Fall 2007 Lecture 9 accounts and notes receivables

Fall 2007 Lecture 9 - ACCT101 Class 9 Accounts Receivables and Notes Receivables Outline A brief overview of accounts receivable Class activity 1

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Unformatted text preview: ACCT101 Class 9 Accounts Receivables and Notes Receivables Outline A brief overview of accounts receivable Class activity 1 Focus company: HealthSouth Class activity 2 Notes Receivables A short summary of first quiz Credit sale: matching principle Matching principle requires that all cost of generating revenues be recorded in the same period as the revenues. Since customer default are a cost of generating revenues, the expected default must be estimated and recorded as bad debt expense in the period the sales are recorded. Two methods for bad debt expenses Aging of receivables method Percentageofsales method Agingofreceivables approach start with calculating the ending balance of "allowance for uncollectible accounts" on balance sheet and then move to determining "baddebt expenses" on the income statement "baddebt expenses Percentageofsale approach start with recording "baddebt expense" on the income statement and then move to determine the ending balance of "allowance for doubtful accounts" on balance sheet Combining the two methods For interim statements (monthly or quarterly), companies use the percentof sales method because it is easier to apply At the end of the year, companies use the aging method to ensure that Accounts Receivable is reported at net realizable value Accounting for bad debt expenses Debit Bad debt expense $XXX Credit Allowance for Uncollectible Accounts $XXX Activity 1 Understanding financial reporting with credit sales HealthSouth HealthSouth is one of the nation's largest healthcare services providers, with locations nationwide. Its major business division is rehabilitation centers, where both inpatient and outpatient services are provided. Business model HealthSouth Provides rehab services Pay Premiums Patients Pay rehab service fees Medicare and Insurance companies Accounts Receivables A significant portion of payment for service revenues is not in the form of cash but in the form of accounts receivables. amounts to be collected from customers from the sale of goods and services classified as current assets Implication on accounting As of fiscal year end December 31, 2005, total assets amounts to 3529 million $ and total gross accounts receivables sent to patients/ insurance companies but not collected amount to 529 million $. Applying vertical analysis, these uncollected accounts receivables amount to 11% of total assets. => A significant portion of assets is in the form of accounts receivables Reporting by HealthSouth As of December 31, 2005 2004 (In Thousands) Assets Current Assets: Cash and cash equivalents Accounts receivable, net of allowance for doubtful accounts of $124,542 in 2005 and $151,453 in 2004 $175,497 $449,125 405,173 430,816 AgingofReceivables Age of Account (Dollar amounts in millions) 1-30 31-60 61-90 Days Days Days 50 * * 50 * * 50 * * 20 * * 20 * * 10 * * $200 $ 100 $ 100 Over 90 Days * * * * * * $ 129 Total Balance * * * * * * $529 Customer Medicare Mediaid Managed Care Worker's compensation Other third-party payors Individual Patients Totals Estimated percent uncollectible............ X 4% X 10% X 20% X 66.7% Allowance for Uncollectible Accounts balance should be $ 8 + $ 10 + $ 20 + $ 86 = $ 124 AgingofReceivables As of December 31st, 2005 Gross Accounts Receivable: Less: Allowance for Doubtful Accounts Accounts receivables, net $529m $124m $405m Accounts Receivable 529 124 Allowance for Doubtful Accounts Bal. 405 Bal. 124 Income statement Reporting by HealthSouth For the year ended December 31, 2005 2004 2003 (In Thousands) Net operating revenues Operating expenses: Salaries and benefits Professional and medical director fees Supplies Other operating expenses $3,207,728 $3,512,632 $3,657,892 1,429,867 76,373 305,585 679,626 1,619,834 78,118 331,339 611,401 1,595,534 87,673 317,220 750,001 Provision for doubtful accounts 98,417 113,783 128,296 Background In 1999, Wall street analysts predicts that the company HealthSouth will not meet previously announced earnings target. So 1999 was the first year that investors knew that the company was not doing as well as it was thought to be. HealthSouth accounting for bad debt Allowance for uncollectible accounts as a percentage of receivables: range between 12.2% to 38.9% 1. Baddebt expense as a percentage of annual sales: range between 2% to 8% 1. Nature of the accounting scandal Overestimate bad debt expenses in 1999 Income understated Allowance overstated => net A/R understated in 1999 In order to take a "big bath": exacerbate the already poor performance in 1999 because that information has already been discounted in the market place Activity 2 Ethical decisions on accounts receivables and related financial transactions Exercise E56 on the textbook How much does the store expect to collect? Preferred method: set up both (gross) accounts receivable accounts and allowance for uncollectible accounts Req. 2 Accounts Receivable 28,000 94,000 100,000 1,700 32,300 Write-offs Credit sale Allow ance for Uncollectible Accounts 1,600 1,700 2,000 1,900 Bad-debt expense Net accounts receivable = $30,400 ($32,300 $1,900) The store expects to collect an am ount approxim ating the net receivable. Cash collections Alternatively, using net accounts receivables T account alone for E56 Net Accounts Receivable 28,000 -1600 = 94,000 26,400 100,000 2000 Note: write-offs have no impact on net accounts receivables and so no writeoff is adjusted if using net accounts receivables 30,400 Beginning Ending Receivables Receivables are monetary claims against others. Two major types: Accounts receivable (trade receivables) amounts collected from customers from the sale of goods and services Notes receivable amounts to be collected from borrowers from lending money - written promise to pay secured unsecured Notes Receivable Notes receivable are more formal than accounts receivable. The creditor has a note receivable. The debtor has a note payable. No te Exercise Terms The principal amount of the note is the amount borrowed by the debtor The debtor pays the creditor the maturity value which includes principal plus interest Difference between Notes and Bonds is whether the instrument can be traded in a market Example of Note Interest period starts PROMISSORY NOTE $1,000 Amount Principal August 31, 2005 For value received, I promise to pay to the order of Continental bank Chicago, Illinois One thousand and no/100........................Dollars on February 28, 2006 plus interest at the annual rate of 9 percent Payee (creditor) Interest rate Interest period ends on the maturity date Maker (Debtor) Question? What is the total amount of interest that will be earned on the note? What is its maturity value? How do we account for the note? On August 31, 2005: 08/31 Note Receivable Cash 1000 1000 to record a loan made to XXX How much interest revenue is accrued at December 31? Accounting for Interest Accrued Interest = Principal Rate Time On December 31, 2005: 12/31 Interest Receivable 30 Interest Revenue 30 to accrue interest revenue through 12/31 The bank collects the note on 2/28/06 ebruary 28, 2006: 8 Cash 1045 Note Receivable1000 Interest Receivable 30 ( interest accrued at year end) Interest Revenue 15 ( interest earned this period ) to record collection of note at maturity Exercise Discounting Notes Receivable A company can sell its note and the interest to a financial institution at a discount For what reason? discounting a note receivable Allow the company to receive cash before the receivable's normal due time. Discounting Notes Receivable Cash 95,000(amount received) Financing Expense 5,000 (difference) Note Receivable 100,000 (carrying value) to record a note discounted to Bank of America by Furniture Central Homework problems CP510; CP511; CP512; E510; E511; E5 17. ...
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This note was uploaded on 04/08/2008 for the course ACCT 101 taught by Professor Yang during the Spring '08 term at Georgetown.

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