accounting assignment
whiterose2015
chapter_13_1.pptxCurrent Liabilities and Contingencies
Chapter 13
Topics you should know after today’s class
What is the definition of current liability?
How to classify short-term debt expected to be refinance?
Conceptually, how to deal with gain/loss contingencies?
How to make entries under various types of loss contingencies?
How to make entries associated with warranty?
Both cash basis and accrual method?
Current Liabilities
Operating cycle: period of time elapsing between the acquisition of goods and services and the final cash realization resulting from sales and subsequent collections.
Current liabilities are “obligations whose liquidation is reasonably expected to require use of existing resources properly classified as current assets, or the creation of other current liabilities.”
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 taxes payable.
Income taxes payable.
Employee-related liabilities.
Accounts Payable: Balances owed to others for goods, supplies, or services purchased.
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.
Payable
Notes Payable: Written promises to pay a certain sum of money on a specified future date.
Arise from purchases, financing, or other transactions.
Classified as short-term or long-term.
Portion of bonds, mortgage notes, and other long-term indebtedness that matures within the next fiscal year.
Current Maturities of Long-Term Debt
Refinancing a short-term obligation on a long-term basis
Either replacing it with a long-term obligation or equity securities, or renewing beyond one year from the balance sheet date.
Exclude from current liabilities if both of the following conditions are met:
Must intend to refinance the obligation on a long-term basis.
Must demonstrate an ability to refinance:
Actual refinancing.
Enter into a financing agreement.
On December 31, 2014, Alexander Company had $1,200,000 of short-term debt in the form of notes payable due February 2, 2015. On January 21, 2015, the company issued 25,000 shares of its common stock for $36 per share, receiving $900,000 proceeds after brokerage fees and other costs of issuance.
On February 2, 2015, the proceeds from the stock sale, supplemented by an additional $300,000 cash, are used to liquidate the $1,200,000 debt. The December 31, 2014, balance sheet is issued on February 23, 2015.
Show how the $1,200,000 of short-term debt should be presented on the December 31, 2014, balance sheet, including note disclosure
Illustration
Partial Balance Sheet
Current liabilities:
Notes Payable
$300,000
Long-term debt:
Notes payable refinanced 900,000
Total liabilities $1,200,000
Illustration
December 31, 2014
Balance sheet date
Liability of $1,200,000
How to classify?
January 21, 2015
February 2, 2015
February 23, 2015
Issued stock for $900,000
Liability of $1,200,000 paid off
Financial statements issued
On December 31, 2014, Hattie McDaniel Company had $1,289,200 of short-term debt in the form of notes payable due February 2, 2015. On January 21, 2015, the company issued 25,460 shares of its common stock and received net amount of $942,020.
On February 2, 2015, the proceeds from the stock sale, supplemented by an additional $347,180 cash, are used to liquidate the $1,289,200 debt. The December 31, 2014, balance sheet is issued on February 23, 2015.
How much should Hattie McDaniel reported as current liability on the December 31, 2014, balance sheet?
$942,020
$347,180
$1,289,200
0
E13-3
Dividends Payable : Amount owed by a corporation to its stockholders as a result of board of directors’ authorization.
Generally paid within three months.
Dividends payable in the form of additional shares of stock are reported in stockholders’ equity.
Dividends Payable & Customer Advances and Deposits
Returnable cash deposits received from customers and employees.
To guarantee performance of a contract or service, or as guarantees to cover payment of expected future obligations.
May be classified as current or long-term liabilities.
Other Current Liabilities
Unearned Revenues
Sales Taxes/Income Tax Payable: Retailers must collect sales taxes from customers on transfers of tangible personal property and on certain services and then remit to the proper governmental authority.
Employee-Related Liabilities: Amounts owed to employees for salaries or wages are reported as a current liability.
In addition, the following items related to employee compensation often also report as current liabilities, such as Payroll deductions, social security taxes, unemployment taxes, and income tax withholding.
“An existing condition, situation, or set of circumstances involving uncertainty as to possible gain (gain contingency) or loss (loss contingency) to an enterprise that will ultimately be resolved when one or more future events occur or fail to occur.”
Contingencies
Typical Gain Contingencies are:
Possible receipts of monies from gifts, donations, and asset sales.
Possible refunds from the government in tax disputes.
Pending court cases with a probable favorable outcome.
Gain contingencies are not recorded.
Accounting
Probability
Accrue
Footnote
Ignore
Probable
Reasonably
Possible
Remote
Loss Contingencies
Scorcese Inc. is involved in a lawsuit at December 31, 2014. (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
Loss Contingencies
(b) No entry is necessary. The loss is not accrued because it is not probable that a liability has been incurred at 12/31/14.
E13-11 (1)
As a result of uninsured accidents during the year, personal injury suits for $375,800 and $64,500 have been filed against the company.
It is the judgment of Polska’s legal counsel that an unfavorable outcome is unlikely in the $64,500 case but that an unfavorable verdict approximating $256,700 will probably result in the $375,800 case.
What is the amount of lawsuit liability Polska should recognize?
378,000
64,500
256,700
375,800
Guarantee and Warranty Costs
Promise made by a seller to a buyer to make good on a deficiency of quantity, quality, or performance in a product.
Cash-Basis Method.
Expense warranty costs as incurred, because
it is not probable that a liability has been incurred, or
it cannot reasonably estimate the amount of the liability.
Accrual-Basis Method.
Charge warranty costs to operating expense in the year of sale.
Method is the generally accepted method.
Referred to as the expense warranty approach.
Guarantee and Warranty Costs (Accrual-basis)
Denson Machinery Company begins production on a new machine in July 2014, and sells 100 units at $5,000 each by its year-end, December 31, 2014.
Each machine is under warranty for one year. Denson estimates that the warranty cost will average $200 per unit.
Further, as a result of parts replacements and services rendered in compliance with machinery warranties, it incurs $4,000 in warranty costs in 2014 and $16,000 in 2015.
Sale of 100 machines at $5,000 each, July through December 2014:
Cash or Accounts Receivable 500,000
Sales Revenue 500,000
Guarantee and Warranty Costs (Accrual-basis)
Recognition of warranty expense, July through December 2014:
(Warranty costs incurred)
Warranty Expense 4,000
Cash, Inventory, Accrued Payroll 4,000
(To accrue estimated warranty costs)
Warranty Expense 16,000
Warranty Liability 16,000
Recognition of warranty costs incurred in 2015 (on 2014 sales):
Warranty Liability 16,000
Cash, Inventory, Accrued Payroll 16,000
E13-5
Brooks Corporation sells computers under a 2year warranty contract that requires the corporation to replace defective parts and to provide the necessary repair labor.
During 2014, the corporation sells for cash 488 computers at a unit price of $2,960.
On the basis of past experience, the 2 year warranty costs are estimated to be $156 for parts and $206 for labor per unit.
Cash Basis
Record any necessary journal entries in 2014.
In 2015, the actual warranty costs to Brooks Corporation were $23,610 for parts and $41,260 for labor.
E13-5
Accrual basis
Record any necessary journal entries in 2014.
What liability relative to these transactions would appear on the December 31, 2014, balance sheet and how would it be classified if the expense warranty accrual method is applied?
In 2015, the actual warranty costs to Brooks Corporation were $23,610 for parts and $41,260 for labor. How to do the entry for 2015?
Debit Warranty Expense 64,870
Debit Warranty Liability 64,870
Debit Warranty Expense 23,610
Debit Warranty Liability 41,260
Other Loss Contingencies
Premiums and Coupons: Companies should charge the costs of premiums and coupons to expense in the period of the sale that benefits from the plan.
Environmental Liabilities: A company must recognize an asset retirement obligation (ARO) 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.
Self-Insurance
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.
E13-11 (3)
Polska’s chemical product division consisting of five plants is uninsurable because of the special risk of injury to employees and losses due to fire and explosion.
The year 2014 is considered one of the safest in the division’s history because no loss due to injury or casualty was suffered.
Having suffered an average of three casualties a year during the rest of the past decade (ranging from $64,500 to $744,700), management is certain that next year the company will probably not be so fortunate.
Presentation and Analysis
Usually reported at their full maturity value.
Difference between present value and the maturity value is considered immaterial.
Companies may list the accounts in
Order of maturity,
Descending order of amount, or
Order of liquidation preference.
Presentation of Current Liabilities
If a company excludes a short-term obligation from current liabilities because of refinancing, it should include the following in the note to the financial statements:
A general description of the financing agreement.
The terms of any new obligation incurred or to be incurred.
The terms of any equity security issued or to be issued.
Companies should disclose certain other contingent liabilities.
Guarantees of indebtedness of others.
Obligations of commercial banks under “stand-by letters of credit.”
Guarantees to repurchase receivables (or any related property) that have been sold or assigned.
Presentation of Contingencies
Disclosure should include:
Nature of the contingency.
An estimate of the possible loss or range of loss or a statement that an estimate cannot be made.
