Intermediate Accounting 2
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967808253337710192.pptx13-‹#›
PREVIEW OF CHAPTER
Intermediate Accounting
IFRS 2nd Edition
Kieso, Weygandt, and Warfield
13
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Explain the accounting for different types of provisions.
Identify the criteria used to account for and disclose contingent liabilities and assets.
Indicate how to present and analyze liability-related information.
After studying this chapter, you should be able to:
Current Liabilities, Provisions, and Contingencies
13
LEARNING OBJECTIVES
Describe the nature, type, and valuation of current liabilities.
Explain the classification issues of short-term debt expected to be refinanced.
Identify types of employee-related liabilities.
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Three essential characteristics:
Present obligation.
Arises from past events.
Results in an outflow of resources (cash, goods, services).
CURRENT LIABILITIES
LO 1
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A current liability is reported if one of two conditions exists:
Liability is expected to be settled within its normal operating cycle; or
Liability is expected to be settled within 12 months after the reporting date.
The operating cycle is the period of time elapsing between the acquisition of goods and services and the final cash realization resulting from sales and subsequent collections.
CURRENT LIABILITIES
LO 1
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Typical Current Liabilities:
Accounts payable.
Notes payable.
Current maturities of long-term debt.
Short-term obligations expected to be refinanced.
Dividends payable.
Customer advances and deposits.
Unearned revenues.
Sales and value-added taxes payable.
Income taxes payable.
Employee-related liabilities.
CURRENT LIABILITIES
LO 1
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Accounts Payable (trade accounts payable)
Balances owed to others for goods, supplies, or services purchased on open account.
Time lag between the receipt of services or acquisition of title to assets and the payment for them.
Terms of the sale (e.g., 2/10, n/30 or 1/10, E.O.M.) usually state period of extended credit, commonly 30 to 60 days.
CURRENT LIABILITIES
LO 1
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Notes Payable
Written promises to pay a certain sum of money on a specified future date.
Arise from purchases, financing, or other transactions.
Notes classified as short-term or long-term.
Notes may be interest-bearing or zero-interest-bearing.
CURRENT LIABILITIES
LO 1
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Illustration: Castle National Bank agrees to lend €100,000 on March 1, 2015, to Landscape Co. if Landscape signs a €100,000, 6 percent, four-month note. Landscape records the cash received on March 1 as follows:
Cash 100,000
Notes Payable 100,000
Interest-Bearing Note Issued
CURRENT LIABILITIES
LO 1
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If Landscape prepares financial statements semiannually, it makes the following adjusting entry to recognize interest expense and interest payable at June 30, 2015:
Interest Expense 2,000
Interest Payable 2,000
(€100,000 x 6% x 4/12) = €2,000
Interest calculation =
Interest-Bearing Note Issued
LO 1
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At maturity (July 1, 2016), Landscape records payment of the note and accrued interest as follows.
Notes Payable 100,000
Interest Payable 2,000
Cash 102,000
Interest-Bearing Note Issued
LO 1
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Illustration: On March 1, Landscape issues a €102,000, four-month, zero-interest-bearing note to Castle National Bank. The present value of the note is €100,000. Landscape records this transaction as follows.
Cash 100,000
Notes Payable 100,000
Zero-Interest-Bearing Note Issued
CURRENT LIABILITIES
LO 1
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If Landscape prepares financial statements semiannually, it makes the following adjusting entry to recognize interest expense and the increase in the note payable of €2,000 at June 30.
Interest Expense 2,000
Notes Payable 2,000
At maturity (July 1), Landscape must pay the note, as follows.
Notes Payable 102,000
Cash 102,000
Zero-Interest-Bearing Note Issued
LO 1
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E13-2: (Accounts and Notes Payable) The following are selected 2015 transactions of Darby Corporation.
Sept. 1 - Purchased inventory from Orion Company on account for $50,000. Darby records purchases gross and uses a periodic inventory system.
Oct. 1 - Issued a $50,000, 12-month, 8% note to Orion in payment of account.
Oct. 1 - Borrowed $75,000 from the Shore Bank by signing a 12-month, zero-interest-bearing $81,000 note.
Prepare journal entries for the selected transactions.
CURRENT LIABILITIES
LO 1
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Sept. 1 - Purchased inventory from Orion Company on account for $50,000. Darby records purchases gross and uses a periodic inventory system.
Sept. 1 Purchases 50,000
Accounts Payable 50,000
CURRENT LIABILITIES
LO 1
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Oct. 1 Accounts Payable 50,000
Notes Payable 50,000
Interest calculation =
Oct. 1 - Issued a $50,000, 12-month, 8% note to Orion in payment of account.
Dec. 31 Interest Expense 1,000
Interest Payable 1,000
($50,000 x 8% x 3/12) = $1,000
CURRENT LIABILITIES
LO 1
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Dec. 31 Interest Expense 1,500
Notes Payable 1,500
Oct. 1 Cash 75,000
Notes Payable 75,000
($6,000 x 3/12) = $1,500
Oct. 1 - Borrowed $75,000 from the Shore Bank by signing a 12-month, zero-interest-bearing $81,000 note.
Interest calculation =
CURRENT LIABILITIES
LO 1
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Portion of bonds, mortgage notes, and other long-term indebtedness that matures within the next fiscal year.
Exclude long-term debts maturing currently if they are to be:
Current Maturities of Long-Term Debt
Retired by assets accumulated that have not been shown as current assets,
Refinanced, or retired from the proceeds of a new debt issue, or
Converted into ordinary shares.
CURRENT LIABILITIES
LO 1
13-‹#›
Explain the accounting for different types of provisions.
Identify the criteria used to account for and disclose contingent liabilities and assets.
Indicate how to present and analyze liability-related information.
After studying this chapter, you should be able to:
Current Liabilities, Provisions, and Contingencies
13
LEARNING OBJECTIVES
Describe the nature, type, and valuation of current liabilities.
Explain the classification issues of short-term debt expected to be refinanced.
Identify types of employee-related liabilities.
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Short-Term Obligations Expected to Be Refinanced
Exclude from current liabilities if both of the following conditions are met:
Must intend to refinance the obligation on a long-term basis.
Must have an unconditional right to defer settlement of the liability for at least 12 months after the reporting date.
CURRENT LIABILITIES
LO 2
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E13-4 (Refinancing of Short-Term Debt): The CFO for Yong Corporation is discussing with the company’s chief executive officer issues related to the company’s short-term obligations. Presently, both the current ratio and the acid-test ratio for the company are quite low, and the chief executive officer is wondering if any of these short-term obligations could be reclassified as long-term. The financial reporting date is December 31, 2014. Two short-term obligations were discussed, and the following action was taken by the CFO.
Instructions: Indicate how these transactions should be reported at Dec. 31, 2014, on Yongs’ statement of financial position.
CURRENT LIABILITIES
LO 2
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Short-Term Obligation A: Yong has a $50,000 short-term obligation due on March 1, 2015. The CFO discussed with its lender whether the payment could be extended to March 1, 2017, provided Yong agrees to provide additional collateral. An agreement is reached on February 1, 2015, to change the loan terms to extend the obligation’s maturity to March 1, 2017. The financial statements are authorized for issuance on April 1, 2015.
Liability of $50,000
Dec. 31, 2014
Statement Issuance
Apr. 1, 2015
Liability due for payment
Mar. 1, 2015
Refinance completed
Feb. 1, 2015
CURRENT LIABILITIES
LO 2
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Current Liability of $50,000
Dec. 31, 2015
Since the agreement was not in place as of the reporting date (December 31, 2015), the obligation should be reported as a current liability.
CURRENT LIABILITIES
Short-Term Obligation A: Yong has a $50,000 short-term obligation due on March 1, 2015. The CFO discussed with its lender whether the payment could be extended to March 1, 2017, provided Yong agrees to provide additional collateral. An agreement is reached on February 1, 2015, to change the loan terms to extend the obligation’s maturity to March 1, 2017. The financial statements are authorized for issuance on April 1, 2015.
LO 2
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Refinance completed
Dec. 18, 2014
Statement Issuance
Mar. 31, 2015
Liability due for payment
Feb. 15, 2015
Liability of $120,000
Dec. 31, 2014
CURRENT LIABILITIES
Short-Term Obligation B: Yong also has another short-term obligation of $120,000 due on February 15, 2015. In its discussion with the lender, the lender agrees to extend the maturity date to February 1, 2016. The agreement is signed on December 18, 2014. The financial statements are authorized for issuance on March 31, 2015.
LO 2
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Refinance completed
Dec. 18, 2014
Non-Current Liability of $120,000
Dec. 31, 2014
Since the agreement was in place as of the reporting date (December 31, 2014), the obligation is reported as a non-current liability.
CURRENT LIABILITIES
Short-Term Obligation B: Yong also has another short-term obligation of $120,000 due on February 15, 2015. In its discussion with the lender, the lender agrees to extend the maturity date to February 1, 2016. The agreement is signed on December 18, 2014. The financial statements are authorized for issuance on March 31, 2015.
LO 2
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Dividends Payable
Amount owed by a corporation to its stockholders as a result of board of directors’ authorization.
Generally paid within three months.
Undeclared dividends on cumulative preference shares not recognized as a liability.
Dividends payable in the form of additional shares are not recognized as a liability.
Reported in equity.
CURRENT LIABILITIES
LO 2
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Customer Advances and Deposits
Returnable cash deposits received from customers and employees.
May be classified as current or non-current liabilities.
CURRENT LIABILITIES
LO 2
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Payment received before providing goods or performing services.
Unearned Revenues
ILLUSTRATION 13-2
Unearned and Earned Revenue Accounts
CURRENT LIABILITIES
LO 2
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BE13-6: Sports Pro Magazine sold 12,000 annual subscriptions on August 1, 2015, for €18 each. Prepare Sports Pro’s August 1, 2015, journal entry and the December 31, 2015, annual adjusting entry.
Aug. 1 Cash 216,000
Unearned Revenue 216,000
(12,000 x €18)
Dec. 31 Unearned Revenue 90,000
Subscription Revenue 90,000
(€216,000 x 5/12 = €90,000)
CURRENT LIABILITIES
LO 2
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Consumption taxes are generally either
a sales tax or
a value-added tax (VAT).
Purpose is to generate revenue for the government.
The two systems use different methods to accomplish this objective.
Sales and Value-Added Taxes Payable
CURRENT LIABILITIES
LO 2
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Illustration: Halo Supermarket sells loaves of bread to consumers on a given day for €2,400. Assuming a sales tax rate of 10 percent, Halo Supermarket makes the following entry to record the sale.
Sales Taxes Payable
Cash 2,640
Sales Revenue 2,400
Sales Taxes Payable 240
LO 2
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Illustration: The VAT is collected every time a business purchases products from another business in the product’s supply chain. To illustrate,
Hill Farms Wheat Company grows wheat and sells it to Sunshine Baking for €1,000. Hill Farms Wheat makes the following entry to record the sale, assuming the VAT is 10 percent.
Value-Added Taxes Payable
Cash 1,100
Sales Revenue 1,000
Value-Added Taxes Payable 100
LO 2
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Sunshine Baking makes loaves of bread from this wheat and sells it to Halo Supermarket for €2,000. Sunshine Baking makes the following entry to record the sale, assuming the VAT is 10 percent.
Value-Added Taxes Payable
Cash 2,200
Sales Revenue 2,000
Value-Added Taxes Payable 200
Sunshine Baking then remits €100 to the government, not €200. The reason: Sunshine Baking has already paid €100 to Hill Farms Wheat.
LO 2
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Halo Supermarket sells the loaves of bread to consumers for €2,400. Halo Supermarket makes the following entry to record the sale, assuming the VAT is 10 percent.
Value-Added Taxes Payable
Cash 2,640
Sales Revenue 2,400
Value-Added Taxes Payable 240
Halo Supermarket then sends only €40 to the tax authority as it deducts the €200 VAT already paid to Sunshine Baking.
LO 2
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Income Tax Payable
Businesses must prepare an income tax return and compute the income tax payable.
Taxes payable are a current liability.
Corporations must make periodic tax payments.
Differences between taxable income and accounting income sometimes occur (Chapter 19).
CURRENT LIABILITIES
LO 2
13-‹#›
Explain the accounting for different types of provisions.
Identify the criteria used to account for and disclose contingent liabilities and assets.
Indicate how to present and analyze liability-related information.
After studying this chapter, you should be able to:
Current Liabilities, Provisions, and Contingencies
13
LEARNING OBJECTIVES
Describe the nature, type, and valuation of current liabilities.
Explain the classification issues of short-term debt expected to be refinanced.
Identify types of employee-related liabilities.
13-‹#›
Employee-Related Liabilities
Amounts owed to employees for salaries or wages are reported as a current liability.
Current liabilities may include:
Payroll deductions.
Compensated absences.
Bonuses.
CURRENT LIABILITIES
LO 3
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Payroll Deductions
Taxes:
Social Security Taxes
Income Tax Withholding
ILLUSTRATION 13-4
Summary of Payroll Liabilities
Employee-Related Liabilities
LO 3
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Illustration: Assume a weekly payroll of $10,000 entirely subject to Social Security taxes (8%), with income tax withholding of $1,320 and union dues of $88 deducted. The company records the wages and salaries paid and the employee payroll deductions as follows.
Wages and Salaries Expense 10,000
Withholding Taxes Payable 1,320
Social Security Taxes Payable 800
Union Dues Payable 88
Cash 7,792
Employee-Related Liabilities
LO 3
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Illustration: Assume a weekly payroll of $10,000 entirely subject to Social Security taxes (8%), with income tax withholding of $1,320 and union dues of $88 deducted. The company records the employer payroll taxes as follows.
Payroll Tax Expense 800
Social Security Taxes Payable 800
The employer must remit to the government its share of Social Security tax along with the amount of Social Security tax deducted from each employee’s gross compensation.
Employee-Related Liabilities
LO 3
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Compensated Absences
Paid absences for vacation, illness and maternity, paternity, and jury leaves.
Vested rights - employer has an obligation to make payment to an employee even after terminating his or her employment.
Accumulated rights - employees can carry forward to future periods if not used in the period in which earned.
Non-accumulating rights - do not carry forward; they lapse if not used.
Employee-Related Liabilities
LO 3
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Illustration: Amutron Inc. began operations on January 1, 2015. The company employs 10 individuals and pays each €480 per week. Employees earned 20 unused vacation weeks in 2015. In 2016, the employees used the vacation weeks, but now they each earn €540 per week. Amutron accrues the accumulated vacation pay on December 31, 2015, as follows.
Salaries and Wages Expense 9,600
Salaries and Wages Payable 9,600
In 2016, it records the payment of vacation pay as follows.
Salaries and Wages Payable 9,600
Salaries and Wages Expense 1,200
Cash 10,800
Employee-Related Liabilities
LO 3
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Payments to certain or all employees in addition to their regular salaries or wages.
Bonuses paid are an operating expense.
Unpaid bonuses should be reported as a current liability.
Profit-Sharing and Bonus Plans
Employee-Related Liabilities
LO 3
13-‹#›
Explain the accounting for different types of provisions.
Identify the criteria used to account for and disclose contingent liabilities and assets.
Indicate how to present and analyze liability-related information.
After studying this chapter, you should be able to:
Current Liabilities, Provisions, and Contingencies
13
LEARNING OBJECTIVES
Describe the nature, type, and valuation of current liabilities.
Explain the classification issues of short-term debt expected to be refinanced.
Identify types of employee-related liabilities.
13-‹#›
Provision is a liability of uncertain timing or amount.
Reported either as current or non-current liability.
Common types are
Obligations related to litigation.
Warrantees or product guarantees.
Business restructurings.
Environmental damage.
Uncertainty about the timing or amount of the future expenditure required to settle the obligation.
PROVISIONS
LO 4
13-‹#›
Companies accrue an expense and related liability for a provision only if the following three conditions are met:
Company has a present obligation (legal or constructive) as a result of a past event;
Probable that an outflow of resources will be required to settle the obligation; and
A reliable estimate can be made.
Recognition of a Provision
LO 4
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A reliable estimate of the amount of the obligation can be determined.
Recognition Examples
Recognition of a Provision
ILLUSTRATION 13-5
Recognition of a Provision—Warranty
LO 4
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Constructive obligation is an obligation that derives from a company’s actions where:
By an established pattern of past practice, published policies, or a sufficiently specific current statement, the company has indicated to other parties that it will accept certain responsibilities; and
As a result, the company has created a valid expectation on the part of those other parties that it will discharge those responsibilities.
Recognition Examples
LO 4
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A reliable estimate of the amount of the obligation can be determined.
Recognition Examples
ILLUSTRATION 13-6
Recognition of a Provision—Refunds
LO 4
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A reliable estimate of the amount of the obligation can be determined.
Recognition Examples
ILLUSTRATION 13-7
Recognition of a Provision—Lawsuit
LO 4
13-‹#›
How does a company determine the amount to report for a provision?
IFRS:
Amount recognized should be the best estimate of the expenditure required to settle the present obligation.
Best estimate represents the amount that a company would pay to settle the obligation at the statement of financial position date.
Measurement of Provisions
LO 4
13-‹#›
Management must use judgment, based on past or similar transactions, discussions with experts, and any other pertinent information.
Measurement Examples
Toyota warranties. Toyota might determine that 80 percent of its cars will not have any warranty cost, 12 percent will have substantial costs, and 8 percent will have a much smaller cost. In this case, by weighting all the possible outcomes by their associated probabilities, Toyota arrives at an expected value for its warranty liability.
Measurement of Provisions
LO 4
13-‹#›
Carrefour refunds. Carrefour sells many items at varying selling prices. Refunds to customers for products sold may be viewed as a continuous range of refunds, with each point in the range having the same probability of occurrence. In this case, the midpoint in the range can be used as the basis for measuring the amount of the refunds.
Measurement of Provisions
Management must use judgment, based on past or similar transactions, discussions with experts, and any other pertinent information.
Measurement Examples
LO 4
13-‹#›
Measurement of the liability should consider the time value of money, if material. Future events that may have an impact on the measurement of the costs should be considered.
Novartis lawsuit. Large companies like Novartis are involved in numerous litigation issues related to their products. Where a single obligation such as a lawsuit is being measured, the most likely outcome of the lawsuit may be the best estimate of the liability.
Measurement of Provisions
Measurement Examples
LO 4
13-‹#›
Common Types:
Lawsuits
Warranties
Consideration payable
Environmental
Onerous contracts
Restructuring
IFRS requires extensive disclosure related to provisions in the notes to the financial statements. Companies do not record or report in the notes general risk contingencies inherent in business operations (e.g., the possibility of war, strike, uninsurable catastrophes, or a business recession).
Common Types of Provisions
LO 4
13-‹#›
Litigation Provisions
Companies must consider the following in determining whether to record a liability with respect to pending or threatened litigation and actual or possible claims and assessments.
The time period in which the underlying cause of action occurred.
The probability of an unfavorable outcome.
Ability to make a reasonable estimate of the amount of loss.
Common Types of Provisions
LO 4
13-‹#›
With respect to unfiled suits and unasserted claims and assessments, a company must determine
the degree of probability that a suit may be filed or a claim or assessment may be asserted, and
the probability of an unfavorable outcome.
If both are probable, if the loss is reasonably estimable, and if the cause for action is dated on or before the date of the financial statements, then the company should accrue the liability.
Litigation Provisions
LO 4
13-‹#›
BE13-12: Scorcese Inc. is involved in a lawsuit at December 31, 2015. (a) Prepare the December 31 entry assuming it is probable that Scorcese will be liable for ₺900,000 as a result of this suit. (b) Prepare the December 31 entry, if any, assuming it is not probable that Scorcese will be liable for any payment as a result of this suit.
(a) Lawsuit Loss 900,000
Lawsuit Liability 900,000
(b) No entry is necessary. The loss is not accrued because it is not probable that a liability has been incurred at 12/31/15.
Litigation Provisions
LO 4
13-‹#›
Warranty Provisions
Promise made by a seller to a buyer to make good on a deficiency of quantity, quality, or performance in a product.
If it is probable that customers will make warranty claims and a company can reasonably estimate the costs involved, the company must record an expense.
Common Types of Provisions
LO 4
13-‹#›
Companies often provide one of two types of warranties to customers:
Assurance-Type Warranty
A quality guarantee that the good or service is free from defects at the point of sale.
Obligations should be expensed in the period the goods are provided or services performed (in other words, at the point of sale).
Company should record a warranty liability.
Warranty Provisions
LO 4
13-‹#›
Facts: Denson Machinery Company begins production of a new machine in July 2015 and sells 100 of these machines for $5,000 cash by year-end. Each machine is under warranty for one year. Denson estimates, based on past experience with similar machines, that the warranty cost will average $200 per unit. Further, as a result of parts replacements and services performed in compliance with machinery warranties, it incurs $4,000 in warranty costs in 2015 and $16,000 in 2016.
Question: What are the journal entries for the sale and the related warranty costs for 2015 and 2016?
Assurance-Type Warranty
LO 4
13-‹#›
Solution: For the sale of the machines and related warranty costs in 2015 the entry is as follows.
1. To recognize sales of machines and accrual of warranty liability:
July–December 2015
Assurance-Type Warranty
Cash 500,000
Warranty Expense 20,000
Warranty Liability 20,000
Sales Revenue 500,000
LO 4
13-‹#›
Solution: For the sale of the machines and related warranty costs in 2015 the entry is as follows.
2. To record payment for warranties incurred:
July–December 2015
Assurance-Type Warranty
Warranty Liability 4,000
Cash, Inventory, Accrued Payroll 4,000
The December 31, 2015, statement of financial position reports Warranty Liability as a current liability of $16,000. The income statement for 2015 reports Warranty Expense of $20,000.
LO 4
13-‹#›
Assurance-Type Warranty
Warranty Liability 16,000
Cash, Inventory, Accrued Payroll 16,000
Solution: For the sale of the machines and related warranty costs in 2015 the entry is as follows.
3. To record payment for warranty costs incurred in 2016 related to 2015 machinery sales:
January 1–December 31, 2016
At the end of 2016, no warranty liability is reported for the machinery sold in 2015.
LO 4
13-‹#›
Companies often provide one of two types of warranties to customers:
Service-Type Warranty
An extended warranty on the product at an additional cost.
Usually recorded in an Unearned Warranty Revenue account.
Recognize revenue on a straight-line basis over the period the service-type warranty is in effect.
Warranty Provisions
LO 4
13-‹#›
Facts: You purchase an automobile from Hamlin Auto for €30,000 on January 2, 2014. Hamlin estimates the assurance-type warranty costs on the automobile to be €700 (Hamlin will pay for repairs for the first 36,000 miles or three years, whichever comes first). You also purchase for €900 a service-type warranty for an additional three years or 36,000 miles. Hamlin incurs warranty costs related to the assurance-type warranty of €500 in 2014 and €200 in 2015. Hamlin records revenue on the service-type warranty on a straight-line basis.
Question: What entries should Hamlin make in 2014 and 2017?
Service-Type Warranty
LO 4
13-‹#›
Solution:
1. To record the sale of the automobile and related warranties:
January 2, 2014
Service-Type Warranty
Cash (€30,000 + €900) 30,900
Warranty Expense 700
Warranty Liability 700
Unearned Warranty Revenue 900
Sales Revenue 30,000
LO 4
13-‹#›
Solution:
2. To record warranty costs incurred in 2014:
January 2–December 31, 2014
Service-Type Warranty
Warranty Liability 500
Cash, Inventory, Accrued Payroll 500
LO 4
13-‹#›
Solution:
3. To record revenue recognized in 2017 on the service-type warranty:
January 1–December 31, 2017
Service-Type Warranty
Unearned Warranty Revenue (€900 ÷ 3) 300
Warranty Revenue 300
LO 4
13-‹#›
Consideration Payable
Companies often make payments (provide consideration) to their customers as part of a revenue arrangement.
Companies offer premiums, coupon offers, and rebates to stimulate sales.
Companies should charge the costs of premiums and coupons to expense in the period of the sale that benefits from the plan.
Common Types of Provisions
LO 4
13-‹#›
Facts: Fluffy Cake Mix Company sells boxes of cake mix for £3 per box. In addition, Fluffy Cake Mix offers its customers a large durable mixing bowl in exchange for £1 and 10 box tops. The mixing bowl costs Fluffy Cake Mix £2, and the company estimates that customers will redeem 60 percent of the box tops. The premium offer began in June 2015. During 2015, Fluffy Cake Mix purchased 20,000 mixing bowls at £2, sold 300,000 boxes of cake mix for £3 per box, and redeemed 60,000 box tops.
Question: What entries should Fluffy Cake Mix record in 2015?
Consideration Payable
LO 4
13-‹#›
Solution:
1. To record purchase of 20,000 mixing bowls at £2 per bowl:
Premium Inventory (20,000 bowls x £2) 40,000
Cash 40,000
Consideration Payable
LO 4
13-‹#›
Solution:
Before Fluffy Cake Mix makes the entry to record the sale of the cake mix boxes, it determines its premium expense and related premium liability. This computation is as follows.
Consideration Payable
LO 4
13-‹#›
Solution:
The entry to record the sale of the cake mix boxes and premium expense and premium liability is as follows.
Consideration Payable
Cash (300,000 boxes x £3) 900,000
Premium Expense 18,000
Sales Revenue 900,000
Premium Liability 18,000
LO 4
13-‹#›
Solution:
To record the actual redemption of 60,000 box tops, the receipt of £1 per 10 box tops, and the delivery of the mixing bowls:
Consideration Payable
Cash [(60,000 ÷ 10) x £1] 6,000
Premium Liability 6,000
Premium Inventory [(60,000 ÷ 10) x £2] 12,000
LO 4
13-‹#›
A company must recognize an environmental liability when it has an existing legal obligation associated with the retirement of a long-lived asset and when it can reasonably estimate the amount of the liability.
Environmental Provisions
Common Types of Provisions
LO 4
13-‹#›
Obligating Events. Examples of existing legal obligations, which require recognition of a liability include, but are not limited to:
Decommissioning nuclear facilities,
Dismantling, restoring, and reclamation of oil and gas properties,
Certain closure, reclamation, and removal costs of mining facilities,
Closure and post-closure costs of landfills.
Environmental Provisions
LO 4
13-‹#›
Measurement. A company initially measures an environmental liability at the best estimate of its future costs.
Recognition and Allocation. To record an environmental liability a company includes
the cost associated with the environmental liability in the carrying amount of the related long-lived asset, and
records a liability for the same amount.
Environmental Provisions
LO 4
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Illustration: On January 1, 2015, Wildcat Oil Company erected an oil platform in the Gulf of Mexico. Wildcat is legally required to dismantle and remove the platform at the end of its useful life, estimated to be five years. Wildcat estimates that dismantling and removal will cost $1,000,000. Based on a 10 percent discount rate, the fair value of the environmental liability is estimated to be $620,920 ($1,000,000 x .62092). Wildcat records this liability on Jan. 1, 2015 as follows.
Drilling Platform 620,920
Environmental Liability 620,920
Environmental Provisions
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Illustration: During the life of the asset, Wildcat allocates the asset retirement cost to expense. Using the straight-line method, Wildcat makes the following entries to record this expense.
Depreciation Expense ($620,920 ÷ 5) 124,184
Accumulated Depreciation—Plant Assets 124,184
December 31, 2015, 2016, 2017, 2018
Environmental Provisions
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Illustration: In addition, Wildcat must accrue interest expense each period. Wildcat records interest expense and the related increase in the environmental liability on December 31, 2015, as follows.
Environmental Provisions
Interest Expense ($620,920 x 10%) 62,092
Environmental Liability 62,092
December 31, 2015
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Illustration: On January 10, 2020, Wildcat contracts with Rig Reclaimers, Inc. to dismantle the platform at a contract price of $995,000. Wildcat makes the following journal entry to
record settlement of the liability.
Environmental Provisions
Environmental Liability 1,000,000
Gain on Settlement of Environmental Liability 5,000
Cash 995,000
January 10, 2020
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“The unavoidable costs of meeting the obligations exceed the economic benefits expected to be received.”
The expected costs should reflect the least net cost of exiting from the contract, which is the lower of
the cost of fulfilling the contract, or
the compensation or penalties arising from failure to fulfill the contract.
Onerous Contract Provisions
Common Types of Provisions
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Illustration: Sumart Sports operates profitably in a factory that it has leased and on which it pays monthly rentals. Sumart decides to relocate its operations to another facility. However, the lease on the old facility continues for the next three years. Unfortunately, Sumart cannot cancel the lease nor will it be able to sublet the factory to another party. The expected costs to satisfy this onerous contract are €200,000. In this case, Sumart makes the following entry.
Loss on Lease Contract 200,000
Lease Contract Liability 200,000
Onerous Contract Provisions
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Assume the same facts as above for the Sumart example and the expected costs to fulfill the contract are €200,000. However, Sumart can cancel the lease by paying a penalty of €175,000. In this case, Sumart should record the liability as follows.
Loss on Lease Contract 175,000
Lease Contract Liability 175,000
Onerous Contract Provisions
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Restructuring Provisions
Restructurings are defined as a “program that is planned and controlled by management and materially changes either
the scope of a business undertaken by the company; or
the manner in which that business is conducted.”
Companies are required to have a detailed formal plan for the restructuring and to have raised a valid expectation to those affected by implementation or announcement of the plan.
Common Types of Provisions
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IFRS provides specific guidance related to certain costs and losses that should be excluded from the restructuring provision.
Restructuring Provisions
ILLUSTRATION 13-13
Costs Included/Excluded
from Restructuring Provision
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Restructuring Provisions
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Self-insurance is not insurance, but risk assumption.
There is little theoretical justification for the establishment of a liability based on a hypothetical charge to insurance expense.
Conditions for accrual stated in IFRS are not satisfied prior to the occurrence of the event.
Self-Insurance
Common Types of Provisions
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A company must provide a reconciliation of its beginning to ending balance for each major class of provisions, identifying what caused the change during the period.
In addition,
Provision must be described and the expected timing of any outflows disclosed.
Disclosure about uncertainties related to expected outflows as well as expected reimbursements should be provided.
Disclosure Related to Provisions
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Explain the accounting for different types of provisions.
Identify the criteria used to account for and disclose contingent liabilities and assets.
Indicate how to present and analyze liability-related information.
After studying this chapter, you should be able to:
Current Liabilities, Provisions, and Contingencies
13
LEARNING OBJECTIVES
Describe the nature, type, and valuation of current liabilities.
Explain the classification issues of short-term debt expected to be refinanced.
Identify types of employee-related liabilities.
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Contingent liabilities are not recognized in the financial statements because they are
A possible obligation (not yet confirmed),
A present obligation for which it is not probable that payment will be made, or
A present obligation for which a reliable estimate of the obligation cannot be made.
CONTINGENCIES
Contingent Liabilities
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Illustration 13-16 presents the general guidelines for the accounting and reporting of contingent liabilities.
Contingent Liabilities
ILLUSTRATION 13-16
Contingent Liability
Guidelines
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A contingent asset is a possible asset that arises from past events and whose existence will be confirmed by the occurrence or non-occurrence of uncertain future events not wholly within the control of the company. Typical contingent assets are:
Possible receipts of monies from gifts, donations, bonuses.
Possible refunds from the government in tax disputes.
Pending court cases with a probable favorable outcome.
Contingent assets are not recognized on the statement of financial position.
CONTINGENCIES
Contingent Assets
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Contingent assets are disclosed when an inflow of economic benefits is considered more likely than not to occur (greater than 50 percent).
Contingent Assets
The general rules related to contingent assets are presented in Illustration 13-18.
ILLUSTRATION 13-18
Contingent Asset Guidelines
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Explain the accounting for different types of provisions.
Identify the criteria used to account for and disclose contingent liabilities and assets.
Indicate how to present and analyze liability-related information.
After studying this chapter, you should be able to:
Current Liabilities, Provisions, and Contingencies
13
LEARNING OBJECTIVES
Describe the nature, type, and valuation of current liabilities.
Explain the classification issues of short-term debt expected to be refinanced.
Identify types of employee-related liabilities.
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Presentation of Current Liabilities
Usually reported at their full maturity value.
Difference between present value and the maturity value is considered immaterial.
PRESENTATION AND ANALYSIS
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Illustration 13-15
Presentation of Current Liabilities
ILLUSTRATION 13-19
Current Assets and
Current Liabilities
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Liquidity regarding a liability is the expected time to elapse before its payment. Two ratios to help assess liquidity are:
Illustration: Compute these two ratios using the information for Wilmar International Limited (SGP) in Illustration 13-19.
Analysis of Current Liabilities
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