EXAM 2 REVIEW Chapter 8 1 Understand what net realizable value means Accounts receivable are generally reflected in the balance sheet at their net realizable value Two things must be estimated to determine the net realizable value of receivables the amount that will not be collected because customers are o Uncollectibles unable to pay customers return the merchandise or are allowed a reduction in the amount owed the amount that will not be collected because o Returns and Allowances 2 Know the sales revenue approach for estimating bad debt expense Ending Bad Debt Expense Initial Balance Additional Bad Debt Losses Net Accounts Receivable Gross Accounts Receivable Allowance for Uncollectibles 3 Know the gross accounts receivable approach for estimating bad debt expense Estimate the required allowance account balance as a percentage of gross receivables then adjust the allowance upwards or downwards to this figure TOTAL Allowance for Uncollectibles Uncollectible x Outstanding Receivables Amount Added to Bad Debt Expense TOTAL Allowance of Uncollectibles Beginning Allowance of Uncollectibles Balance 4 Know how to record a receivable when it bears the prevailing lending rate 5 Know how to record a receivable when it bears no explicit interest rate Record at gross amount Record at discounted value 6 7 Know the difference between factoring collateralization discounting and securitization Collateralization borrowing against receivables The company obtains cash from when a company sells its receivables outright to a bank in exchange for Factoring cash the bank and is responsible for repaying the loan Securitization such as residential mortgages commercial mortgages auto loans or credit card debt obligations and selling said consolidated debt as bonds to various investors the financial practice of pooling various types of contractual debt accelerating cash collection on notes by being assigned or sold Discounting 8 Understand how to determine whether receivables have been sold or collateralized COLLATERALIZATION SOLD 1 Receivables removed from balance sheet 2 Gain or loss recognized in income 1 Receivables stay on balance sheet 2 Loan shown as balance sheet liability 3 No gain or loss recognized in income 9 Know the journal entries for a factoring arrangement with recourse SEE PAGE 463 E8 13 Background Information with recourse o Sell 175 000 of Accounts Receivables 172 000 Net Realizable Value o Receive cash equal to 90 of gross Accounts Receivables o Buyer retains 10 to cover factoring fee and any bad debts o Fee is equal to 4 of gross Accounts Receivables o Seller estimates Future Value of recourse obligation to be 4 000 1 DR DR DR DR Cash 175 000 x 90 Allowance for doubtful accounts 175 000 172 000 3 000 10 500 Due from factor 175 000 1 90 17 500 175 000x4 10 500 157 500 3 000 Loss on sale of receivables PLUG CREDITS DEBITS 175 000 157 500 3 000 10 500 8 000 CR Accounts receivable CR Recourse liability 8 000 175 000 4 000 2 Collects all but 2 500 worth of receivables DR DR CR Due from factor CR Loss on sale of receivables Recourse liability 4 000 Cash 10 500 2 500 8 000 10 500 1 500 PLUG DEBITS CREDITS 4 000 8 000 10 500 1 500 or Gain on sale if received in a subsequent year 10 Know how to calculate the balance for Allowance for Uncollectible Accounts SEE PAGE 462 E8 8 The estimated uncollectible accounts at December 31 2011 total 0 30 days 31 60 days Over 60 days x 60 000 4 000 x 2 000 x 3 000 5 400 10 1 400 70 4 800 So Vale should report an Allowance for uncollectible accounts of 4 800 Chapter 9 11 Understand the inventory types Wholesaler Retailers do NOT make their own products Manufacturers do make their own products 12 Know the components of goods available for sale 13 Understand conceptually the perpetual inventory system This approach keeps a running or perpetual record of the amount of inventory on hand Provides better management control over inventories Typically used for low volume high unit cost items or when continuous monitoring of inventory levels is essential examples cars and jewelry stores 14 Understand the advantages of the periodic system of inventory Less recordkeeping means lower cost to maintain Less management control over inventory Cost of Goods Sold COGS is a plug figure and there is no way to determine the extent of inventory losses shrinkage Typically used when inventory volumes are high and per unit costs are low 15 Know how to calculate FIFO cost of goods sold FIFO is the most commonly used in cost flow assumption COGS income statement outdated costs cost of oldest unit Background Information 300 calculators at 16 each on January 1 2011 Ending Inventory balance sheet current costs cost of newest unit Date 1 12 1 14 1 29 1 30 Purchases 150 17 100 18 Sales 200 25 150 30 How to record selling 350 units 1 12 200 16 3 200 1 12 100 16 1 600 1 30 50 17 850 Total COGS 5 650 Calculate Ending Inventory 100 17 100 18 1 700 1 800 3 500 Beginning Inventory Purchases Ending Inventory Sales 16 Know how to calculate LIFO cost of goods sold COGS income statement current costs cost of newest unit Background Information 300 calculators at 16 each on January 1 2011 Ending Inventory balance sheet outdated costs cost of oldest unit Date 1 12 1 14 1 29 1 30 Purchases 150 17 100 18 Sales 200 25 150 30 How to record selling 350 units 1 12 100 18 1 800 1 12 100 17 1 700 1 30 50 17 850 1 30 100 16 1 600 Total COGS 5 950 Beginning Inventory Purchases Ending Inventory Sales 17 Calculate Ending Inventory 200 16 3 200 Beginning Inventory Purchases Ending Inventory Sales 18 Know how to calculate the ceiling under the lower of cost or market method CEILING NET REALIZABLE VALUE Background Information A profit margin of 30 is considered normal Product 1 Product 2 Historical Cost 17 Replacement Cost 15 Estimated Cost to Dispose 5 Estimated Selling Price 30 To calculate the ceiling net realizable value 45 46 26 100 Estimated Selling Price Product 1 Product 2 30 100 Est Cost to Dispose 5 26 NRV ceiling 25 74 19 Know how to calculate the floor under the lower of cost or market method FLOOR NET REALIZABLE VALUE PROFIT This example uses information from 18 STEP 1 o REMEMBER A Profit Margin of 30 is considered normal o Calculate profit Estimated Selling Price x Profit Margin o Product 1 Profit o Product 2 Profit 30 x 30 9 100 x 30 30 To calculate the ceiling net realizable value Net Realizable Value Profit NRV Profit floor Product 1 Product 2 25 74 9 30 16 44 20 Know how to determine the lower of