Chapter 9

Liabilities

Chapter 9 Liabilities
Learning Objective 1
Account for current liabilities and contingent
liabilities

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Current Liabilities
Obligations due within one year
Two types:
_______ amounts
_______ amounts

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Current Liabilities: Known Amount

Accounts
payable

Short-term
notes payable

Sales tax
payable

Accrued
liabilities

Payroll
liabilities

Unearned
revenues

Current
portion of
long-term debt
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Current Liabilities: Known Amount

Accounts payable
Amounts owed for products or services purchased
on account

Short-term notes payable

Due within one year
Used to ________ or ________
Accrue interest

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Accounting for Short-Term Notes

Payable
Ex: Issue note on Mar 31 for $8,000 and 10%
interest, due in 1 year in exchange for inventory.
JOURNAL
Date

Accounts and explanation

Mar 31 Inventory

Debit

Credit

8,000

Note payable, short-term

8,000

Purchase of inventory by issuing a note payable

Dec 31

Interest expense (_____________)

Interest payable

_____
_____

Accrued interest on note payable

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Accounting for Short-Term Notes

Payable
JOURNAL
Date

Accounts and explanation

Mar 31 Note payable, short-term

Interest payable
Interest expense (_______________)
Cash

Debit

Credit

8,000
600
_____
8,800

To record payment of note payable

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Sales Tax Payable

Levied on retail sales
Differs by jurisdiction
No Sales Tax in Hong Kong
Similar to Value Added Tax (VAT) China
Goods and Services Tax (GST) - Australia

Collected from customers and remitted to country

or state
Ex: Sell $200,000 of goods in a jurisdiction with a
5% sales tax.
JOURNAL
Date

Accounts and explanation

Cash
Sales
Sales tax payable
(L)
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Debit

Credit

210,000
200,000
_____
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Accrued Liabilities
Result from expenses incurred but not yet paid
Categories:
Salaries and wages payable
Interest payable
Income taxes payable

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Payroll
Major expense of most companies
Many different forms:
Salary
Wage
Commission

Company and employee may have to pay employment taxes

Similar to MPF in Hong Kong

Example: Your employees earn 10,000. You withhold 5% and also

contribute 5% to the employees MPF account
JOURNAL
Date

Accounts and explanation

Debit

Salary expense

_____

Credit

Cash (________)

_____

Cash (________)

_____

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Payroll Liabilities (examples)

Employee
income tax
payable

Employee
MPF
payable

Salaries
payable
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Unearned Revenues

Business receives cash before earning revenue

Results in a liability
JOURNAL

Date

Accounts and explanation

Debit

Credit

Cash
Unearned revenue
Received advance payment from customer

Unearned revenue
Revenue
Earned revenue that was collected in advance

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Current Portion of Long-Term Debt

Long-term debt often paid in installments
Current Portion
Amount of principal payable within one year
Company reclassifies amount from long-term to
current

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________ Current Liabilities

Provision for
Warranty
Repairs

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Contingent
Liabilities

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Provision for Warranty Repairs

Warranty expense is estimated in the year product

is sold
Matching principle (similar to Bad Debt Expense)

Ex: Oct 1, Sell 100,000 units at $10 each.

Estimate will pay $0.10 per unit of repairs.
On Oct 21, fix 1,000 units with parts worth $1 each
JOURNAL
Date

Accounts and explanation

Debit

Oct 1

Warranty expense

____

Provision for Warranty Repairs

Credit

____

To accrue warranty expense

Oct 21

Provision for Warranty Repairs

Inventory
To replace defective products sold under warranty

____
____
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________ Liabilities
Contingent Liabilities are not actual liabilities
______________ that depends on future
outcome of past events, or
Present obligation that may, ______________,
require outflow of resources, or
______________amount of present obligation
to be made in the future

Disclosed in the Notes of the Annual Report

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Long-Term Liabilities

Bonds
payable
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Notes
payable
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Bonds Payable
Debts of issuing company
Bond certificate states:

Company name
Principal
Maturity date
Interest rate
Interest payment dates

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Bonds Details
In this class, we will not cover details related to
bonds.
If you are curious, you can read pages 551-564,
but the concepts are a bit complicated.
First, see appendix B on the time value of money

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Time Value of Money

Dollar received today is worth more than one
received in the future
Dollar invested earns income
Amount invested now to receive more later
Present Value

Present value depends on:

Amount of future payment
Length of time
Interest rate
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Balance Sheet Presentation

Balance Sheet
Long-term liabilities:
Bonds payable
$100,000
Less: Discount on bonds payable
(3,851)

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$96,149

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Learning Objective Three

Account for capital and operating leases

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Capital Leases work like bonds, so we

will also not cover details of capital
leases in this class.

Leases
OPERATING (____________)

Lessee has right to use

the asset
Lessor retains risks and
rewards of owing
Lessee records Rent
Expense

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CAPITAL (_______________)

Lessee has rights to use

asset
Lessee assumes risks
and rewards of ownership
and associated
obligations
Present value of lease
payment capitalized
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Capital Lease Criteria

IFRS
Lease ______ substantially all _____ and rewards of asset
to lessee
Lease ______________of asset to lessee at the end of the
lease
Lease term represents substantial part of assets ____
_____
Present value of lease payments represent substantial part
of _______

US GAAP

Transfer of title at end of lease

Bargain purchase option
Lease term>75% of useful life
Present value of lease payments > 90% of fair value of asset
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Accounting for Operating Leases

Lessee will record the lease expense each period
based on amount needed to pay
Example: lease factory for $2,000 a month.
DR _________________$2,000

CR _________________$2,000

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Learning Objective Four

Understand the advantages and disadvantages
of borrowing

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Financing Operations
Retained Earnings
Company has enough cash from operations. Low
risk, low cost.

Issuing Shares
Creates no liabilities, but dilutes ownership
Less risky, but more costly

Issuing Bonds or Notes

Does not dilute ownership, but risky because
company must pay interest expense

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Earnings per Share

Plan 1

Plan 2

Borrow $500,000 6%
Net income before
expansion

Issue $500,000 of shares

$300,000

Expected project income

before interest & taxes

$300,000

$200,000

$200,000

Interest expense

(30,000)

Income taxes (40%)

(68,000)

(80,000)

Expected project net income

102,000

120,000

Total net income

402,000

420,000

Common shares

100,000

150,000

$4.02

$2.80

Earnings per share

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Times Interest Earned

Operating Income
Interest Expense
High ratio =
___________
______
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Low ratio =
___________
_______
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Pensions and Postretirement

Liabilities
Defined Contribution (see page 542)
Expense recorded while employees work for the
company
Cash contributed into pension plan assets
Obligations grows for future payments to
employees
Underfunded
Plan assets less
than obligation
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Overfunded
Plan assets greater
than obligation
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Learning Objective Five

Report liabilities on the balance sheet

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Partial Balance Sheet

December 31, 2011

Note 10: Financial Instruments

Long-term debt

Liabilities

Revolving credit

$400

Current liabilities:

9% notes due 2015

350

8% notes due 2018

750

Accounts payable

$650

Accrued liabilities

985

U.K. credit arrangement

600

Unearned revenue

877

7.5$ notes due 2017

585

Current portion of long-term debt

225

Total long-term debt

2,685

2,737

Less: current maturities

(225)

Long-term debt

2,460

Long-term debt

Other long-term liabilities

1.987

Total current liabilities

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$2,460

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