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Chap009 Solution Manual(1)

Balance sheet which will result in a higher

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balance sheet, which will result in a higher realizable value for receivables and, therefore, a larger amount of current liquid assets. 2. Accounting procedures often allow for alternate methods or require the use of estimates. Therefore, managers have some leeway in their application of accounting procedures. In this case it seems reasonable to doubt the motivation behind the manager’s recommendation for a lower bad debts expense. There does not appear to be any economic justification for the change in estimate aside from the self-interest of the manager. 3. An informed owner or an effective board of directors will be aware of alternate accounting methods and how estimates can affect the financial statements. The owner or board should review the reasonableness of the manager’s and accountant’s estimate for bad debts expense. Also, if the company is audited, the auditors will review this estimate for reasonableness. 9-36
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Chapter 09 - Accounting for Receivables Communicating in Practice — BTN 9-4 TO: Sid Omar FROM: (Your Name) DATE: _______________ SUBJECT: Difference Between Bad Debts Expense and Allowance For Doubtful Accounts In accounting for credit sales and bad debts, we report sales revenue in the period the sales are made, even though some credit sales do not result in collections until the following period. Of course, some credit sales eventually prove to be uncollectible. The fact that some accounts will become uncollectible is what gives rise to bad debts expense and the allowance for doubtful accounts. Determining Bad Debts Expense Bad debts expense represents the estimated amount of the year's sales that will become uncollectible. The reported amount of bad debts expense is determined at the end of the accounting period by multiplying an estimated percent times the annual sales for the period. This year's bad debts expense of $59,000 is calculated as 2% of the annual sales of $2,950,000. Determining Allowance For Doubtful Accounts The Allowance for Doubtful Accounts unadjusted balance at the end of the year is the cumulative result of recording bad debts expense and writing off specific accounts receivable in all past years. The recognition of bad debts expense at the end of each year has the effect of increasing the Allowance for Doubtful Accounts balance. However, when specific accounts receivable are written off, they decrease the Allowance for Doubtful Accounts balance. Prior to this year's bad debts expense calculation, the cumulative total of writing off specific accounts was $16,000 greater than the cumulative total of the past years' bad debts expenses. Therefore, you could say that Allowance for Doubtful Accounts had an "abnormal" balance of $16,000. Then, when this year's bad debts expense of $59,000 is added to Allowance for Doubtful Accounts, the result is an ending balance of $43,000.
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