Current Liabilities and Contingencies

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Current Liabilities and Contingencies

• CHAPTER 13

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Liabilities
Probable future sacrifices or economic benefits .
. .
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What is a Current Liability?
LIABILITIES
Long-term Liabilities
Current Liabilities
Expected to be satisfied with current assets or
by the creation of other current liabilities.
Usually recorded at maturity amounts.
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Current Liabilities
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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.

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Credit Lines

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

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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.
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Interest-Bearing NotesExample

• On September 1, Eagle Boats borrows 80,000 from
  Cooke Bank. The note is due in 180 days and has
  a stated interest rate of 9.
• Record the borrowing on September 1.

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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

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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
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Interest-Bearing NotesExample

• Assume Eagle Boats fiscal year-end is December
  31.
• Record the necessary adjustment at year-end.

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Interest-Bearing NotesExample

• Assume Eagle Boats fiscal year-end is December
  31.
• Record the necessary journal entry when the note
  matures on February 28.

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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.

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Noninterest-Bearing NotesExample

• On May 1, 19X7, 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?

Interest Face Amount - Amount Received
10,600 -
10,000 600
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Noninterest-Bearing NotesExample

• On May 1, 19X7, 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 implicit interest rate on the note?

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Liabilities from Advance Collections

• Refundable Deposits
• Advances from Customers
• Collections for Third Parties

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Short-Term Obligations Expected to Be Refinanced

• A short-term liability may be reclassified as
  long-term if

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
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Refinancing Agreement Criteria
SFAS No. 6 requires

• The agreement must be noncancelable by all
  parties and must extend beyond one year.
• The company must not be in violation of the
  agreement on the balance sheet or the issue date.
• The lender must be financially capable of
  honoring the agreement.

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Lets look at Contingent Liabilities
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Contingencies

• A loss contingency is an existing uncertain
  situation involving potential loss depending on
  whether some future event occurs.

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Contingencies

• Factors affecting 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.

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Contingencies

• Likelihood of Occurrence Conditions
• Probable
• Confirming event is likely to occur.
• Reasonably Possible
• The chance the confirming event will occur is
  more than remote, but less than likely.
• Remote
• The chance the confirming event will occur is
  slight.

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Loss ContingenciesAccounting Treatments
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Product Warranties and Guarantees

• Product warranties inevitably entail costs.
• The amount of those costs can be reasonably
  estimated.
• The estimate requires

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Extended Warranties

• 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.

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Premiums

• 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.

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Litigation Claims

• 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.

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Subsequent Events

• Events occurring between the year-end date and
  the date the report is issued can affect how the
  disclosures appear on the financial statements.

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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?