The Manda Panda Company uses the allowance method to account for bad debts. At the beginning of 2009, the allowance account had a credit balance of $75,000. Credit sales for 2009 totaled $2,400,000 and the year-end accounts receivable balance was $490,000. During this year, $73,000 in receivables were determined to be uncollectible. Manda Panda anticipates that 3% of all credit sales will ultimately become uncollectible. The fiscal year ends on December 31. Required:
1. Does this situation describe a loss contingency? Explain.
2. What is the bad debt expense that Manda Panda should report in its 2009 income statement?
3. Prepare the appropriate journal entry to record the contingency.
4. What is the net realizable value (book value) Manda Panda should report in its 2009 balance sheet?

The Manda Panda Company

1. This is not a loss contingency.  A loss contingency refers to a probable payment that might result from an uncertain event.

2. The bad debt expense that Manda Panda should report in its 2009 income statement is $70,000 ($73,000 -$75,000 + $72,000).

3. Debit Allowance for Uncollectible accounts $3,000

Credit Bad Debts Expense $3,000

To reduce the allowance account from $75,000 to $72,000.

Debit Bad Debts Expense $73,000

Credit Accounts Receivable account $73,000

To write-off the bad debts.

4. The net realizable value of accounts receivable is $418,000 ($490,000 - 72,000)

Explanation:

a) Data and Calculations:

Allowance for Uncollectible account (credit balance) = $75,000

Credit sales for 2009 = $2.4 million

Year-end Accounts Receivable = $490,000

Bad Debts = $73,000

Estimated allowance for Uncollectible = 3% of all credit sales (3% of $2.4 million) = $72,000

b) A contingency loss requires that a liability be created to account for the loss.  This is not the case with making allowances for uncollectible accounts or writing off bad debts.  There is no need to create a liability account since no payment will eventually be made to settle any liability in the future.