Under GAAP, accounts receivable should be reported at their net realizable value. The net realizable value can be found by subtracting the allowance for bad debts from accounts receivable. Currently, GAC does not have an established allowance for bad debts. GAC currently uses the direct write off method and only accounts for the specific items they know they will not receive. However, with the change in customer base, this is especially important. The new customers are not as reliable as the customers in the past. Therefore, GAC must have an established allowance for doubtful accounts in order to comply with GAAP. Since Nicki believes that $3000 of receivables will not be collected, this can be the estimated allowance for doubtful accounts.
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Having an allowance for doubtful accounts gives a lower net realizable value for accounts receivable. This reduces both current assets and the current ratio. The new current ratio is listed in Figure 3. However, accounts receivable is involved in another special ratio—days to collect receivables. This ratio is shown on Figure 5 at the top of the next page and can be found by dividing 365 by the accounts receivable turnover. As you can see, the number of days to collect receivables has increased from 2013 to 2014. This means that the company is not receiving cash from its customers as quickly this year as it was last year. This could be accounted for by the change in customer base mentioned earlier. Another issue that GAC potentially faces is sales returns. GAC currently reports returns in the month in which retail customers return …show more content…
Therefore, this method is considered unacceptable, unless these are very rare occurring events at immaterial amounts. Recently, circumstances surround returns have changed. Due to the new design of shirts used, the inventory in retail stores has not been selling as quickly. These shirts have either been seen on clearance racks or not at all, thus higher return amounts are expected. After a poll was taken, Nicki determined the selling price of shirts remaining in retail inventory to be $15,000. GAC has a policy that says they will repurchase the shirts at the full amount if the inventory is returned before October. Since it is unknown whether these shirts have actually been sold, are in clearance racks, or are sitting in an inventory warehouse, the actual amount of returns is unpredictable. Therefore, the $15000 should be listed as a returns allowance, which would be a subtraction from the accounts receivable balance. The balance sheet affect of this change is shown below in Figure 6. Another fact to point out in this balance sheet is the inventory
Having an allowance for doubtful accounts gives a lower net realizable value for accounts receivable. This reduces both current assets and the current ratio. The new current ratio is listed in Figure 3. However, accounts receivable is involved in another special ratio—days to collect receivables. This ratio is shown on Figure 5 at the top of the next page and can be found by dividing 365 by the accounts receivable turnover. As you can see, the number of days to collect receivables has increased from 2013 to 2014. This means that the company is not receiving cash from its customers as quickly this year as it was last year. This could be accounted for by the change in customer base mentioned earlier. Another issue that GAC potentially faces is sales returns. GAC currently reports returns in the month in which retail customers return …show more content…
Therefore, this method is considered unacceptable, unless these are very rare occurring events at immaterial amounts. Recently, circumstances surround returns have changed. Due to the new design of shirts used, the inventory in retail stores has not been selling as quickly. These shirts have either been seen on clearance racks or not at all, thus higher return amounts are expected. After a poll was taken, Nicki determined the selling price of shirts remaining in retail inventory to be $15,000. GAC has a policy that says they will repurchase the shirts at the full amount if the inventory is returned before October. Since it is unknown whether these shirts have actually been sold, are in clearance racks, or are sitting in an inventory warehouse, the actual amount of returns is unpredictable. Therefore, the $15000 should be listed as a returns allowance, which would be a subtraction from the accounts receivable balance. The balance sheet affect of this change is shown below in Figure 6. Another fact to point out in this balance sheet is the inventory