Question

In: Accounting

Arctic Cat sold Seneca Motor Sports a shipment of snowmobiles. The snowmobiles were delivered on January...

Arctic Cat sold Seneca Motor Sports a shipment of snowmobiles. The snowmobiles were delivered on January 1, 2021, and Arctic received a note from Seneca indicating that Seneca will pay Arctic $40,000 on a future date. Unless informed otherwise, assume that Arctic views the time value of money component of this arrangement to be significant and that the relevant interest rate is 8%. (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.)

Required:

  1. Assume the note indicates that Seneca is to pay Arctic the $40,000 due on the note on December 31, 2021. Prepare the journal entry for Arctic to record the sale on January 1, 2021.

  2. Assume the same facts as in requirement 1, and prepare the journal entry for Arctic to record collection of the payment on December 31, 2021.

  3. Assume instead that Seneca is to pay Arctic the $40,000 due on the note on December 31, 2022. Prepare the journal entry for Arctic to record the sale on January 1, 2021.

  4. Assume instead that Arctic does not view the time value of money component of this arrangement to be significant, and that the note indicates that Seneca is to pay Arctic the $40,000 due on the note on December 31, 2021. Prepare the journal entry for Arctic to record the sale on January 1, 2021.

Solutions

Expert Solution

Sale date = January 1, 2021

Notes receivable amount = $40,000 at a future date

interest rate (discount rate for Present value of note ) = 8%

1. If note is due on December 31, 2021, present value of note using PV table of $1 at 8% = $40,000 * 0.9259 =$ 37036.

The cost principle and revenue principle require that transaction be recorded at their cash value at the time of transaction. Since, $40,000 is to be received in the future, we need to determine the present value of such future amount to be recorded in books, which is $ 37,036 using discount factor 8%. So, at the time of sale, a portion of this note represents revenues earned and a portion represents implicit interest( or discount factor) based on time value of money. So, we record our asset Notes receivable as debit, we credit the sales revenues with present value and the difference is discount on notes receivable (This is not interest on note currently since it is not yet earned, it will be earned during the duration of the note.)

Journal entry on January 1, 2021 :

Note receivable Dr. $40,000

To Discount on notes receivable $2964

To Sales revenues $ 37,036

2.Journal entry at the time of collection of note :

Discount on notes receivable Dr. $2964

To Interest Revenue $ 2964

The above entry is for interest accrued on note

Cash A/c Dr. $ 40,000

To Note receivable $ 40,000

The above entry is to record collection of note on due date

3. Note is due on December 31, 2022

So, n= 2 years, i = 8%, PV factor of $1 @ 8% for 2 years = 0.8573

So, present value of note = $ 40,000 * 0.8573 = $ 34,292

Journal entry at the time of sale on January 1, 2021

Note receivable Dr. $40,000

To Discount on note receivable $ 5,708

To Sales revenue $ 34,292

In the above entry, we have calculated the present value of the note using PV tables, $ 34,292 is the present value and represents the revenue earned today. The difference in the value of note and $ 34,292 represents interest that will be earned on the note during the 2 year period.

4. Maturity date of note = Dec 31, 2021 (within 1 year). Therefore, it is basically a current asset like accounts receivable

Journal entry at the time of sale:

Note receivable $40,000

To Sales revenues $40,000  


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