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bad debts

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Definition of bad debts

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bad debts

Refers to accounts receivable from credit sales to customers
that a business will not be able to collect (or not collect in full). In hindsight,
the business shouldn’t have extended credit to these particular
customers. Since these amounts owed to the business will not be collected,
they are written off. The accounts receivable asset account is
decreased by the estimated amount of uncollectible receivables, and the
bad debts expense account is increased this amount. These write-offs
can be done by the direct write-off method, which means that no
expense is recorded until specific accounts receivable are identified as
uncollectible. Or the allowance method can be used, which is based on
an estimated percent of bad debts from credit sales during the period.
Under this method, a contra asset account is created (called allowance
for bad debts) and the balance of this account is deducted from the
accounts receivable asset account.

Bad debts

The amount of accounts receivable that is not expected to be collected.

Related Terms:

Allowance for bad debts

An offset to the accounts receivable balance, against which
bad debts are charged. The presence of this allowance allows one to avoid severe
changes in the period-to-period bad debt expense by expensing a steady amount to
the allowance account in every period, rather than writing off large bad debts to
expense on an infrequent basis.

accounts receivable

Short-term, non-interest-bearing debts owed to a
business by its customers who bought goods and services from the business
on credit. Generally, these debts should be collected within a month
or so. In a balance sheet, this asset is listed immediately after cash.
(Actually the amount of short-term marketable investments, if the business
has any, is listed after cash and before accounts receivable.)
Accounts receivable are viewed as a near-cash type of asset that will be
turned into cash in the short run. A business may not collect all of its
accounts receivable. See also bad debts.

mark to market

Refers to the accounting method that records increases
and decreases in assets based on changes in their market values. For
example, mutual funds revalue their securities portfolios every day based
on closing prices on the New York Stock Exchange and Nasdaq. Generally
speaking, however, businesses do not use the mark-to-market method
to write up the value of their assets. A business, for instance, does not
revalue its fixed assets (buildings, machines, equipment, etc.) at the end
of each period—even though the replacement values of these assets fluctuate
over time. Having made this general comment, I should mention
that accounts receivable are written down to recognize bad debts, and a
business’s inventories asset account is written down to recognize stolen
and damaged goods as well as products that will be sold below cost. If
certain of a business’s long-term operating assets become impaired and
will not have productive utility in the future consistent with their book
values, then the assets are written off or written down, which can result
in recording a large extraordinary loss in the period.

Bad debt

An account receivable that cannot be collected.

EBBS - Earnings before the bad stuff

An acronym attributed to a member of the Securities and
Exchange Commission staff. The reference is to earnings that have been heavily adjusted to
remove a wide range of nonrecurring, nonoperating, and noncash items.

Allowance for doubtful accounts

A contra account related to accounts receivable that represents the amounts that the company expects will not be collected.

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Allowance for Doubtful Accounts

An estimate of the uncollectible portion of accounts receivable
that is subtracted from the gross amount of accounts receivable to arrive at the estimated collectible


Amounts owed to a company by customers that it sold to on credit. Total accounts receivable are usually reduced by an allowance for doubtful accounts.

Provision for Doubtful Accounts

An operating expense recorded when the allowance for
doubtful accounts is increased to accommodate an increase in uncollectible accounts receivable.

economic components model

Abrams’ model for calculating DLOM based on the interaction of discounts from four economic components.
this model consists of four components: the measure of the economic impact of the delay-to-sale, monopsony power to buyers, and incremental transactions costs to both buyers and sellers.

PPF (periodic perpetuity factor)

a generalization formula invented by Abrams that is the present value of regular but noncontiguous cash flows that have constant growth to perpetuity.

Accounting exposure

The change in the value of a firm's foreign currency denominated accounts due to a
change in exchange rates.

Accounting earnings

Earnings of a firm as reported on its income statement.

Accounting insolvency

Total liabilities exceed total assets. A firm with a negative net worth is insolvent on
the books.

Accounting liquidity

The ease and quickness with which assets can be converted to cash.

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Accounts payable

Money owed to suppliers.

Accounts receivable

Money owed by customers.

Accounts receivable turnover

The ratio of net credit sales to average accounts receivable, a measure of how
quickly customers pay their bills.

Acquisition of assets

A merger or consolidation in which an acquirer purchases the selling firm's assets.

Adjustable rate preferred stock (ARPS)

Publicly traded issues that may be collateralized by mortgages and MBSs.

Agency basis

A means of compensating the broker of a program trade solely on the basis of commission
established through bids submitted by various brokerage firms. agency incentive arrangement. A means of
compensating the broker of a program trade using benchmark prices for issues to be traded in determining
commissions or fees.

All or none

Requirement that none of an order be executed unless all of it can be executed at the specified price.

All-or-none underwriting

An arrangement whereby a security issue is canceled if the Underwriter is unable
to re-sell the entire issue.

Annual fund operating expenses

For investment companies, the management fee and "other expenses,"
including the expenses for maintaining shareholder records, providing shareholders with financial statements,
and providing custodial and accounting services. For 12b-1 funds, selling and marketing costs are included.

Annual percentage rate (APR)

The periodic rate times the number of periods in a year. For example, a 5%
quarterly return has an APR of 20%.

Annual percentage yield (APY)

The effective, or true, annual rate of return. The APY is the rate actually
earned or paid in one year, taking into account the affect of compounding. The APY is calculated by taking
one plus the periodic rate and raising it to the number of periods in a year. For example, a 1% per month rate
has an APY of 12.68% (1.01^12).

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Annualized holding period return

The annual rate of return that when compounded t times, would have
given the same t-period holding return as actually occurred from period 1 to period t.


Any possession that has value in an exchange.

Asset/equity ratio

The ratio of total assets to stockholder equity.

Asset/liability management

Also called surplus management, the task of managing funds of a financial
institution to accomplish the two goals of a financial institution:
1) to earn an adequate return on funds invested, and
2) to maintain a comfortable surplus of assets beyond liabilities.

Asset activity ratios

Ratios that measure how effectively the firm is managing its assets.

Asset allocation decision

The decision regarding how an institution's funds should be distributed among the
major classes of assets in which it may invest.

Asset-backed security

A security that is collateralized by loans, leases, receivables, or installment contracts
on personal property, not real estate.

Asset-based financing

methods of financing in which lenders and equity investors look principally to the
cash flow from a particular asset or set of assets for a return on, and the return of, their financing.

Asset classes

Categories of assets, such as stocks, bonds, real estate and foreign securities.

Asset-coverage test

A bond indenture restriction that permits additional borrowing on if the ratio of assets to
debt does not fall below a specified minimum.

Asset for asset swap

creditors exchange the debt of one defaulting borrower for the debt of another
defaulting borrower.

Asset pricing model

A model for determining the required rate of return on an asset.

Asset substitution

A firm's investing in assets that are riskier than those that the debtholders expected.

Asset substitution problem

Arises when the stockholders substitute riskier assets for the firm's existing
assets and expropriate value from the debtholders.

Asset swap

An interest rate swap used to alter the cash flow characteristics of an institution's assets so as to
provide a better match with its iabilities.

Asset turnover

The ratio of net sales to total assets.

Asset pricing model

A model, such as the Capital asset Pricing Model (CAPM), that determines the required
rate of return on a particular asset.


A firm's productive resources.

Assets requirements

A common element of a financial plan that describes projected capital spending and the
proposed uses of net working capital.


An option is at-the-money if the strike price of the option is equal to the market price of the
Underlying security. For example, if xyz stock is trading at 54, then the xyz 54 option is at-the-money.

Average accounting return

The average project earnings after taxes and depreciation divided by the average
book value of the investment during its life.

Average age of accounts receivable

The weighted-average age of all of the firm's outstanding invoices.

Average collection period, or days' receivables

The ratio of accounts receivables to sales, or the total
amount of credit extended per dollar of daily sales (average AR/sales * 365).

Balance of payments

A statistical compilation formulated by a sovereign nation of all economic transactions
between residents of that nation and residents of all other nations during a stipulated period of time, usually a
calendar year.

Balance of trade

Net flow of goods (exports minus imports) between countries.

Balance sheet

Also called the statement of financial condition, it is a summary of the assets, liabilities, and
owners' equity.

Balance sheet exposure

See:accounting exposure.

Balance sheet identity

Total assets = Total Liabilities + Total Stockholders' Equity

Balanced fund

An investment company that invests in stocks and bonds. The same as a balanced mutual fund.

Balanced mutual fund

this is a fund that buys common stock, preferred stock and bonds. The same as a
balanced fund.

Bank collection float

The time that elapses between when a check is deposited into a bank account and when the funds are available to the depositor, during which period the bank is collecting payment from the payer's bank.

Bank discount basis

A convention used for quoting bids and offers for treasury bills in terms of annualized
yield , based on a 360-day year.

Basic balance

In a balance of payments, the basic balance is the net balance of the combination of the current
account and the capital account.

Basic business strategies

Key strategies a firm intends to pursue in carrying out its business plan.


Regarding a futures contract, the difference between the cash price and the futures price observed in the
market. Also, it is the price an investor pays for a security plus any out-of-pocket expenses. It is used to
determine capital gains or losses for tax purposes when the stock is sold.

Basis point

In the bond market, the smallest measure used for quoting yields is a basis point. Each percentage
point of yield in bonds equals 100 basis points. basis points also are used for interest rates. An interest rate of
5% is 50 basis points greater than an interest rate of 4.5%.

Basis price

Price expressed in terms of yield to maturity or annual rate of return.

Basis risk

The uncertainty about the basis at the time a hedge may be lifted. Hedging substitutes basis risk for
price risk.

Best-interests-of-creditors test

The requirement that a claim holder voting against a plan of reorganization
must receive at least as much as he would have if the debtor were liquidated.

Bond-equivalent basis

The method used for computing the bond-equivalent yield.

Bullet contract

A guaranteed investment contract purchased with a single (one-shot) premium. Related:
Window contract.

Business cycle

Repetitive cycles of economic expansion and recession.

Business failure

A business that has terminated with a loss to creditors.

Business risk

The risk that the cash flow of an issuer will be impaired because of adverse economic
conditions, making it difficult for the issuer to meet its operating expenses.


Exchange rate between British pounds sterling and the U.S.$.

Call money rate

Also called the broker loan rate , the interest rate that banks charge brokers to finance
margin loans to investors. The broker charges the investor the call money rate plus a service charge.


A financial security such as a bond with a call option attached to it, i.e., the issuer has the right to
call the security.

Capital account

Net result of public and private international investment and lending activities.

Capital asset pricing model (CAPM)

An economic theory that describes the relationship between risk and
expected return, and serves as a model for the pricing of risky securities. The CAPM asserts that the only risk
that is priced by rational investors is systematic risk, because that risk cannot be eliminated by diversification.
The CAPM says that the expected return of a security or a portfolio is equal to the rate on a risk-free security
plus a risk premium.

Capitalization method

A method of constructing a replicating portfolio in which the manager purchases a
number of the largest-capitalized names in the index stock in proportion to their capitalization.

Capitalization table

A table showing the capitalization of a firm, which typically includes the amount of
capital obtained from each source - long-term debt and common equity - and the respective capitalization

Cash settlement contracts

Futures contracts, such as stock index futures, that settle for cash, not involving
the delivery of the Underlying.

Changes in Financial Position

Sources of funds internally provided from operations that alter a company's
cash flow position: depreciation, deferred taxes, other sources, and capital expenditures.

Collection float

The negative float that is created between the time when you deposit a check in your account
and the time when funds are made available.

Collection fractions

The percentage of a given month's sales collected during the month of sale and each
month following the month of sale.

Collection policy

Procedures followed by a firm in attempting to collect accounts receivables.

Collective wisdom

The combination of all of the individual opinions about a stock's or security's value.

Company-specific risk

Related: Unsystematic risk

Comparative credit analysis

A method of analysis in which a firm is compared to others that have a desired
target debt rating in order to infer an appropriate financial ratio target.

Compensating balance

An excess balance that is left in a bank to provide indirect compensation for loans
extended or services provided.

Completion undertaking

An Undertaking either (1) to complete a project such that it meets certain specified
performance criteria on or before a certain specified date or (2) to repay project debt if the completion test
cannot be met.

Compounding period

The length of the time period (for example, a quarter in the case of quarterly
compounding) that elapses before interest compounds.

Concentration account

A single centralized account into which funds collected at regional locations
(lockboxes) are transferred.

Conditional sales contracts

Similar to equipment trust certificates except that the lender is either the
equipment manufacturer or a bank or finance company to whom the manufacturer has sold the conditional
sales contract.

Consumer credit

credit granted by a firm to consumers for the purchase of goods or services. Also called
retail credit.

Contingent deferred sales charge (CDSC)

The formal name for the load of a back-end load fund.

Continuous random variable

A random value that can take any fractional value within specified ranges, as
contrasted with a discrete variable.


A term of reference describing a unit of trading for a financial or commodity future. Also, the actual
bilateral agreement between the buyer and seller of a transaction as defined by an exchange.

Contract month

The month in which futures contracts may be satisfied by making or accepting a delivery.
Also called value managers, those who assemble portfolios with relatively lower betas, lower price-book and
P/E ratios and higher dividend yields, seeing value where others do not.

Convertible exchangeable preferred stock

Convertible preferred stock that may be exchanged, at the
issuer's option, into convertible bonds that have the same conversion features as the convertible preferred

Corporate taxable equivalent

Rate of return required on a par bond to produce the same after-tax yield to
maturity that the premium or discount bond quoted would.

Covered call writing strategy

A strategy that involves writing a call option on securities that the investor
owns in his or her portfolio. See covered or hedge option strategies.


Money loaned.

Credit analysis

The process of analyzing information on companies and bond issues in order to estimate the
ability of the issuer to live up to its future contractual obligations. Related: default risk

Credit enhancement

Purchase of the financial guarantee of a large insurance company to raise funds.

Credit period

The length of time for which the customer is granted credit.

Credit risk

The risk that an issuer of debt securities or a borrower may default on his obligations, or that the
payment may not be made on a negotiable instrument. Related: Default risk

Credit scoring

A statistical technique wherein several financial characteristics are combined to form a single
score to represent a customer's creditworthiness.

Credit spread

Related:Quality spread

Crediting rate

The interest rate offered on an investment type insurance policy.


Lender of money.

Cumulative Translation Adjustment (CTA) account

An entry in a translated balance sheet in which gains
and/or losses from translation have been accumulated over a period of years. The CTA account is required
Under the FASB No. 52 rule.

Current account

Net flow of goods, services, and unilateral transactions (gifts) between countries.







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