Question

For 2007, Stadler Corporation has cash sales of $385 million, credit sales of

$649 million, and Income Before Taxes of $213 million. At the end of 2007, the

balances of gross accounts receivable and allowance for doubtful accounts were

$295 million and $15 million respectively. No bad debt expense has been

recorded this year.

A) Assuming Stadler uses the receivables approach to determine the amount

of bad debt expense, prepare the journal entry to record bad debt expense

for 2007. Stadler determined that historically uncollectible accounts are

8% of accounts receivable.

B)

Stadler’s management asserts that new credit policies should reduce the

uncollectible accounts to 3% of accounts receivable. Setting aside part a,

what journal entry would Stadler make if they use management’s

estimate?

C) Compare the amounts reported in the following accounts for the 8% vs.

the 3% assumption.

1. Bad debt expense?

2.Net Accounts Receivable?

3.Total Assets?

4.Income before taxes?

5.Cash flow from operations?

Answer 1

A) Bad debts expense will be 8% of accounts receivable

Accounts receivable =  $295 million

Bad debts expense = 8% of  $295 million = $23.6 million

- Bad debts of $23.6 million will be charged to P/L A/c out of which, $ 15 million will be reduced from the allowance for doubtful accounts and remaining $ 8.6 million (23.6-15) will be reduced from debtors a/c.

The journal entry regarding the same is provided as follows:

B) Bad debts expense will be 5% of accounts receivable

Accounts receivable =  $295 million

Bad debts expense = 5% of  $295 million = $ 14.75 million

- Bad debts of $ 14.75 million will be charged to P/L A/c which, will be reduced from the allowance for doubtful account.

The journal entry regarding the same is provided as follows:

C) Comparison of amounts reported in the following accounts for the 8% vs. 3% assumption is as follows:

Particulars	8%	3%
1. Bad debt expense	$ 23.6 M	$ 14.75 M
2.Net Accounts Receivable (Gross Accounts Receivable - Allowance for doubtful debts)	$271.4 M (295-23.6)	$280.25 M (295-14.75)
3. Total Assets = Net accounts recievable, since information of no other assets is given above	$271.4 M	$ 280.25 M
4.Income before taxes = EBIT(as given in ques.) - Bad debt expense	$ 189.4 M (213- 23.6)	$ 198.25 M (213- 14.75)
5.Cash flow from operations = Cash sales	$ 385 M	$ 385 M