Chapter 7, Problem 7.12P

Accounts and notes receivable; discounting a note receivable; receivables turnover ratio

• LO7–5, LO7–6, LO7–7, LO7–8, LO7–9

Chamberlain Enterprises Inc. reported the following receivables in its December 31, 2018, year-end balance sheet:

Current assets:
Accounts receivable, net of $24,000 in allowance for uncollectible accounts	$ 218,000
Interest receivable	6,800
Notes receivable	260,000

Additional Information:

1. 1. The notes receivable account consists of two notes, a $60,000 note and a $200,000 note. The $60,000 note is dated October 31, 2018, with principal and interest payable on October 31, 2019. The $200,000 note is dated June 30, 2018, with principal and 6% interest payable on June 30, 2019.
2. 2. During 2019, sales revenue totaled $1,340,000, $1,280,000 cash was collected from customers, and $22,000 in accounts receivable were written off. All sales are made on a credit basis. Bad debt expense is recorded at year-end by adjusting the allowance account to an amount equal to 10% of year-end accounts receivable.
3. 3. On March 31, 2019, the $200,000 note receivable was discounted at the Bank of Commerce. The bank’s discount rate is 8%. Chamberlain accounts for the discounting as a sale.

Required:

1. 1. In addition to sales revenue, what revenue and expense amounts related to receivables will appear in Chamberlain’s 2019 income statement?
2. 2. What amounts will appear in the 2019 year-end balance sheet for accounts receivable?
3. 3. Calculate the receivables turnover ratio for 2019.

To determine

Accounts receivable:

Accounts receivable refers to the amounts to be received within a short period from customers upon the sale of goods and services on account. In other words, accounts receivable are amounts customers owe to the business. Accounts receivable is an asset of a business.

Note receivable:

Note receivable refers to a written promise for the amounts to be received within a stipulated period of time. This written promise is issued by a debtor or borrower to lender or creditor. Notes receivable is an asset of a business.

To compute: The amount of revenues and expenses related to receivables to be reported in the income statement apart from sales revenue:

Explanation of Solution

Interest Revenue:

• Compute the amount of interest on $200,000 note:

Principal = $200,000

Rate of interest = 6%

Period = 6 Months (June 30 to December 31)

$\begin{array}{c}\text{Interest = Principal }\times \text{ Rate of interest }\times \text{ Interest period}\\ \text{ = \$200,000 }\times \frac{6}{100}\times \frac{6}{12}\\ =\$6,000\end{array}$

• Compute the amount of interest on $60,000 note:

Total Amount of Interest Reported in balance Sheet as on December 31, 2018	$6,800
Less: Interest on $200,000 Note	($6,000)
Interest on $60,000 Note	$800

Table (1)

• Compute the interest rate of $60,000 Note:

The interest on $60,000 note amounted to $800 represents the interest for two months (November and December). Hence, the annual interest on the $60,000 note is $\text{\$4,800}\left[\$800\times \frac{12}{2}\right]$.

Therefore, the rate of interest on $60,000 note is $8\%\left[\frac{\$4,800}{\$60,000}\right]$

• Compute the amount of interest on $60,000 note to be reported on the income statement of 2019:

Principal = $60,000

Rate of interest = 8%

Period = 10 Months (January 1 to October 31, 2019)

$\begin{array}{c}\text{Interest = Principal }\times \text{ Rate of interest }\times \text{ Interest period}\\ \text{ = \$60,000 }\times \frac{8}{100}\times \frac{10}{12}\\ =\$4,000\end{array}$

• Compute the amount of interest on $200,000 note to be reported on the income statement of 2019:

Principal = $200,000

Rate of interest = 6%

Period = 6 Months (January 1 to June 30, 2019)

$\begin{array}{c}\text{Interest = Principal }\times \text{ Rate of interest }\times \text{ Interest period}\\ \text{ = \$200,000 }\times \frac{6}{100}\times \frac{6}{12}\\ =\$6,000\end{array}$

• Compute the total interest revenue:

Interest on $60,000 Note	$4,000
Interest on $200,000 Note	6,000
Total Interest Revenue to be Reported in 2019 Income Statement	$10,000

Table (2)

Bad Debts Expense:

• Compute the Ending Accounts Receivables:

Accounts Receivable Accounts Analysis
Beginning Balance, Net	$218,000
Add: Allowance	24,000
Beginning Balance, Gross	242,000
Add: Credit Sales	1,340,000
Less: Write-offs	(22,000)
Less: Cash Collections	(1,280,000)
Ending Balance	$280,000

Table (3)

• Compute the amount of Bad debts expense during this year:

Allowance for Uncollectible Accounts Analysis
Details	Amount ($)
Ending Balance of Allowance for Uncollectible Accounts (1)	$28,000
Add: Write offs	22,000
Less: Beginning Balance of Allowance for Uncollectible Accounts	(24,000)
Bad Debts Expense During the Year	26,000

Table (4)

$\begin{array}{c}\text{Ending Balance of Allowance = 10\% of Year-end Accounts Receivables}\\ \text{=}\text{\$280,000}\times \text{ 10\%}\\ \text{=}\text{\$28,000}\end{array}$ (1)

Loss on Sale of Note Receivables:

• Compute the amount of interest accrued:

Principal = $200,000

Rate of interest = 6%

Period = 9 Months (June 30, 2018 to March 31, 2019)

$\begin{array}{c}\text{Interest = Principal }\times \text{ Rate of interest }\times \text{ Interest period}\\ \text{ = \$200,000}\times \frac{6}{100}\times \frac{9}{12}\\ =\$9,000\end{array}$

• Compute the amount of interest on maturity:

Principal = $200,000

Rate of interest = 6%

Period = 1Year

$\begin{array}{c}\text{Interest = Principal }\times \text{ Rate of interest }\times \text{ Interest period}\\ \text{ = \$200,000}\times \frac{6}{100}\\ =\$12,000\end{array}$

• Compute the maturity value:

$\begin{array}{c}\text{Maturity Value = Face value + Interest}\\ \text{= \$200,000 + \$12,000}\\ \text{=}\text{\$212,000}\end{array}$

• Compute the amount discount on discounting the note:

$\begin{array}{c}\text{Discount = Maturity Value }\times \text{ Rate of interest }\times \text{ Remaining period}\\ \text{ = \$12,000}\times \frac{8}{100}\times \frac{3}{12}\\ =\$4,240\end{array}$

• Compute the amount of cash proceeds:

$\begin{array}{c}\text{Cash Proceeds = Maturity Value }-\text{ Discount}\\ \text{=}\text{\$212,000}-\$4,240\\ =\$207,760\end{array}$

• Compute the loss on sale of notes receivable:

Face value of Notes Receivable	$200,000
Add: Interest Receivable	9,000
Less: Cash Proceeds	(207,760)
Loss on Sale of Investments	$1,240

Table (5)

Revenues and expenses related to receivables to be reported in the income statement apart from sales revenue:

Revenues:
Interest Revenue:
Interest on $60,000 Note	$4,000
Interest on $200,000 Note	6,000
Total Revenue	$10,000
Expenses:
Bad Debts Expense	$26,000
Losses:
Loss on Sale of Inventories	$1,240

Table (6)

To determine

The amount that will appear in the 2019 year-end balance sheet for accounts receivable.

Explanation of Solution

Accounts Receivable:

C Company
Balance Sheet
As on December 31, 2019
Details	Amount ($)	Amount ($)
Assets:
Current assets:
Accounts Receivable	280,000
Less: Allowance for bad debts	(28,000)	252,000

Table (7)

Conclusion

The amount that will appear in the 2019 year-end balance sheet for accounts receivable is $252,000.

To determine

To calculate: The receivable turnover ratio for 2019.

Explanation of Solution

Accounts receivable turnover ratio

Receivable turn over indicates that how many times on average, a company is able to turn its receivable in to cash during an accounting period. It is calculated dividing the net sales by the average inventory.

$\begin{array}{c}\text{ Receivable turnover = }\frac{\text{Net sales}}{\text{Average accounts receivable}}\\ \text{=}\frac{\text{\$1,340,000}}{\text{\$235,000 (2)}}\\ \text{=5}\text{.7 times}\end{array}$

Working notes:

Compute the amount of average accounts receivable:

$\begin{array}{c}\text{Average Accounts Receivable = }\frac{\begin{array}{l}\text{Beginning Accounts Receivables +}\\ \text{Ending Accounts Receivables}\end{array}}{\text{2}}\\ \text{=}\frac{\text{\$218,000 + \$252,000}}{\text{2}}\\ \text{=\$235,000}\end{array}$ (2)

Conclusion

The receivable turnover ratio for 2019 is 5.7 times.