Accounts receivable is presented at its net realizable value. A company that sells on credit assumes the risk that some customers will not pay their accounts. When an account becomes uncollectible, a business has suffered a bad debt loss. The loss is considered as the cost of doing business on credit.
Allowance for doubtful account is a balance sheet account. It is contra asset account that brings the accounts receivable balance to its net realizable value. Reducing the allowance for doubtful account increases accounts receivable, thus increasing asset and equity accounts. Moreover, the reduction in allowance for doubtful account decreases doubtful account expense, thus decreases total expenses reported in the income statement. When total expense decreases, reported net income will increase.
Kelly Steinman as the manager of the company has the capacity to make recommendations for the benefit company. However, it is quite obvious that Kelly Steinman intends to increase the reported net income for the year in order to increase her year-end bonus. I do not think that Kelly Steinman’s recommendation to reduce allowance for doubtful account is ethical since it can affect the reliability of the financial statements of the company. To be reliable, the information contained on the financial statements must be free from bias, and should not favor the particular need of one user for the disadvantage of other users.
An effective internal control that might be useful for companies in overseeing manager’s recommendation for accounting changes is for the company to set a rule of estimating allowance for doubtful account. Estimates of allowance for doubtful account can be based on “sales percentage or accounts receivable balance” (Smith et al, 1998). It is important for accountants to thoroughly analyze their manager’s recommendation especially if it will affect the fair presentation of the financial statements of the company.
Smith, J. Skousen, F., Stice, E., Stice, J. (1998). Valuation of accounts receivable. Intermediate accounting (p. 294). South Western.