Question

On September 1, 2020, Myo Inc. sold goods to Khin Corporation, a new customer. Before shipping the goods, Myo's credit and collections department conducted a procedural credit check and determined that Khin is a high credit-risk customer. As a result, Myo did not provide Khin with open credit by recording the sale as an account receivable. Instead, Myo required Khin to provide a non–interest-bearing promissory note for $35,000 face value, to be repaid in one year. Khin has a credit rating that requires it to pay 12% interest on borrowed funds. Myo pays 10% interest on a loan recently obtained from its local bank. Myo has a December 31 year-end.

Prepare the entries required on Myo's books to record the sale, annual adjusting entry, and collection of the note's full face value.

b. Assume that on the note's maturity date, Khin informs Myo that it is having cash flow problems and can pay Myo only 80% of the note's face value. After extensive discussions with Khin's management, Myo's credit and collections department consider the remaining balance of the note uncollectible. Prepare the entry required on Myo's books on the note's maturity date.

c. What else could Myo have done to decrease collection risk related to the sale to Khin?

Answer 1

Answer :

a.

September 1, 2020

	Notes Receivable..................................	31,250
	Sales Revenue............................		31,250

	Calculation of the present value of
	the note:
	Maturity value		35,000
	Present value of $35,000 due
	in 1 year at 12%—$35,000
	X .89286		31,250
	Discount		$3,750

Using a financial calculator:

PV	?	Yields $ (31,250)
I	12%
N	1
PMT	-
FV	$ 35,000
Type	0
Excel formula: =PV(rate,nper,pmt,fv,type)

December 31, 2020

	Notes Receivable..................................	1,250
	Interest Income1...........................		1,250

1($31,250X 12% X 4/12)

September 1, 2021

	Notes Receivable..................................	2,500
	Interest Income2...........................		2,500

2($31,250X 12% X 8/12)

To record interest income

Cash....................................................	35,000
Notes Receivable.....................		35,000

To record collection of the note receivable

b.

Cash....................................................	28,000
Loss on Impairment...........................	4,500
Notes Receivable ($31,250 +$1,250).....................		32,500

($ 28,000 = $35,000 X 80%) (Note: this assumes that the entry to accrue interest for Jan – Sept 1, 2021 has not been recorded).

c.

To decrease collection risk, Myo could have:

1.

Required cash on delivery (COD) for at least a portion of the order

2.

Required instalment payments (instead of one lump-sum payment in one year)

3.

Applied more rigorous collection procedures, including frequent phone calls to Khin to determine any changes in credit risk associated with the note receivable

4.

Referred collection of the note receivable to an external collection agency.