Expense xx
Factoring Fee xx
Receivable from factor xx
Accounts receivable xx

Receivable from Factor

Sales Return and Allowances xx

Receivable from factor xx

Cash xx
Receivable from factor xx
With recourse

Loss on Recourse Obligation xx

Recourse Liability xx

4. Discounting of Notes Receivables → sale of the note to other party usually a bank.
- Usually with recourse basis (notification basis)

Formula:
(amount received from the discounting of notes)
 Net Proceeds = Maturity Value - Discount
Maturity Value = Principal + Interest
Interest = Principal x Rate x Time (from date of the note to maturity date)
Discount = Maturity Value x Discount rate (bank’s rate) x Discount Time (from discount date to
maturity date)

(amount loss/gain from the derecognition of asset)

Carrying Amount = Principal + Accrued Interest

Accrued Interest (interest income) = Principal x Rate (original) x Time (date of the note to discount
date)
Gain (loss) on Discounting = Net Proceeds – Carrying Amount