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Questions and Answers
What is the cost assigned to the 12 bikes in ending inventory using the Weighted-Average Cost Flow method?
Under which inventory cost flow method does TMBC recognize the expense based on the cost of the first bikes sold?
How many bikes did TMBC have available for sale before selling any units?
What is the total cost of goods sold for TMBC when using the Weighted-Average Cost Flow method?
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Using the Last In First Out (LIFO) method, how is the cost of goods sold determined?
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What is the purpose of the Allowance for Doubtful Accounts in accounting?
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How did ATS handle a previously written-off receivable when it was recovered?
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What total amount did ATS report as Accounts Receivable after the collection of $8,430?
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In Year 2, what was the dollar amount recorded as uncollectible accounts expense using the percent of revenue method?
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What financial effect does writing off an uncollectible account have on the overall net realizable value (NRV)?
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What event related to Accounts Receivable did ATS encounter after providing tutoring services on account in Year 2?
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If ATS collected a total of $8,430 in Year 2, what was the effect of this collection on the Cash account?
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What would be the effect on the Income Statement when uncollectible accounts expense is recognized?
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What is the primary impact of using FIFO compared to LIFO in terms of gross margin and net income?
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Which principle requires that financial statements disclose the chosen inventory cost flow method?
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What requirement is imposed by the Internal Revenue Service (IRS) on companies using LIFO?
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Why is consistency in inventory cost flow methods important for financial statements?
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What effect does using LIFO have on a company’s income tax expense compared to FIFO?
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What percentage of accounts receivable does Pyramid Corporation estimate to be uncollectible?
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What is the required balance in the Allowance for Doubtful Accounts account after adjustments?
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How much must Pyramid add to the Allowance for Doubtful Accounts to reach the required balance?
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What was the unadjusted balance in the Allowance for Doubtful Accounts prior to any adjustments?
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Which financial statement will reflect the balance of the Allowance for Doubtful Accounts?
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What is the total amount of uncollectible expense that Pyramid needs to recognize based on its calculations?
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In estimating uncollectible accounts, which method does Pyramid utilize?
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What is the total amount in accounts receivable for Pyramid Corporation before adjustments?
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What is the primary function of an account receivable for a company?
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What does the net realizable value of accounts receivable represent?
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What is the purpose of the allowance for doubtful accounts?
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Which method is typically used to account for uncollectible accounts based on estimates?
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In the provided example, how much did ATS recognize as uncollectible accounts expense?
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If a company has total accounts receivable of $50,000 and estimates that $2,000 will remain uncollectible, what is the net realizable value?
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What is the primary advantage of recognizing accounts receivable on the balance sheet?
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When a company allows a longer credit term, what instrument is usually required from the buyer?
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Study Notes
Accounts Receivable
- Accounts Receivable is a company's right to collect cash in the future when a customer buys now and pays later.
- Accounts Receivable are typically relatively small and have a short collection period.
- When a longer credit term is needed or the receivable is large, a note receivable is issued, specifying the maturity date, interest rate, and other credit terms.
- Accounts and notes receivable are reported as assets on the balance sheet.
Net Realizable Value of Accounts Receivable
- Companies estimate the amount of receivables they will actually collect, called the net realizable value.
- Net realizable value is calculated as the face value minus an allowance for doubtful accounts.
Allowance for Doubtful Accounts
- The allowance for doubtful accounts represents the company's estimate of uncollectible receivables.
- To illustrate, if a company has $50,000 in total accounts receivable and estimates $2,000 will not be collected, the allowance for doubtful accounts is $2,000.
Allowance Method
- The allowance method of accounting for uncollectible accounts reports accounts receivable at net realizable value.
- The allowance method requires the company to estimate the amount of uncollectible accounts.
Percent of Revenue Method
- One approach to estimate the allowance for doubtful accounts is based on a percentage of revenue.
- For example, if a company has $3,750 in revenue and uses a 2% estimate, the allowance for doubtful accounts is $75 (3,750 x 0.02).
Writing Off Uncollectible Accounts
- Writing off uncollectible accounts reduces both the accounts receivable and the allowance for doubtful accounts.
- The net realizable value remains unchanged.
Recovering Previously Written-Off Accounts
- Recovering previously written-off accounts increases both accounts receivable and the allowance for doubtful accounts.
- Recovering previously written-off accounts does not impact the net realizable value.
Percent of Receivables Method
- The percent of receivables method estimates the allowance for doubtful accounts based on a percentage of accounts receivable, focusing on the year-end balance of the allowance account.
Aging Schedule
- An aging schedule categorizes accounts receivable by the age of the outstanding balance, providing a more accurate estimate of uncollectible receivables.
Multiple Layers with Multiple Quantities
- Real-world inventory cost flow methods involve multiple cost layers and quantities of inventory.
First In First Out (FIFO)
- The FIFO method assumes the first units acquired are the first units sold.
- FIFO results in the highest gross margin and net income, as well as the highest income tax expense.
Last In First Out (LIFO)
- The LIFO method assumes the last units acquired are the first units sold.
- LIFO results in the lowest gross margin, net income, and income tax expense.
Weighted-Average Cost Flow
- The weighted-average cost flow method assigns a weighted-average cost to all units of inventory.
- The average cost is calculated by dividing the total cost of goods available for sale by the total units available for sale.
Effect of Cost Flow on Financial Statements
- Different inventory cost flow methods can impact the financial statements, particularly cost of goods sold and net income.
Impact of Income Tax
- LIFO is typically used for income tax purposes due to its tax advantages, leading to lower income tax expense.
- Companies using LIFO for income tax purposes must also use LIFO for financial reporting.
Full Disclosure and Consistency
- Generally accepted accounting principles (GAAP) require companies to disclose the inventory cost flow method used in their financial statements.
- Consistency in accounting methods ensures comparability of financial statements over time.
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