Chapter Thirteen Current Liabilities and Contingencies

1. Chapter Thirteen Current Liabilities and Contingencies

2. Liabilities Probable future sacrifices or economic benefits . . . . . . Arising from present obligations to other entities . . . . . . Resulting from past transactions or events.

3. What is a Current Liability? LIABILITIES Current Liabilities Long-term Liabilities Obligations payable within one year or one operating cycle, whichever is longer. Expected to be satisfied with current assets or by the creation of other current liabilities.

4. Accounts payable Cash dividends payable Accrued expenses Current Liabilities Taxes payable Unearned revenues Short-term notes payable Current Liabilities

5. Open Accounts and Notes • Accounts Payable • Obligations to suppliers for goods purchased on open account. • Trade Notes Payable • Similar to accounts payable, but recognized by a written promissory note. • Short-term Notes Payable • Cash borrowed from the bank and recognized by a promissory note.

6. Credit Lines Prearranged agreements with a bank that allow a company to borrow cash without following normal loan procedures and paperwork.

7. Interest Interest on notes is calculated as follows: Amount borrowed Interest rate is always stated as an annual rate. Interest owed is adjusted for the portion of the year that the face amount is outstanding.

8. Interest-Bearing NotesExample On September 1, Eagle Boats borrows $80,000 from Cooke Bank. The note is due in 6 months and has a stated interest rate of 9%. Record the borrowing on September 1.

9. Interest-Bearing NotesExample How much interest is due to Cooke Bank at year-end, on December 31? a. $2,400 b. $3,600 c. $7,200 d. $87,200

10. Interest is calculated as: Face Annual Time to Amount Rate maturity $80,000 9% 4/12 $2,400 interest due to Cooke Bank. × × = × × = Interest-Bearing NotesExample How much interest is due to Cooke Bank at year-end, on December 31? a. $2,400 b. $3,600 c. $7,200 d. $87,200

11. Assume Eagle Boats’ year-end is December 31. Record the necessary adjustment at year-end. Interest-Bearing NotesExample

12. Assume Eagle Boats’ year-end is December 31. Record the necessary adjustment at year-end. Interest-Bearing NotesExample

13. Assume Eagle Boats’ year-end is December 31. Record the necessary journal entry when the note matures on February 28. Interest-Bearing NotesExample

14. Assume Eagle Boats’ year-end is December 31. Record the necessary journal entry when the note matures on February 28. Interest-Bearing NotesExample

15. Short-Term Notes PayableNoninterest-Bearing • Notes without a stated interest rate carry an implicit, or effective, rate. • The face of the note includes the amount borrowed and the interest.

16. On May 1, 2005, Batter-Up, Inc. issued a one-year, noninterest-bearing note with a face amount of $10,600 in exchange for equipment valued at $10,000. How much interest will Batter-Up pay on the note? Noninterest-Bearing NotesExample Interest = Face Amount - Amount Received = $10,600 - $10,000 = $600

17. Noninterest-Bearing NotesExample On May 1, 2005, Batter-Up, Inc. issued a one-year, noninterest-bearing note with a face amount of $10,600 in exchange for equipment valued at $10,000. What is the effective interest rate on the note?

18. Liabilities from Advance Collections • Refundable Deposits • Advances from Customers • Collections for Third Parties

19. A short-term liability may be reclassified as long-term if: Short-Term Obligations Expected to Be Refinanced The expected refinancing is evidenced by good faith entrance into a long-term, noncancelable refinancing agreement with a viable lender. The short-term liability is actually refinanced before the statement issue date. or

20. Let’s look at Contingent Liabilities

21. A loss contingencyis an existing uncertain situation involving potential loss depending on whether some future event occurs. Contingencies

22. Two factors affect whether a loss contingency must be accrued and reported as a liability: the likelihood that the confirming event will occur. whether the loss amount can be reasonably estimated. Contingencies

23. Contingencies – Likelihood of Occurrence • Probable • A confirming event is likely to occur. • Reasonably Possible • The chance the confirming event will occur is > remote, but < likely. • Remote • The chance the confirming event will occur is slight.

24. Loss ContingenciesAccounting Treatments

25. Product warranties inevitably entail costs. The amount of those costs can be reasonably estimated using commonly available estimation techniques. The estimate requires the following entry: Product Warranties and Guarantees

26. Extended warranties are sold separately from the product. The related revenue is not earned until Claims are made against the extended warranty, or The extended warranty period expires. Extended Warranties

27. Premiums included with the product are expensed in the period of sale. Premiums that are contingent on action by the customer require accounting similar to warranties. Premiums

28. The majority of medium and large-size corporations annually report loss contingencies due to litigation. The most common disclosure is a note to the financial statements. Litigation Claims

29. Events occurring between the year-end date and report date can affect the appearance of disclosures on the financial statements. Cause of Loss Contingency Clarification Fiscal Year Ends Financial Statements Subsequent Events

30. Unasserted Claims and Assessments Is a claim orassessmentprobable? End No Yes Can amountbe estimated? Disclosureclaim orassessment Recordestimated claimor assessment No Yes

31. Gain Contingencies Note that the prior rules have supported the recording of LOSS contingencies. As a general rule, we never record GAIN contingencies.

32. End of Chapter 13 You said that I will owe you $1,000,000 if I miss the next putt. So does that mean I have to disclose a contingent loss on my personal financial statement?