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Sales Revenue and Accounts Receivable

by: Jared Sahlin

Sales Revenue and Accounts Receivable ACCTMIS 2200

Marketplace > Ohio State University > Accounting > ACCTMIS 2200 > Sales Revenue and Accounts Receivable
Jared Sahlin
GPA 3.15
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These notes cover week 7 and are an in depth look into both accounts and subaccounts for each.
Introduction to Accounting I
Marc Smith
Class Notes
Accounting, current assets, Revenue




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This 7 page Class Notes was uploaded by Jared Sahlin on Saturday October 8, 2016. The Class Notes belongs to ACCTMIS 2200 at Ohio State University taught by Marc Smith in Fall 2015. Since its upload, it has received 13 views. For similar materials see Introduction to Accounting I in Accounting at Ohio State University.


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Date Created: 10/08/16
Chapter 4: Sales Revenue and Accounts Receivable Key for Abbreviations: Rev. = Revenue Acct(s) = Account(s) A/R = Accounts Receivable Beg. = Beginning When selling products(inventory), what accounts are affected? Income Statement Balance Sheet 1) Sales Revenue -- (credit) 1) A/R -- (debit) 2) Cost of Goods Sold (COGS) – (Debit) 2) Inventory – (credit) In this section, we are only going to focus on Sales Rev. and A/R. But First: When are cash or A/R accts. used? Think back to the realization principle which says, -The earnings process is completed when goods are sold or services performed, even if cash is not collected by the customer. >this means that we will record a transaction once the good or service is complete, and if cash is not immediately received from the customer, it becomes an accrued revenue, and we will debit the A/R acct for the cash to be received at a later date by the customer. Sales Revenue: Revenue that is generated (earned) from the sale of inventory (product). -with sales revenue, there are two adjustments that can be made (decreases to Sales Rev.): 1) Sales Returns and Allowances: a) Sales Returns: These result when customers are dissatisfied with merchandise and are allowed to return the goods to the seller for a credit or refund. b) Sales Allowance: These result when customers are dissatisfied with merchandise and customers are given a reduction on the selling price (the goods are not returned here). -Both of these are merged into one acct called Sales Returns and Allowances. 2) Sales Discounts: The offer of a cash discount to a credit customer for the prompt payment of a balance due (a credit customer being someone who charges their sale on A/R). How sales discounts are written: Ex: 3/10, n/30 Read as “Three, Ten, Net, Thirty” -This means that a 3% discount will be applied if payment of the full amount is given in 10 days after purchase, if not then the full amount of the purchase is due within 30 days. Why would a company offer sales discounts for paying early?? Three reasons why: 1) Increase of Sales: customers will buy more if they get money off of their purchases. 2) Speed up the collection of cash – Get cash faster so you can pay off bills. 3) Minimize the likelihood of bad debts: Less likely to have to track down customers for payments. Characteristics of 2 Sales Revenue Accts: >Both of the accts are a Contra Revenue acct. (a decrease to revenue, specifically sales revenue) > Normal Balance for both accounts = Debit (opposite of a revenue normal balance) Ex Income Statement (numbers are made up): Sales Revenue $480,000 Less: Sales returns and allowances $12,000 Less: Sales Discounts $8,000 $20,000 (New Line): Net Sales Revenue (Sales Rev – Contra Rev) $460,000 (subtract Contra Rev.) Cost of Goods Sold $316,000 Gross Profit $144,000 Additional Revenues $45,000 Additional Expenses $18,000 Net Income $170,000 Accounts Receivable: This acct represents cash that has not yet been collected and is owed to the company. This acct is used when the company makes a credit sale (i.e. a sale on account). *The big issues when you sell goods on account… NOT EVERYONE PAYS! to fix this issue, the company records a “bad debt expense” each year. >this Bad Debt Expense is always recorded in the same year that the associated credit sales are recorded in. -Why?? Think back to the Matching Concept – expenses are recorded in the same year that they help to generate revenue. Key Point: We don’t know as a company whether or not that a person will pay their debts. Let’s say someone purchases a good in Oct of year 1, we may not know that they will not pay until the next year (year 2). **>this means that for bad debt expense in year 1, we must make an estimate of what the expense will be. To record a bad debt expense estimate: Date Accounts Debit Credit Dec 31 Bad Debt Expense X | Allowance for Doubtful Acct. | X *Note: The date is Dec 31, which means that this is an adjusting entry that gets made at the end of each year! Bad Debt Expense:  Classified as an expense acct.  Found on the income statement.  Reduces net income Allowance for Doubtful Acct: *Later note, always use T-Accounts to help solve for this value  Causes decrease to assets  Classified as a Contra Asset  Normal balance of a credit (opposite of an asset)  Found on the balance sheet as a decrease to A/R.  Represents the amount of A/R that the company expects to not collect from customers. Remember: Asset = Liability + Equity -> bad debt expense decreases equity, by decreasing net income = Allowance for Doubtful Acct which decreases your assets. Ex Balance Sheet: Current Assets (in order of liquidity) Cash $14,800 Accounts Receivable $200,000 Less: Allowance for Doubtful Acct. $12,000 $188,000 *this new value of $188,000 is called the Net Realizable Value Net Realizable Value: The amount of cash from A/R that the company expects to collect. Question: What happens after the company decides that they will not be able to collect their money from a customer? Answer: The company must write off the amount owed from A/R. How to record a write off: Date Account Debit Credit Any Allowance for Doubtful Acct X Accounts Receivable X *a write off can occur at any point in the year, it doesn’t have to wait until the end of a year. -A write off represents the actual amount of bad debts of the company. Two key points of write-offs: 1) Write-offs do not affect bad debt expense acct because bad debt expense is an estimated 2) The write-off of A/R has no effect on the Net Realizable Value. -NRV = A/R – Allowance for doubtful acct. *since both A/R and Allowance are affected by the same amount, the difference between the two accts are unchanged. Ex: Before $500 write-off A/R $200,000 Allowance for doubtful acct $12,000 $188,000 After $500 write-off A/R $199,500 Allowance for doubtful acct $11,500 $188,000 -The NRV for both before and after remain the same because the same difference is applied to both accounts. Question: What would happen if a customer were to unexpectedly pay back the debt they owe after you have marked it as a write-off? Answer: Record what is called a recovery. Date Accounts Debit Credit Any Cash X Allowance for doubtful accts. X What are all of the affects to the account of Allowances for Doubtful Accounts? Allowance for Doubtful Accounts | Write-offs | Recoveries | | Bad Debt Expense | Going back to bad debt expense acct, how do you estimate the expense for this acct for the year? There are two ways to estimate your expense: 1) Percentage of Sales (Net Credit Sales) method Bad Debt Expense = Net Credit Sales x % expected to be uncollectible -This percentage of expected uncollectible is based on some historical pattern. 2) The Percentage of Receivables (Aging) method -This method requires an analysis of A/R balances by the length of the time each acct has been unpaid. *The logic behind this is the longer the account has been left unpaid, the less likely it is that the account will ever be paid by the customer. Process: Put you’re A/R into categories by age, and assign different percentages of expected to be uncollected for each of the categories. -This is referred to as your aging schedule. (the older the A/R acct, the higher the 40%) Formula: SUM(sigma) [Amount of A/R x % of category] *this summed number from the aging category does not represent the estimated expense for bad debts. This number is the ending balance of the allowance for doubtful accts. Now we need to “force out” the Bad Debt Expense by using a T- Acct for Allowance for DA. Allowance for Doubtful Accounts | Beginning Balance Write-offs | Recoveries | | Bad Debt Expense = X | Ending Balance (from aging model) *solve for X. Ending Bal = (Beg. + Recoveries + X) – Write-offs. Special Note: Unlike using the credit sales method, an existing acct. balance for Allowanced for DA will affect the current years Bad Debt Expense Estimate. Two Financial Ratios for Accounts Receivable: 1) A/R Turnover Ratio: A/R turnover = net sales rev / average A/R Average A/R = (A/R @ Jan 1 + A/R @ Dec 31) / 2 -This gives an indication on how many times during a year a company receives their A/R. *A higher number indicates a faster collection of A/R 2) Average Collection Period: ACP = 365 / (A/R turnover) -This measures the number of days on average between making a sale on credit and collecting cash for the sale from the customer. *Lower number indicated less time in between sales and collection of cash.


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