Question

Joey's bike shop sells new and used bicycle parts. Although a majority of its sales are cash sales, it makes a significant amount of credit sales. During year 1, its first year of operations, Joey's bike shop experienced the following:

Sales on account: 260,000
Cash sales:580,000
Collections of accounts receivable: 235,000
Uncollectible accounts charged off during the year:1,250

a. Assume that Joey's bike shop uses the allowance method of accounting for uncollectible accounts and estimates that 1 percent of its sales on account will not be collected. Answer the following questions:

(1) What is the accounts receivable balance at December 31, year 1?
(2) What is the ending balance of the allowance for doubtful accounts at December 31, year 1, after all entries and adjusting entries are posted?
(3) What is the amount of uncollectible accounts expense for year 1?
(4) What is the net realizable value of accounts receivable at December 31, year 1?

b. Assume that Joey's bike shop uses the direct write-off method of accounting for uncollectible accounts. Answer the following questions:

(1) What is the accounts receivable balance at December 31, year 1?
(2) What is the amount of uncollectible accounts expense for year 1?
(3) What is the net realizable value of accounts receivable at December 31, year 1?

Answer 1

Using the allowance method, Joey's Bike Shop has an Accounts Receivable balance of $25,000, an Allowance for Doubtful Accounts balance of $1,000, an uncollectible accounts expense of $2,600, and a Net Realizable Value of $24,000 at year-end. Under the direct write-off method, the Accounts Receivable balance remains $25,000, uncollectible accounts expense is $1,250, and the Net Realizable Value is also $25,000.

Step-by-step explanation:

a. Allowance Method:

1. Accounts Receivable balance at December 31, year 1 is $25,000. This is calculated by taking the Sales on account of $260,000 and subtracting the Collections of accounts receivable of $235,000.
2. The ending balance of the Allowance for Doubtful Accounts is $1,000 after adjustments. This is determined by taking 1% of the Sales on account ($260,000) which equals $2,600, and then subtracting the uncollectible accounts charged off ($1,250) and adding the prior balance of Allowance for Doubtful Accounts, which in this case is presumed to be zero since it's their first year of operations.
3. The amount of uncollectible accounts expense for year 1 is $2,600, which is estimated using the 1% of sales on account.
4. The Net Realizable Value of Accounts Receivable is $24,000, calculated as the Accounts Receivable balance of $25,000 minus the ending balance of the Allowance for Doubtful Accounts of $1,000.

b. Direct Write-Off Method:

1. The Accounts Receivable balance would remain $25,000 at December 31, year 1 since under the direct write-off method, the accounts are not adjusted until they are deemed uncollectible.
2. The amount of uncollectible accounts expense for year 1 is $1,250, as this is the amount directly written off during the year.
3. The Net Realizable Value of Accounts Receivable is $25,000, which under the direct write-off method is the same as the Accounts Receivable balance since specific bad debts are directly written off and not estimated in advance.