Introduction to Liabilities: Economic Consequences, Current Liabilities, and Contingencies Presentations for Chapter 10 by Glenn Owen

Key Points Definition of a liability. Economic consequences associated with reporting liabilities on the financial statements. Determinable and contingent liabilities. Current liabilities. Bonus systems and profit-sharing arrangements and the reporting incentives they create. Methods used to account for contingencies.

What is a Liability? “Probable future sacrifice of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities in the future as a result of past transactions or events.” Present obligations. Unavoidable obligations. Transaction or event must have already happened.

Liabilities as a Percentage of Total Assets

Reporting Liabilities on the Balance Sheet: Economic Consequences Stockholders and investors Creditors Management Auditors

Current Liabilities as a Percentage of Total Liabilities

Current Liabilities Valuing current liabilities on the balance sheet – Ignore present value – Report at face value Reporting current liabilities – Primary problem is ensuring that all existing current liabilities are reported on the balance sheet.

Determinable Current Liabilities Accounts payable Short-term debts – Short-term notes – Current maturities of long-term debts Dividends payable Unearned revenues Third-party collections Income taxes Incentive compensation

Accrued Liabilities Normal accrued liabilities – Wages payable – Salary payable – Interest payable – Rent payable – Insurance payable – Property taxes payable Conditional accrued liabilities – Income tax liabilities – Incentive compensation

Contingencies and Contingent Liabilities Alternatives to loss contingencies – Ignore – Disclose – Accrue Warranties – Uncertain future costs – Record expense and liability when products are sold (matching concept) – As costs are incurred, charge expenditure to warranty liability

Accounting for Contingencies Contingent Loss Probability of Occurrence Accounting Treatment HighReasonableRemote DiscloseIgnore NoYes Estimable? DiscloseAccrue

Contingent Gain Probability of Occurrence Accounting Treatment HighReasonableRemote Ignore Disclose Accounting for Contingencies

Current AssetsCurrent Liabilities Review Problem Beg. Bal.$69,000$38, Current Ratio

(1)Inventory (+A) 5,000 Accounts Payable (+L)5,000 To record merchandise in-transit. Current AssetsCurrent Liabilities Journal Entries and T-accounts Beg Bal$69,000$38, (1)+5,000+5, Current Ratio

(2)Interest Expense (E, -SE) 500 Discount on Note (+L)500 To accrue interest on note. Current AssetsCurrent Liabilities Journal Entries and T-accounts Beg Bal$69,000$38, (1)+5,000+5, (2) Current Ratio

(3)No entry required for future payment on long-term debt obligation. Current AssetsCurrent Liabilities Journal Entries and T-accounts Beg Bal$69,000$38, (1)+5,000+5, (2) (3)1.70 Current Ratio

(4)Unearned Revenue (-L) 1,000 Earned Revenue (R, +SE)1,000 To record earned revenue. Current AssetsCurrent Liabilities Journal Entries and T-accounts Beg Bal$69,000$38, (1)+5,000+5, (2) (3)1.70 (4)-1, Current Ratio

(5)Wage Expense (E, -SE) 4,000 Wages/Tax Payable (+L)4,000 To record wages and taxes owed. Current AssetsCurrent Liabilities Journal Entries and T-accounts Beg Bal$69,000$38, (1)+5,000+5, (2) (3)1.70 (4)-1, (5)+4, Current Ratio

(5)Tax Expense (E, -SE) 400 Tax Payable (+L)400 To record accrued taxes. Current AssetsCurrent Liabilities Journal Entries and T-accounts Beg Bal$69,000$38, (1)+5,000+5, (2) (3)1.70 (4)-1, (5)+4, Current Ratio

(6)Income Tax Expense (E, -SE) 2,000 Income Tax Payable (+L)2,000 To record income tax liability. Current AssetsCurrent Liabilities Journal Entries and T-accounts Beg Bal$69,000$38, (1)+5,000+5, (2) (3)1.70 (4)-1, (5)+4, (6)+2, Current Ratio

(7)Contingent Loss (E, -SE) 8,000 Contingent Liability (+L)8,000 To record contingent loss on lawsuit. Current AssetsCurrent Liabilities Journal Entries and T-accounts Beg Bal$69,000$38, (1)+5,000+5, (2) (3)1.70 (4)-1, (5)+4, (6)+2, (7)+8, Current Ratio