Examine the significant accounting policy note on the allowance for doubtful accounts and sales returns. Explain why these allowances are important. What are the challenges that managers face in determining the amount of these allowances? What journal entries are required to record the allowances? What would the impact on the financial statements be if these allowances weren’t recorded? What journal entry would be recorded when a customer returns books to MHR? How could MHR’s managers use these accounts to create hidden reserves?

MHR’s consolidated balance sheets, statements of income, and statements of cash flow, along with extracts from the notes to the financial statements are provided in Exhibit 6.5.

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EXHIBIT 6.5 McGraw-Hill Ryerson: Extracts from Financial Statements Balance Sheets McGraw-Hill Ryerson Limited. Incorporated under the laws of Ontario (In Thousands of Dollars) A at December 31 2008 2007 Assets Current Cash and cash equivalents 43,856 35,646 Accounts receivable (net of allowance for sales returns of $6,986; 2007-$7,206] [note 10] 14.285 14,489 Due from parent and affiliated companies [note 2] 1.827 1,870 Inventories [note 4] 7,082 7,717 Prepaid expenses and other 296 354 Future tax assets (note 7] 2,263 2,390 Total current assets Capital assets, net [note 51 69,609 62,466 16.048 17,247 Other assets, net (note 6] Future tax assets (note 7] 16,540 14,365 623 582 102,820 94,660 Liabilities and Shareholders' Equity Current Accounts payable and accrued charges 10,721 10.821 Dividends payable 13,976 Income taxes payable 359 972 Due to parent and affiliated companies (note 2] 5,669 5,454 Total current liabilities 30,725 17.247