Accounts receivable are amounts due from customers in respect of sales made to them on credit net of expected returns. Of course, when credit is extended to a customer it means the business takes on credit risk and accepts the possibility that the customer may default. If this becomes clear then the receivable must be written down to the estimated recoverable amount. The amount of the write down is called a bad debt and it will also be recorded in the income statement as an expense of doing business (usually as part of SG&A).
Credit risk always involves some losses and an estimate of future bad debts is made based on past experience and history. Accounts receivable is stated “net” of this estimate called the doubtful debts allowance. As with all estimates, this is reviewed and updated on a regular basis. Often the footnotes provide more detailed information on the process amounts.
This is illustrated by the example below.
Accounts Receivable at the end of fiscal years 2015 and 2014 are stated net of allowances of approximately $68.7 million and $68.2 million for estimated customer returns, respectively, and net of doubtful accounts of approximately $15.8 million and $11.8 million, respectively. The Company’s policy is to maintain allowances for bankruptcies until the bankruptcies are actually settled. The total amount charged to cost and expenses during fiscal year 2015 relating to the Company’s doubtful accounts receivable was $6.3 million.
Fossil Group Inc – Extract from footnote 1
Accounts receivable can appear as current or non-current assets. It is unusual to give credit to a customer for more than a year and hence the most common categorization is under the current asset designation.
Have you read The balance sheet: Asset and liability recognition?