Aroma Company used the net price method of accounting for cash discounts

29.Hungary Company uses the net price method of accounting for cash discounts.In one of its transactions on October 15, 2017,Hungary sold merchandise with a list price of P2,000,000 to a customer who was given trade discount of 20% and 15%.Credit terms were 2/10, n/30.The goods were shipped FOB destination, freight collect.Total freight charge paid by thecustomer was P20,000.On October 20, 2017, the customer returned damaged goods originally billed at P60,000.What is the net realizable value of this account receivable on October 31, 2017?a.1,280,000b. 1,300,000c. 1,170,000d. 1,320,000

15.The Pacifier Company uses the net price method of accounting for cashdiscounts.In one of its transactions on December 15, 2010, Pacifier soldmerchandise with a list price of P500,000 to a client who was given a tradediscount of 20% and 15%.Credit terms were 2/10, n/30.The goods were shippedFOB destination, freight collect.Total freight charges paid by the clientamounted to P7,500.On December 20, 2010, the client returned damaged goodsoriginally billed at P60,000.

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FINANCIAL ACCOUNTING & REPORTING FAR.0724-Trade and Other Receivables FAR 724-Online

LECTURE NOTES Nature of loans and receivables (L&R) Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market, other than: (a) those that the entity intends to sell immediately or in the near term, which shall be classified as held for trading, and those that the entity upon initial recognition designates as at fair value through profit or loss; (b) those that the entity upon initial recognition designates as available for sale; or (c) those for which the holder may not recover substantially all of its initial investment, other than because of credit deterioration, which shall be classified as available for sale. Note: This definition is deleted in PFRS 9 Financial assets at amortized cost ([email protected]) A financial asset shall be measured at amortized cost if both of the following conditions are met (a) The asset is held within a business model whose objective is to hold assets in order to collect contractual cash flow (b) The contractual terms of the financial asset give rise on specified dates to cash flows that are solely payment of principal and interest on the principal outstanding. Interest is consideration for the time value of money and for the credit risk associated with the principal amount outstanding during a particular period of time. Receivables normally qualify as financial assets at amortized cost. Recognition of loans and receivables An entity shall recognize a financial asset on its statement of financial position when, and only when, the entity becomes a party to the contractual provisions of the instrument. Measurement of loans and receivables Initial recognition Receivables are initially recognized at its fair value plus transaction costs that are directly attributable to the acquisition of the financial asset. Fair value is the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm’s length transaction.

Page 1 of 12 www.facebook.com/prismcpareview FAR PRISM CPA REVIEW The fair value of a financial instrument at initial recognition is normally the transaction price (ie the fair value of the consideration given or received. However, if part of the consideration given or received is for something other than the financial instrument, an entity shall measure the fair value of the financial instrument. For example, the fair value of a long-term loan or receivable that carries no interest can be measured as the present value of all future cash receipts discounted using the prevailing market rate(s) of interest for a similar instrument (similar as to currency, term, type of interest rate and other factors) with a similar credit rating. Any additional amount lent is an expense or a reduction of income unless it qualifies for recognition as some other type of asset. Transaction costs are incremental costs that are directly attributable to the acquisition, issue or disposal of a financial asset or financial liability. An incremental cost is one that would not have been incurred if the entity had not acquired, issued, or disposed of the financial instrument. Subsequent to initial recognition Amortized cost using effective interest method. The amortized cost of a financial asset is the amount at which the financial asset is measured at initial recognition minus principal repayments, plus or minus the cumulative amortization using the effective interest method of any difference between that initial amount and the maturity amount, and minus any reduction (directly or through the use of an allowance account) for impairment or uncollectibility. The effective interest method is a method of calculating the amortized cost of a financial asset and of allocating the interest income over the relevant period. The effective interest rate is the rate that exactly discounts estimated future cash payments or receipts through the expected life of the financial instrument or, when appropriate, a shorter period to the net carrying amount of the financial asset or financial liability. When calculating the effective interest rate, an entity shall estimate cash flows considering all contractual terms of the financial instrument (for example, prepayment, call and similar options) but shall not consider future credit losses. The calculation includes all fees and points paid or received between parties to the contract that are an integral part of the effective interest rate (see PAS 18), transaction costs, and all other premiums or discounts. Types of loans and receivables Trade receivables  Result from the normal operating activities, i.e., credit sales of goods or services to customers.  May be evidenced by a formal written promise to pay and classified as notes receivable.  In most cases, they are unsecured, “open” accounts reflecting a short-term extension of credit to a customer for a period of 30-90 days, with the potential for interest charges if the account is not paid within such period. Nontrade receivables Page 2 of 12 www.facebook.com/prismcpareview FAR PRISM CPA REVIEW  All other types of receivables.  Arise from a variety of transactions: (1) Advances to officers and employees (2) Advances to subsidiaries and affiliates (3) Sale of securities or property other than inventory. (4) Dividends and interest receivable. (5) Others Presentation of loans and receivables Trade Section: Current assets (CA) Line item: Trade and other receivables Non-trade  Realizable within 12 months Section: Current assets (CA) Line item: Trade and other receivables  Not realizable within 12 months Section: Noncurrent assets (NCA) Line item: If material separate item if not material Related to NCI – Noncurrent investment Others – Other NCA Accounts Receivable  Theoretically, all receivables should be valued at an amount representing the present value of the expected future cash receipts.  However, given the relatively short-term nature of accounts receivable, they are instead reported at “net realizable value” (or expected cash value) and no implicit interest element is therefore recognized.  Accounts receivable, recorded net of trade discounts, should be further reduced and reported net of allowances for certain estimations - uncollectible items, cash discounts, and returns and allowances.  Objective—to record the receivables at the amount of claims from customers actually expected to be collected in cash. Accounting for sales revenue  The amount of sales or revenues is normally the largest item on a company’s income statement and accounts receivable is typically one of the largest current assets on the statement of financial position.  Discounts - decreases in the gross, or list, price of goods sold to customers. 1. Trade discount—an amount deducted from the list price to obtain the “net” sales price actually charged the customer. a. A means of varying price, usually relating to purchase volumes. b. The net price is the amount at which the receivable and revenue should be recorded. 2. Cash (or sales) discount—a price reduction granted to encourage early payment. Page 3 of 12 www.facebook.com/prismcpareview FAR PRISM CPA REVIEW a. Known as a purchase discount to the purchaser and a sales discount to the seller. b. Usually granted for payment within periods of no more than 30 days, and are reflected by sales clauses such as, “2/10, n/30”, which indicates a 2% discount is available for paying within 10 days or else the entire amount is due within 30 days. c. Receivables are generally recorded at their gross amounts, a simple and widely used method. d. The net method of accounting for sales discounts records the sales and receivable net of the discount, and any additional amounts subsequently collected in association with payment beyond the “discount” period are reflected as financing revenue or other income.  Sales returns and allowances. 1. When goods are returned or an allowance is necessary for damage or imperfections otherwise (wrong color, size, etc.). 2. Net sales and accounts receivable are reduced, and inventory may need adjusting in relation to returns. 3. The charge could be made directly to sales, but using a separate contra account generally provides more useful information to management. Accounting for Freight Who should pay? Buyer FOB shipping point Seller FOB destination Deduct from AR FOB destination Add to AR FOB shipping point Who actually paid Freight collect Freight prepaid Freight collect Freight prepaid Traditional Methods of Accounting for Bad Debts Direct Write-off Allowance Doubtful of collection No journal entry D/A expense PXX ADA PXX Definitely uncollectible D/A expense Pxx ADA Pxx AR Pxx AR Pxx Recovery Cash Pxx AR Pxx BD Recovery PXX ADA Pxx Cash AR Pxx Pxx Direct write-off method  Debit bad debt expense or doubtful accounts expense and credit accounts receivable as uncollectibles are discovered  Direct write-off method, however, does not provide for matching of expense with current revenues and does not report receivables at their realizable value. Allowance method  An end-of-period is made containing a debit to the same account (bad debt expense) as the direct write-off method, but the amount represents an estimate of future uncollectible and is credited to an allowance account (allowance for bad debts or allowance for doubtful accounts). Page 4 of 12 www.facebook.com/prismcpareview FAR PRISM CPA REVIEW  Allowance for bad debts is a contra asset account with a credit balance and is offset against accounts receivable to help achieve net realizable value reporting in the statement of financial position. Estimating uncollectibles based on percentage of sales  An assumed percentage is applied to current total or credit sales.  The assumed percentage is derived from the relationship over previous periods between the amount of total, or credit, sales and the actual amount of uncollectible account losses.  The existing allowance is ignored. Estimating uncollectible based on accounts receivable balance  Emphasizes the relationship between the accounts receivable and allowance for uncollectible accounts balances.  To determine the desired value for the allowance account, an assumed percentage is applied to the balance of accounts receivable or multiple percentages are applied to the account receivable balance as broken into various categories, where such categories are determined by an “aging of receivables” process: the process of analyzing individual accounts to classify and sum them according to their length of time past due.  The periodic adjusting entry is the same in form as that utilized under the percentage of sales method, though one must be careful to first compare the results of the initial calculations with any existing balance already in the allowance account: the difference will be the final amount actually recorded in the journal entry and will ensure that the previously determined “target” balance for the allowance account is reported in the statement of financial position.  The aging method is the most satisfactory approach for achieving the net realizable value reporting in the statement of financial position. Writing off an uncollectible account under the allowance method  Under the allowance method, bad debts expense is not recorded at the time an account is discovered to be uncollectible – such recognition has already occurred via the end-of-period adjustment previously made.  Credits is to accounts receivable and debit is to the allowance account.  Because both the asset and the allowance account decrease by the same amount as a result of write-off, there is no impact on the reported value of accounts receivable in the statement of financial position (i.e., no change in net realizable value)  Occasionally, accounts previously written off may turn out to be collectible; this merely requires reversing the original write-off entry and recording a normal collection on account. Correction to the allowance account  Occasional analytical reviews of the allowance account balance may identify a balance that is excessive of inadequate, prompting a correcting entry to the bad debts expense and allowance accounts as well as possible revisions of the estimation rate or method employed. - done REVIEW QUESTIONS: Multiple Choice Problems Page 5 of 12 www.facebook.com/prismcpareview FAR PRISM CPA REVIEW 1. The Skywarp Company has the following items included in its receivables and payable account: Items Due from customers Payable to creditors for merchandise Note receivable, long-term Allowance for bad debts Due from employees Cash dividend payable Special receivable, dishonored note* Accrued wages Rent received in advance Insurance premiums paid in advance Mortgage payable Debit P156,000 Credit P62,000 80,000 4,000 2,200 24,000 22,000 2,400 1,600 1,200 40,000 *Collection probable in two years Compute the amount to be reported as trade and other receivable. a. P158,200 b. P154,200 c. P156,000 d. P152,000 2. New Corp., which has started operations in the current year, has the following data relating to accounts receivable for the year ended December 31. Cash sales Credit sales Collection on credit sales Sales returns and allowances on credit sales Accounts written off Allowance for doubtful accounts, 12/31 (5% of accounts receivables Allowance for sales discount, 12/31 Allowance for sales return, 12/31 Allowance for freight, 12/31 P1,000,000 5,000,000 3,000,000 100,000 20,000 ? 10,000 15,000 3,000 What is the net realizable value of the accounts receivable on December 31? a. P2,708,000 b. P1,880,000 c. P1,758,000 d. P1,752,000 3. One June 9, Seller Corp. sold merchandise with a list price of P5,000 to Buyer on account. Seller allowed trade discount of 30% and 20%. Credit terms were 2/15, n/40 and the sale was made FOB shipping point. Seller prepaid P200 of delivery costs for Buyer as an accommodation. On June 25, Seller received from Buyer a remittance n full payment amounting to a. P2,744 b. P2,940 c. P2,944 d. P3,000 4. The Pacifier Company uses the net price method of accounting for cash discounts. In one of its transactions on December 15, Pacifier sold merchandise with a list price of P500,000 to a client who was given a trade discount of 20% and 15%. Credit terms were 2/10, n/30. The goods were shipped FOB destination, freight collect. Total freight charges paid by the client amounted to P7,500. On December 20, the client returned damaged goods originally billed at P60,000. Page 6 of 12 www.facebook.com/prismcpareview FAR PRISM CPA REVIEW What is the net realizable value of this receivable on December 31? a. P272,500 b. P274,400 c. P280,000 d. P333,200 5. Dancing Shoes sold P21,000 of merchandise during the month of December, which was charged to a national credit card. On December 15, Dancing bills the independent national credit card company for these sales and is assessed a 5% service charge. On December 21, a customer returned merchandise originally sold for P2,000 and Dancing notifies the credit card company of the return. On December 29, the credit card company remitted amount owed to Dancing. How much was received by Dancing from the credit card company? a. P21,000 b. P19,950 c. P19,000 d. P18,050 6. Bangui Company provides for doubtful account expense at the rate of 3 percent of credit sales. The following data are available for last year. Allow. For Doubtful Accounts, Jan 1 Accounts written off as uncollectible Collections of accounts written off Credit sales, year-ended December 31 P54,000 60,000 15,000 3,000,000 The allowance for doubtful accounts balance at December 31, after adjusting entries, should be a. P45,000 b. P84,000 c. P90,000 d. P99,000 7. On January 1, 2016, the balance of accounts receivable of Burgos Company was P5,000,000 and the allowance for doubtful accounts on same date was P800,000. The following data were gathered: 2013 2014 2015 2016 Credit sales Writeoffs Recoveries P10,000,000 P250,000 P20,000 14,000,000 400,000 30,000 16,000,000 650,000 50,000 25,000,000 1,100,000 145,000 Doubtful account are provided for as percentage of credit sales. The accountant calculates the percentage annually by using experience of the three years prior to the current year. How much should be reported as 2016 doubtful accounts expense? a. P750,000 b. P812,500 c. P330,000 d. P875,000 8. John Corp. has the following data relating to accounts receivable for the year ended December 31, 2016 Accounts receivable, January 1, 2016 P480,000 Allowance for doubtful accounts, January 1, 2016 19,200 Sales during the year, all on account, terms 2/10, 1/15, n/60 2,400,000 Cash received from customers during the year 2,560,000 Accounts written off during the year 17,600 Page 7 of 12 www.facebook.com/prismcpareview FAR PRISM CPA REVIEW An analysis of cash received from customers during the year revealed that P1,411,200 was received from customers availing the 10-day discount period, P792,000 from customers availing the 15-day discount period, P4,800 represented recovery of accounts written-off, and the balance was received from customers paying beyond the discount period. The allowance for doubtful accounts is adjusted so that it represents certain percentage of the outstanding accounts receivable at year end. The required percentage at December 31, 2016 is 125% of the rate used on December 31, 2015. The doubtful accounts expense for the year ended December 31, 2016 is a. P6,880 b. P7,120 c. P8,720 d. P8,960 9. The accounts receivable subsidiary ledger of Besao Corporation shows the following information: Customer Maybe, Inc. 12/31 Account Balance P140,720 Perhaps, Co. 83,680 Pwede Corp. 122,400 Perchance Co. 180,560 Possibly Co. 126,400 Luck, Inc. Total 69,600 P723,360 Invoice Date Amount 12/06 P56,000 11/29 84,720 09/02 48,000 08/20 35,680 12/08 80,000 10/25 42,400 11/17 92,560 10/09 88,000 12/12 76,800 12/02 49,600 09/12 69,600 P723,360 The estimated bad debts rate below are based on the Corporation’s receivable collection experience. Age of accounts Rate 0-30 days 1% 31-60 days 1.5% 61-90 days 3% 91-120 days 10% Over 120 days 50% The Allowance for Doubtful Accounts had a credit balance of P14,000 on December 31, 2016, before adjustment. The adjusting journal entry to adjust the allowance for doubtful accounts as of December 31, 2016 will include a debit to doubtful account expense of a. P52,795 b. P38,795 c. P24,795 d. P14,000 SOLUTION: Category 0 – 30 days 31 – 60 days 61 – 90 days Page 8 of 12 Balance P262,400 177,280 130,400 Rate 1% 1.5% 3% www.facebook.com/prismcpareview Allow. P2,624 2,659 3,912 FAR PRISM CPA REVIEW 91 – 120 days Over 120 days 117,600 35,680 P723,360 10% 50% 11,760 17,840 P38,795 10. Badoc Corporation's books disclosed the following information for the year ended December 31, 2016: Net credit sales Net cash sales Accounts Receivable at beginning of year Accounts Receivable at end of year Badoc's accounts receivable turnover is a. 3.75 times b. 5.00 times c. 4.35 times P1,500,000 240,000 200,000 400,000 d. 5.80 times REVIEW QUESTIONS MULTIPLE CHOICE THEORY 1. In accordance with PAS 39, “loans and receivables” are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market other than: a. Those that the entity intends to sell immediately or in the near term, which shall be classified as held for trading, and those that the entity upon initial recognition designates as at fair value through profit or loss; b. Those that the entity upon initial recognition designates as available for sale; or c. Those for which the holder may not recover substantially all of its initial investment, other than because of credit deterioration, which shall be classified as available for sale. d. All of the above 2. In accordance with PFRS 9, loans and receivables can be measured at amortized cost if a. The asset is held within a business model whose objective is to hold assets in order to collect contractual cash flows. b. The contractual terms of the financial asset give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding. c. Both a and b. d. Either a or b. 3. Which statement is incorrect regarding loans and receivables? a. An entity shall measure loans and receivables on initial recognition at fair value plus transaction costs that are directly attributable to the acquisition of the financial asset. b. The fair value of a long-term loan or receivable that carries no interest can be estimated as the present value of all future cash receipts discounted using the prevailing market rate of interest for a similar instrument with a similar credit rating. c. Short-term receivables with no stated interest rate may be measured at the original invoice amount if the effect of discounting is immaterial. Page 9 of 12 www.facebook.com/prismcpareview FAR PRISM CPA REVIEW d. Loans and receivables are derivative financial assets with determinable payments that are not quoted in an active market. fixed or 4. Morley Manufacturing has notes receivable that have a fair value of P810,000 and a carrying amount of P620,000. Morley decided to use the fair value option for these recently acquired receivables. Which of the following statements is correct regarding the election of the fair value option by Morley? a. Morley can elect to use the fair value option or amortized cost at each statement of financial position date. b. Morley reports the receivables at fair value, with any unrealized holding gains and losses reported as a separate component of comprehensive income. c. The unrealized holding gain is the difference between the fair value and the carrying amount. d. All of the choices are correct regarding the fair value option. 5. PFRS requires all of the following when classifying receivables except a. Indicate the receivables classified as current and non-current in the statement of financial position. b. Disclose any receivables pledged as collateral. c. Disclose all significant concentrations of credit risk arising from receivables. d. All of the choices are required by PFRS when classifying receivables. 6. The category "trade receivables" includes a. Advances to officers and employees. b. Income tax refunds receivable. c. Claims against insurance companies for casualties sustained. d. Open accounts resulting from short-term extensions of credit to customers. 7. Which of the following should be recorded in Accounts Receivable? a. Receivables from officers c. Dividends receivable b. Receivables from subsidiaries d. None of these 8. Receivables from subsidiaries and affiliates, if significant should be classified as a. Current assets b. Noncurrent assets c. Either as noncurrent or current depending on the expectation of realizing them within one year or over one year d. Intangible assets 9. Receivables from officers, directors and employees for goods sold or services rendered in the ordinary course of business a. Are considered current if proper control is exercised in granting credit and the accounts are currently collectible b. Are not included in trade accounts receivable c. Are included in current assets even if the receivables are actually loans and advances and the collection is unlikely within a year d. Are always classified as noncurrent 10. Credit balances in accounts receivable should be classified as a. Current liability c. Noncurrent liability b. Part of accounts payable d. Deduction from accounts receivable Page 10 of 12 www.facebook.com/prismcpareview FAR PRISM CPA REVIEW 11. Bruce Cycle Shop sells a bicycle to E. Nygma, a customer who uses Express Charge (a national credit card, but not issued by a bank). In recording this sale, Bruce Cycle Shop should record: a. an account receivable from E. Nygma b. a cash receipt c. an account receivable from Express Charge d. a small increase in the allowance for doubtful accounts 12. a. b. c. d. Accounts receivable are normally reported at the: Present value of future cash receipts. Current value plus accrued interest. Expected amount to be received. Current value less expected collection costs. 13. Assuming that the ideal measure of short-term receivables in the statement of financial position is the discounted value of the cash to be received in the future, failure to follow this practice usually does not make the statement of financial position misleading because a. Most short-term receivables are not interest-bearing. b. The allowance for uncollectible accounts includes a discount element. c. The amount of the discount is not material. d. Most receivables can be sold to a bank or factor. 14. a. b. c. d. Trade discounts are Not recorded in the accounts; rather they are a means of computing a price. Used to avoid frequent changes in catalogues. Used to quote different prices for different quantities purchased. All of the above. 15. If a company employs the gross method of recording accounts receivable from customers, then sales discounts taken should be reported as a. A deduction from sales in the income statement. b. An item of "other income and expense" in the income statement. c. A deduction from accounts receivable in determining the net realizable value of accounts receivable. d. Sales discounts forfeited in the cost of goods sold section of the income statement. 16. Of the approaches to record cash discounts related to accounts receivable, which is more theoretically correct? a. Net approach. b. Gross approach. c. Allowance approach. d. All three approaches are theoretically correct. 17. All of the following are problems associated with the valuation of accounts receivable except for a. Uncollectible accounts. b. Returns. c. Cash discounts under the net method. d. Allowances granted. Page 11 of 12 www.facebook.com/prismcpareview FAR PRISM CPA REVIEW 18. Why is the allowance method preferred over the direct write-off method of accounting for bad debts? a. Allowance method is used for tax purposes. b. Estimates are used. c. Determining worthless accounts under direct write-off method is difficult to do. d. Improved matching of bad debt expense with revenue. 19. Which of the following concepts relates to using the allowance method in accounting for accounts receivable? a. Bad debt expense is an estimate that is based on historical and prospective information. b. Bad debt expense is based on the actual amounts determined to be uncollectible. c. Bad debt expense is an estimate that is based only on an analysis of the receivables aging. a. Bad debt expense is management's determination of which accounts will be sent to the attorney for collection.  - end -  Page 12 of 12 www.facebook.com/prismcpareview

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