5.

ACCOUNTING FOR BAD DEBTS

Bad debts expense is related to the company’s current assets

accounts receivable. Bad debt expense is also referred to as

uncollectible account expense or doubtful account expense. Bad

debts expense results because a company delivered goods or

services on credit and the customer did not pay the amount owed.

Allowance Method

The allowance method refers to an uncollectible accounts

receivable process that records an estimates of bad debt expense

in the same accounting period as the sale. This is used to adjust

accounts receivable on the balance sheet.

Example: KAYALA recognized that P1,000 worth of accounts is

considered doubtful of collection.

1. The journal entry to recognized the doubtful accounts is:

Doubtful Accounts 1,000

Allowance for Doubtful Accounts 1,000

To record the recognition of doubtful accounts.

2. The accounts are subsequently discovered to be worthless or

uncollectible.

Allowance for Doubtful Accounts 1,000

Accounts Receivable 1,000

 To record the subsequently discovered uncollectible

accounts.

3. P500 worth of the previously written off accounts are

recovered and collected.

Accounts Receivable 500

Allowance for Doubtful Accounts 500

To record the recovered previously written off

accounts.

Cash 500

Accounts Receivable 500

To record the collection of previously recovered

accounts.

Percentage of Sales Methods

This method is used to calculate how much financing is

needed to increase sales. It allows the creation of balance sheet

and income statement. KAYALA must use the percentage sales method

in order to compute the allowance for doubtful account

The rate to be used is computed as follows:

Bad debt losses in prior years

Credit sales of the prior years
Illustration:

Supposing that starting January 1, 2020, KAYALA allowed

credit sales. Since this is the first year of this policy, there

is no prior bad debts loss reported yet.

It is recommended that initially, they should use 5% as the

rate in computing allowance for doubtful accounts.

For the year ended December 31, 2020, the following

information regarding sales of KAYALA have occurred.

Cash Sales P200,000

Credit Sales 25,000

Sales Returns and Allowances 2,000

Sales Discount 1,000

Rate to be used 5%

Therefore, the allowance for doubtful accounts on the first

year of implementation of credit sales is:

Credit Sales 25,000

Rate 5%

Allowance for Doubtful Accounts P1,250

 EFFECTS ON THE CURRENT ASSET PORTION OF THE BALANCE SHEET

NO AFDA WITH AFDA

CURRENT ASSETS
Cash P200,000 P200,000
Accounts 25,000 25,000

Receivable
Allowance for (0) (1,250)

Doubtful Accounts
Food and Beverage 50,200 50,200

Inventory, End
Store Supplies 10,000 10,000
P285,200 P283,950

EFFECTS ON THE STATEMENT OF OPERATIONS (INCOME STATEMENT)

DIRECT WRITEOFF METHOD ALLOWANCE METHOD

NET SALES
Gross Sales P200,000 P225,000
Sales Returns and (2,000) (2,000)
Allowances
Sales Discount (1,000) (1,000)
NET SALES P197,000 P222,000
COST OF GOODS 87,0000 87,000

SOLD
GROSS PROFIT P110,000 P135,000
OPERATING EXPENSE
Wages Expense P7,500 P7,500
Supplies Expense 1,000 1,000
Utilities Expense 1,500 1,500
Repair and 500 500

Maintenance

Expense
Depreciation 250 250

Expense -

Equipment
Depreciation 250 250

Expense –

Furniture and

Fixture
Doubtful Accounts 0 1,250

Expense
Miscellaneous 200 200

Expense
TOTAL OPERATING (11,200) (12,450)

EXPENSE
OTHER EXPENSES
Donation Expense (1,900) (1,900)
OPERATING INCOME P96,900 P120,650

6. INVENTORY SYSTEM: PERIODIC INVENTORY SYSTEM

The periodic inventory system’s main characteristic is that

no entries are made as the merchandise are bought and sold. When

goods are purchased, a separate set of accounts such as

purchases, purchase discounts, purchase returns and allowances

and transportation are used to accumulate information on the net

cost of the purchases.

Purchases

When the company purchased its materials needed for their

production, the Purchase account is debited, and the Cash account

is credited if only it is paid in cash, or Accounts Payable if it

was purchased on account.

Purchases PXXX

Cash (or Accounts Payable) PXXX

To record the purchases on cash (or on account).

Purchase Returns and Allowances

Purchase Returns and Allowances (PRA) is a contra asset account.

It is considered as a reduction to the purchases of the company.

Accounts Payable PXXX

Purchase Returns and Allowances PXXX

To record the returns of purchased merchandise.

Purchase Discounts

KAYALA bought on account, P10,000 worth of ingredients from

Jollibee Inc. on March 10, 2020. The credit terms are 2/10, n/30.

This means that if the payment is made within 10 days, there

is a 2% discount on the ingredients purchased by KAYALA. If the

payment is made beyond the discount period, therefore, no

discount will be given to KAYALA.

Assuming that Kayala paid the ingredients on March 15, 2020.

A 2% discount was allowed to them. The entry to record the

payment and the discount given would be:

Accounts Payable P10,000

Cash 9,800

Purchase Discount 200

To record the payment within the discount period.

Transportation In

Kier Ayala purchased for cash, P3,000 worth of buns and

mayonnaise from Jollibee Inc. The transportation costs amounted

to P200. The entry to record this transaction is:

Purchases P3,000

Transportation In 200

Cash 3,200

To record the purchase of merchandise and

transportation cost incurred.

Inventory Count and valuation at Year-End

In performing the inventory count, the management must spare

at least half day of the last day of the month wherein the

kitchen personnel will count and record all the inventory left
and unsold. Since KAYALA is a small business, the kitchen

personnel are responsible in performing the inventory count, with

the supervision of the store manager. This is particularly of

more importance during the end period, December 31.

The kitchen personnel will count all the inventories on the

date specified, and record this in the inventory count sheet

(please see Business Form Section). The manager shall be in close

administration while inventory count is being done. Later on, the

bookkeeper will consolidate all the inventory count sheets on a

separate and final sheet.

Inventory Valuation

Illustration:

The following table shows the inventory of KAYALA for the month

of December.

December 1 Beginning Inventory 10 units @ P30 per

unit
December 10 Purchase 50 units @ P25 per

unit
December 15 Sales 20 units @ P35 per

unit
December 20 Sales 25 units @ P35 per

unit
December 25 Purchase 60 units @ P25 per

unit
December 28 Sales 30 units @ P35 per

unit
Date Units Unit Cost Total
Dec. 1 Beginning Balance 10 P30 P300
Dec. 10 Purchases 50 P25 1,250
Dec. 25 Purchases 60 P25 1,500
Total Goods P120 P3,050

Available for Sales

The ending inventory on December 31 will be computed using

the weighted average method with an ending inventory of 45 units.

Weighted average unit cost P25.42

(P 3,050/120)
Inventory Cost P1,143.90

(45 units x P 25.42)

Therefore, the cost of goods sold will be:

Inventory, December 1 P300

Purchases 2,750
Goods available for sale P3,050
Inventory, December 31 (1,143.90)
Cost of Goods Sold P1,906.10