Explain why it is necessary to adjust net income for changes in Accounts Receiva

Question

Explain why it is necessary to adjust net income for changes in Accounts Receivable during the year. Include in your discussion when you would increase or decrease your adjustment to net income and where it is reported on the statement of cash flow's Explain why it is necessary to adjust net income for changes in Accounts Receivable during the year. Include in your discussion when you would increase or decrease your adjustment to net income and where it is reported on the statement of cash flow's

Explanation / Answer

Yes it is necessary to adjust changes in accounts recivable in net income as there can be estimated bad debts, actual bad debts which decreases the net Income. Generally the company creates an allowance for bad debts at the end of the year so bad debt is debited which is an expense in the Income statement. Through direct method whenever the customer is not able to pay and it is certain than he is credited and bad debt expense is debited, If we use any of these methods net income is decreased.Now if in direct write off case if in future the amount is realized so there is reversal of entry and income is recognized so there is increase in Income.

Now in case of sales are on credit, to get quick recovery of cash company offer discount if it is paid within few days. The debtors who take its advantage gets discount, so this decrease the net sales thereby decreasing the income.

Now accounts receivable is a part of operating activities, it is due to sales that accounts receivable are created.If the balance in the account receivable decreases that means it is inflow of cash as the company has received payments.If there is increase in accounts receivable that means the company is not able to get cash from sales so it is on credit which can be said that this decreases the cash. So increase (negative) or decrease (positive) in accounts receivable is shown under cash flow from opearating activities.

Hence this is the overall impact of accounts receivable on income and cash flow from operating activities.

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