Debtors turnover ratio final

1. Meena Gorandle
Financial Management, ITM Institute of Management
DEBTORS TURNOVER DEBTORS TURNOVER
RATIORATIO

2. Financing

3. Cash Considerations
Consists of:
üCurrency and coins on
hand
ØMost liquid of all assets
ØCentral to operating cycle
üChecks and money orders
from customers
üDeposits in checking and
savings accounts
Cash may include a
compensating balance—a
minimum amount required
by a bank for a credit-
granting agreement.

4. Credit Policies
The credit department:
üExamines the financial resources and debts of the
credit applicant
üAsks for personal references
üGets credit rating from credit bureaus
üDetermines the extent to which the company can
grant credit, if any
To increase the likelihood of selling to customers who will
pay on time, companies develop control procedures and
maintain a credit department

5. How Factoring Works

6. Assessing Management of Receivables
Accounts Receivable Turnover--A measure
used to determine a company’s average
collection period for receivables. Computed
by dividing net sales (credit sales) by
average accounts receivables.

7. •Accounts Receivable Turnover
•Number of Days in Receivables--A
measure of the average number of days
it takes to collect a credit sale. It is
computed by dividing 365 days by the
accounts receivable turnover.
Assessing Management of Receivables

8. The Wheeler Company had Net Credit Sales
of $150,000 during 2009. The accounts
receivables increased $5,000 to $40,000
during the same time. Calculate the Accounts
Receivable Turnover and Number of Days in
Receivables.
Accounts Receivable Turnover:
Net Sales $150,000 = 4.0
Average Accounts Receivable $ 37,500
Example

9. Number of Days in Receivables:
Number of Days 365 = 91.25
Accounts Receivable Turnover 4.0
The Wheeler Company had Net Credit Sales
of $150,000 during 2009. The accounts
receivables increased $5,000 to $40,000
during the same time. Calculate the Accounts
Receivable Turnover and Number of Days in
Receivables.
Example

10. Evaluating the Level of
Accounts Receivable
How many times, on
average, does a company
turn its receivables into
cash during an accounting
period?
How long, on
average, does it take a
company to collect its
accounts receivables?
Receivable Turnover Days’ Sales
Uncollected

11. Estimating Uncollectibles
üThere will always be
customers who do not
pay their accounts,
called uncollectible
accounts, or bad debts
üMatch these expenses
of selling on credit to the
revenues they help
generate
Estimate the uncollectible
expense in the fiscal year
in which the sales are
made

12. Alternate Account Names
Allowance for
Uncollectible Accounts
Uncollectible
Accounts Expense
üAllowance for Doubtful
Accounts
üAllowance for Bad
Debts
üBad Debts Expense

13. Estimating Uncollectible Accounts
Estimated loss should be:
üRealistic
üBased on objective information
üBased on past experience
üBased on current economic conditions
Two commonly used
methods for
estimating loss
1. Percentage of net sales method
2. Accounts receivable aging method

14. Percentage of Net Sales Method
How much of this year’s
net sales will not be
collected?
The answer determines the
amount of uncollectible
accounts expense for the
year
ü The percentage amount is usually based on the
company’s historic losses
ü It ignores the difference between last year’s estimated
losses and the actual losses incurred during the year

15. Dec. 31, 2013: Account balances: Sales, $645,000; Sales Returns and
Allowances, $40,000; Sales Discounts, $5,000; Allowance for
Uncollectible Accounts, $3,600. Management estimates that
uncollectible accounts will average about 2 percent of net sales.
$12,000 $5,000)– $40,000– ($645,000 x .02 expense accounts bleUncollecti ==
Allowance for Uncollectible Accounts
Dec. 31 3,600
Dec. 31 adj. 12,000
Dec 31 bal. 15,600
Percentage of Net Sales Method
After the above entry is
posted, Allowance for
Uncollectible Accounts will
have a credit balance of
$15,600
Dec. 31 Uncollectible Accounts Expense 12,000
Allowance for Uncollectible Accounts 12,000
To record the uncollectible accounts
expense at 2 percent of $600,000 net sales

16. Accounts Receivable Aging Method
How much of the ending
balance of accounts
receivable will not be
collected?
The ending balance of
Allowance for
Uncollectible Accounts is
determined directly
through an analysis of
accounts receivable
The difference between the amount determined to be
uncollectible and the actual balance of Allowance for
Uncollectible Accounts is the expense for the period.

17. Accounts Receivable Aging Method
Dec. 31, 20x6: Management has estimated that $2,459 of Accounts
Receivable are uncollectible. Allowance for Uncollectible Accounts
has a debit balance of $800.
Allowance for Uncollectible Accounts
A credit adjustment of $3,259 will bring
the account to its target balance
Dec. 31. 800
Dec. 31 adj. 3,259
Dec. 31 bal. 2,459
The target balance for
the account is $2,459
Dec. 31 Uncollectible Accounts Expense 3,259
Allowance for Uncollectible Accounts 3,259
To bring the allowance for uncollectible
accounts to the level of estimated losses

18. Estimates Differ from Write-Offs?
Accounts receivable written off during a period will rarely
equal the estimated uncollectible amount
Shows a credit balance
when the total of
accounts written off is
less than the estimated
uncollectible amount
Shows a debit balance
when the total of
accounts written off is
greater than the
estimated uncollectible
amount
Allowance for Uncollectible Accounts

19. Financing Receivables
Money tied up in receivables is something that many
companies seek to avoid
Companies may use one or more of these methods
so that they can receive cash faster:
Set up a separate
finance company
Borrow money
and pledge A/R
In case of default on
loan, A/R (collateral)
can be taken and
converted to cash to
satisfy the loan
Factor
A/R
Sale or transfer of A/R;
the buyer may bear
risk of collection
(factoring without
recourse) or the seller
may bear risk of
collection (factoring
with recourse)
Ford Ford Motor Credit
Company
GM General Motors
Acceptance Corp.
Sears Sears Roebuck
Acceptance Corp.

20. Securitization
A company may sell a group of receivables in a
batch at a discount to another company or to
investors
When receivables are paid, buyer gets full
amount, thus their profit depends on the amount
of discount they negotiated

21. Discounting
The sale of promissory notes held
as notes receivable
Company A
Holds $10,000 note
payable to Company B;
Note will pay $600 in
interest üIf Company B pays,
bank will receive
$10,600 and realize a
$1,000 profit
üIf Company B defaults,
Company A is liable
for the note
üCompany A should
disclose the contingent
liability (in the amount
of note plus interest) in
notes to its financial
statements
Bank
Buys the note for
$9,600

22. Notes Receivable
A written promise that allows someone
to pay a certain amount of money on or
before a specific future date.
Notes are classified as current or long-
term assets, depending on the due
date.

23. Key Components of Promissory Notes
Total proceeds of a note at maturity
date (face value plus interest)
Maturity Value
Cost of borrowing money or the return
for lending money, usually stated on an
annual basis
Interest and
Interest Rate
Length of time in days between the
note’s issue date and its maturity date
Duration
Date on which the note must be paidMaturity Date

24. Computing Interest
Principal Principal
(amount)(amount)

25. Principal Principal
(amount)(amount)
Interest Interest
Rate (%)Rate (%)
X
Computing Interest

26. Principal Principal
(amount)(amount)
Interest Interest
Rate (%)Rate (%)
Time Time
(years)(years)
X X
Computing Interest

27. Principal Principal
(amount)(amount)
Interest Interest
Rate (%)Rate (%)
Time Time
(years)(years)
Interest Interest
OwedOwed
X X
Equals
Computing Interest

28. Example: Interest
The ABC Company signed a 90-day, $5,000 note
payable to the XYZ Company in settlement of
existing accounts payable. The interest rate of the
agreement is 14 percent. Calculate the interest
cost.

29. The ABC Company signed a 90-day, $5,000 note
payable to the XYZ Company in settlement of
existing accounts payable. The interest rate of the
agreement is 14 percent. Calculate the interest
cost.
Principal x Interest Rate x Time = Interest
$5,000 x 0.14 x 90/365 = $172.60
What journal entries are required for the ABC What journal entries are required for the ABC
Company? For the XYZ Company?Company? For the XYZ Company?
Example: Interest

30. A Promissory Note

31. Accept Note:
Accounts Payable............ 5,000.00
Note Payable............. 5,000.00
Pay Note Plus Interest:
Note Payable................... 5,000.00
Interest Expense.............. 172.60
Cash.......................... 5,172.60
The ABC Company--Maker
Journalizing Notes Receivable

32. Accept Note:
Note Receivable............... 5,000.00
Accounts Receivable.. 5,000.00
Collect Note Plus Interest:
Cash................................. 5,172.60
Note Receivable......... 5,000.00
Interest Revenue........ 172.60
The XYZ Company--Payee
Journalizing Notes Receivable

33. Selling or Factoring Receivables
Receivables are sold to factoring
companies for cash.
The factoring companies charge a
percentage of the receivable as a
service cost.
Factoring allows companies to receive
cash now, instead of waiting to collect
on the receivable.