Financial Accounting: An Integrated Statements Approach, 2nd Edition

Chapter 8 Receivables 395

For several years, sales have been on a “cash only” basis. On January 1, 2004, however,

Sheepshank Co. began offering credit on terms of n/30. The amount of the adjusting entry to

record the estimated uncollectible receivables at the end of each year has been^1 – 4 of 1% of credit

sales, which is the rate reported as the average for the industry. Credit sales and the year-end

credit balances in Allowance for Doubtful Accounts for the past four years are as follows:

Allowance for

Year Credit Sales Doubtful Accounts

2004 $7,800,000 $ 5,100

2005 8,000,000 11,100

2006 8,100,000 16,850

2007 9,250,000 25,375

Carisa Parker, president of Sheepshank Co., is concerned that the method used to account

for and write off uncollectible receivables is unsatisfactory. She has asked for your advice in the

analysis of past operations in this area and for recommendations for change.

1. Determine the amount of (a) the addition to Allowance for Doubtful Accounts and (b) the
   accounts written off for each of the four years.


2. a. Advise Carisa Parker as to whether the estimate of^1 – 4 of 1% of credit sales appears
   reasonable.
   b. Assume that after discussing (a) with Carisa Parker, she asked you what action might
   be taken to determine what the balance of Allowance for Doubtful Accounts should be
   at December 31, 2007, and what possible changes, if any, you might recommend in ac-
   counting for uncollectible receivables. How would you respond?

In groups of three or four, determine how credit is typically granted to customers. Interview an

individual responsible for granting credit for a bank, a department store, an automobile dealer,

or other business in your community. You should ask such questions as the following:

1. What procedures are used to decide whether to grant credit to a customer?


2. What procedures are used to try to collect from customers who are delinquent in their
   payments?


3. Approximately what percentage of customers’ accounts are written off as uncollectible in a
   year?

Summarize your findings in a report to the class.

Go to the Web page of two department store chains, Federated Department Stores Inc.and

Dillard’s Inc.The Internet sites for these companies are:

http://www.federated-fds.com

http://www.dillards.com

Using the financial information provided at each site, calculate the most recent accounts re-

ceivable turnover for each company, and identify which company is collecting its receivables

faster.

Activity 8-4

Estimate uncollectible accounts

Activity 8-5

Granting credit

Activity 8-6

Collection of receivables

ANSWERS TO SELF-STUDY QUESTIONS

1. B The estimate of uncollectible accounts, $8,500 (answer
   C), is the amount of the desired balance of Allowance for Doubt-
   ful Accounts after adjustment. The amount of the current pro-
   vision to be made for bad debt expense is thus $6,000 (answer
   B), which is the amount that must be added to the Allowance

for Doubtful Accounts credit balance of $2,500 (answer A), so

that the account will have the desired balance of $8,500.

2. B The amount expected to be realized from accounts re-
   ceivable is the balance of Accounts Receivable, $100,000, less