Chapter 13 - Current Liabilities and Contingencies SB

Spencer Corp.'s attorney estimates that the company will ultimately have to pay between $250,000 and $500,000 relating to current litigation. Spencer should accrue a contingent liability and loss of

$250,000. Reason: When no amount within the range appears more likely than others, we record the minimum amount.

Supreme Inc. sells its products with a 3-year warranty. The company estimates warranty costs relating to sales during 2017 are as follows: 2017: $10,000; 2018: $25,000; 2019: $15,000. Assume that actual warranty costs during 2017 were as estimated. What is the amount of the estimated warranty liability that Supreme should recognize on its 2017 balance sheet?

$40,000 Reason: $25,000 + $15,000 = $40,000

Abbott Corp.'s attorney estimates that the company will ultimately have to pay between $350,000 and $500,000 relating to current litigation, and that the most likely amount of the loss will be equal to $400,000. Abbott Corporation should accrue a contingent liability and loss of

$400,000.

Supreme Inc. sells its products with a 3-year warranty. The company estimates warranty costs relating to sales during 2017 as follows: 2017: $10,000; 2018: $25,000; 2019: $15,000. Assume that actual warranty costs during 2017 were as estimated. What is the amount of warranty expense that Supreme should recognize in its 2017 income statement?

$50,000 Reason: $10,000 + $25,000 + $15,000

Wagner Company's financial records show that it has a mortgage that requires monthly principal payments of $3,000. The mortgage loan matures in 15 years. What should Wagner show on its balance sheet at the end of the current year? (Select all that apply.)

A noncurrent liability of $504,000 A current liability of $36,000

What practical reason may motivate companies to rarely accrue losses for ongoing litigation?

Accrual of a contingent loss may adversely affect the outcome of the company's legal case.

Which of the following is correct regarding accrued interest payable?

Accrued interest payable relates to interest already incurred but not yet paid.

Sally Company owes its employees $5,250 for the last 4 days of the year ended December 31. The company will pay this amount on January 7 as part of its regular payroll disbursements of $11,800. What, if anything, should Sally recognize on December 31?

An accrued liability of $5,250.

Which of the following represent the correct accounting treatment for loss contingencies that do not meet the criteria for accrual but are at least reasonably possible? (Select all that apply.)

An estimate of the potential loss should be made (if possible) and disclosed. A disclosure must describe the contingency.

Which of the following statements relating to subsequent events that occur between the end of the fiscal period and the issuance of the financial statements is correct?

Any material event should be disclosed in the financial statement notes.

Best Equipment Inc. sells its products with a 3-year limited warranty. During 2017, Best Equipment recognizes $550,000 in sales revenue. Based on past experience, some of its products will need repair during the warranty period. What is the appropriate accounting treatment for Best Equipment's product warranty?

Best should estimate the contingent liability and accrue it in 2017.

Which of the following transactions require the recognition of a liability? (Select all that apply.)

Collection of a refundable deposit from a customer. Receipt of payment for a service performed next month.

Which of the following concepts or principles is the primary reason why gain contingencies are not accrued, even if they are probable?

Conservatism

Roberts Corp. sells its products with a 2-year warranty. Estimated total warranty cost relating to sales for the year ended December 31, 2017, is $210,000. One-third of these estimated costs are expected to be incurred during 2018 with two-thirds expected to be incurred during 2019. Indicate the amount and classification of the estimated warranty cost on the balance sheet at 12/31/2017. (Select all that apply.)

Current liability of $70,000 long-term liability of $140,000

Supreme Inc. offers a 3-year extended warranty for all its products. On January 1, 2018, the company collects $45,000 relating to extended warranty contracts. What entry should Supreme make on January 1, 2018?

Debit cash and credit deferred revenue for $45,000.

Supreme Inc. offers a 3-year extended warranty for all its products. On January 1, 2018, the company collects $45,000 relating to extended warranty contracts. What entry should Supreme make on December 31, 2018?

Debit deferred revenue for $15,000 and credit revenue—extended warranty for $15,000.

Which of the following are classified as current liabilities? (Select all that apply.)

Debt callable in the upcoming year, even when not expected to be called Long-term loans with violated debt covenants Current portion of long-term debt

Taylor Company's attorney informs its client that it is possible, but not probable, that the company will lose a currently litigated lawsuit. No reliable estimate of the potential loss is currently available. How should Taylor accrue and/or disclose this potential loss?

Disclose the contingency and state that an estimate cannot be made.

A contingent liability is accrued if which conditions are met? (Select all that apply.)

It is probable that a future loss will occur. The amount of the loss can be reasonably estimated.

The dollar amount of a potential loss from a contingent liability can be classified as (Select all that apply.)

Known Reasonably estimable

Identify a primary reason why financial statement users assess a company's liquidity.

Lack of liquidity can lead to the demise of a company that otherwise may have been successful.

What type of costs relating to ongoing litigation are commonly recognized by companies?

Lawyer fees and other legal costs

Which of the following are common types of employee compensation? (Select all that apply.)

Pensions Salaries Commissions

Which of the following represents the formal credit instrument for a trade notes payable?

Promissory note

Which of the following transactions will increase a company's working capital?

Receipt of cash on a long-term note

Which of the following represents the formal credit instrument for an accounts payable?

Supplier's invoice

Which of the following is a requirement for recognizing employee compensation for future absences?

The amount of payment can be reasonably estimated.

A contingent liability typically is accrued for product warranties because it meets which of the following criteria? (Select all that apply.)

The amount of the future loss can be reasonably estimated. A future loss is probable.

Karin Company's loan is due on July 1, 2018. What conditions must Karin meet (at a minimum) so that the note can be classified as a long-term liability on the company's balance sheet at December 31, 2017? (Select all that apply.)

The company must have demonstrated the ability to refinance the obligation on a long-term basis. The company must intend to refinance the obligation on a long-term basis.

Which of the following statements regarding noninterest-bearing notes is correct? (Select all that apply.)

The face amount of noninterest-bearing notes includes interest. Noninterest-bearing notes incur interest.

Which of the following are essential characteristics of a liability? (Select all that apply.)

The future sacrifice arises from a present obligation. A future sacrifice of an economic benefit is probable. The obligation results from a past event.

Identify the statement that best describes the discriminating definition for classifying a liability as current.

The liability is expected to be satisfied from current assets.

What conditions must be met to recognize employee compensation for future absences? (Select all that apply.)

The paid absences vest or the benefits can be accumulated over time. The obligation is attributable to employees' services already performed. The amount can be reasonably estimated. Payment is probable.

Which of the following is necessary for a loss contingency to exist?

The potential loss must arise from an event that occurred prior to the financial statement date.

Which of the following is correct regarding gain contingencies?

They are not accrued.

Which of the following statements regarding commercial paper are correct? (Select all that apply.)

They have minimum denominations of $25,000. They are often purchased by other companies as investments. They are unsecured notes.

Which of the following statements is correct regarding short-term obligations?

They may be classified as long-term liabilities if they meet certain criteria.

Which of the following is an important characteristic of loss contingencies that is not commonly shared by other liabilities?

Uncertainty exists regarding whether a future event giving rise to the obligation will occur.

Identify the most common loss contingency that does not result in the recognition of a liability.

Uncollectible receivables

Which of the following items represent loss contingencies? (Select all that apply.)

Warranty liabilities Uncollectible receivables Legal liabilities

Grouper Company arranged for a line of credit with its local bank. The company can borrow up to $100,000 as needed. Grouper pays the bank a fee of $200 per year regardless of any specific borrowing under the arrangement. This is an example of

a committed line of credit.

Debt that is callable by the creditor in the upcoming year, but is not expected to be called, is reported as

a current liability

Norbert Company's recently signed a 20-year mortgage that requires monthly payments of principal and interest. Norbert should report the mortgage principal payments due during the following accounting period as

a current liability

Gunner Corp. has $2 million in bonds outstanding that mature during 2018. The company intends to refinance some of its obligation by issuing $1 million in 10-year bonds. On January 31, 2018, the new bond issue is sold. The funds will be utilized to pay part of the maturing bond obligation. The balance sheet at 12/31/2017 should show the following regarding the maturing bonds: (Select all that apply.)

a long-term bonds payable of $1 million. a current bonds payable of $1 million.

Christenson Corp. signs a short-term notes payable and pledges a portion of its accounts receivables as collateral. This type of loan is referred to as

a secured loan.

Obligations to suppliers of merchandise and obligations for services purchased on open account are referred to as

accounts payable

If a company judges the likelihood that an unasserted claim will be asserted at a future date, it is probable the outcome will be unfavorable, and the related amount can be estimated, the company should:

accrue a contingent liability

January 15, 2018, Munter Company learned of a judgment against the company in a lawsuit brought by a client relating to services provided by Munter during the 2017 fiscal period. The 2017 financial statements have not yet been issued. Munter should

accrue an estimated liability if a loss is probable and estimable. Reason: The cause of the lawsuit occurred before the 2017 accounting period end, so the liability is accrued.

Interest that has been incurred but not yet been paid is recognized as

accrued interest payable.

Expenses already incurred, but not yet paid are referred to as

accrued liabilities.

Schmidt Company borrows $10,000 from its bank and signs a 6-month note. Interest, which is due quarterly, is specified in the note as 6%. The interest rate stated in the loan agreement most likely applies to

an entire year.

Consistent with SFAC No. 7, long-term contingent liabilities should be measured using

an expected cash flow approach.

An interest rate, unless otherwise specified, is typically a(n) ______ rate.

annual

Short-term bank loans (Select all that apply.)

are frequently used by large corporations as a significant component of capital structure. usually have a lower interest rate than long-term debt.

Accounts payable typically (Select all that apply.)

are offered on open account. are noninterest-bearing.

A loss contingency is recognized only if the event that gave rise to it occurred

before the financial statement date.

Which of the following is not a category used to assess the likelihood of a loss contingency?

certain

Unsecured notes sold in minimum denominations of $25,000 with maturities ranging from 1 to 270 days are referred to as

commercial paper.

Mikel Company grants stock options and bonuses to its full-time employees. These benefits are considered employee ______.

compensation

Events occurring between the end of the fiscal year and the date the financial statements are issued or available to be issued should be

considered to clarify financial statement elements at the reporting date.

Warranties that assure the customer that the products are delivered free from major defects typically result in the accrual of

contingent liabilities

When some doubt exists about whether or not a loss will occur in the future we refer to it as a(n)

contingent liability

When it is uncertain whether an obligation really exists, we may recognize what is referred to as a

contingent loss.

If a liability is classified as current, rather than noncurrent, the company's working capital will ______.

decrease

Glocken Company is trying to increase its share of the consumer electronics market. To stimulate sales, the company offers cash rebates ranging from $25-$50 on all of its products. At December 31, 2017, the company estimates that, during 2018, customers will redeem $2,550 in rebates relating to 2017 sales. On December 31, 2017, Glocken should

decrease revenue and recognize a liability for $2,550.

During December, Martin Department Stores sells $240,000 in gift cards. When it sells the gift cards, Martin should recognize

deferred revenue.

Greene Company experienced a warehouse fire on January 28, 2018. The company estimates that the uninsured portion of its loss will be approximately $10,000. If the company's 2017 financial statements have not yet been issued, Greene should

disclose the estimated loss in its 2017 financial statements.

The costs of satisfying product-related warranties should be recorded as an expense

during the year of sale.

An extended warranty contract (Select all that apply.)

essentially constitutes a separate performance obligation. provides protection beyond the manufacturer's original warranty.

Werner Inc. sells its products with a 2-year warranty. On December 31, 2017, Werner recognized estimated warranty-related costs of $54,000 for its 2017 sales. During 2018, Werner incurs repair costs of $21,000 related to products sold during 2017. The journal entry to record the cost of repairs would include a debit to:

estimated warranty liability

All liabilities involve a probable ____ sacrifice of economic benefits and arise as a result of _____ transactions or events.

future; past

The costs incurred to satisfy customer claims under an extended warranty period are recorded

in the same period as the warranty revenue

In practice, the assets most commonly used to secure loans are (Select all that apply.)

inventory account receivable

A liability is accrued for a contingent loss if (Select all that apply.)

it is probable the confirming event will occur the amount can be reasonably estimated

With respect to on-going litigation, companies typically recognize related ____, but not related _____.

legal fees; losses

Cash collected from customers as refundable deposits or as advance payments for products or services are recognized as

liabilities.

Taxes collected for taxing authorities are recognized as

liabilities.

Unredeemed cash rebates related to current year sales should be estimated and the amount treated as a(n): (Select all that apply.)

liability reduction in revenue

Growler Commercial Cleaning Company collects a $1,000 deposit associated with the rental of industrial cleaning equipment. The deposit is refundable upon return of the equipment. When the customer returns the cleaning equipment, Growler should debit the following account

liability—refundable deposits

A _____ of _____ is an agreement between a bank and a company that allows the company to borrow up to a specified amount without completing additional paper work.

line; credit

An otherwise successful company may fail to exist, if it experiences serious _____ problems.

liquidity

A company's cash position, its overall ability to obtain cash in the normal course of business, and to satisfy its current obligations reflects the company's

liquidity.

The expected cash flow approach is the appropriate method for estimating _____ ______ contingent liabilities.

long term

The dollar amount of a potential loss when reporting a _____ _____ can be classified as either known, reasonably estimable, or not reasonably estimable.

loss; contigency

Recognition of costs related to manufacturers' quality assurance warranty during the same period that the related revenue is recognized is consistent with the

matching principle

Material events giving rise to a contingency that occur after the end of the fiscal period but before the financial statements are issued

must be disclosed in a subsequent events disclosure note.

Jones Company signs a $15,000, 12-month note and receives $14,250 from the bank. Jones probably signed a(n) ______.

noninterest-bearing note

Current liabilities are those obligations that are payable within ______ or the operating cycle whichever is ____.

one year; longer

Revenue related to extended warranty contracts typically is recognized

over time.

Classifying liabilities as current or noncurrent depends on when the contingent liability is expected to be

paid

Seine Company, a trucking company, accidentally spilled a load of ice cream across an open field. The owner of the field has not yet demanded clean-up of the spill. Seine's expert source predicts that it is probable that the owner will file a claim and that Seine will probably have to pay for the clean-up cost of approximately $29,000. Upon determining these facts, Seine should

recognize a contingent liability of $29,000.

Superior Printer Company sells a new model with a $30.00 mail-in rebate. At the end of the accounting period, the company estimates that 25% of the 2,000 rebates associated with sales during December will still be returned by customers. On December 31, Superior Printer should

recognize an expense and estimated liability of $15,000.

Costs incurred to satisfy customer claims under an extended warranty period are recorded during the same period as the related

revenue

Lester Corp. sells merchandise to a customer for $1,000. The company also collects state and local sales taxes of 6% and 4%, respectively. At the time of sale, Lester should recognize the following credits in its ledger (Select all that apply.)

sales taxes payable of $100. sales revenue of $1,000.

If a borrower pledges specific assets as collateral for a loan, the loan is considered

secured

Information relative to a loss contingency that becomes available after the fiscal year ends, but before the financial statement date (select all that apply)

should be considered in estimating the amount of the loss. should be considered in determining the probability of a loss contingency.

For a loss contingency to be accrued, (Select all that apply.)

the cause of the lawsuit must have occurred before the end of the accounting period. it is not necessary that the lawsuit was filed before the end of the accounting period.

In practice, accrual of loss contingencies related to litigation claims are uncommon because (select all that apply)

the outcome related to litigation is highly uncertain. it may adversely affect the outcome of the litigation.

Revenue related to extended warranty contracts typically is recognized over time because

the warranty provides coverage over time.

The most common way for corporations to obtain temporary financing is

through short-term bank loans.

Obligations to suppliers of merchandise that bear interest and are for a longer term than open accounts are called

trade notes payable

The feature that distinguishes loss contingencies from other liabilities is the

uncertainty that a loss will occur.

Extended warranty contracts provide

warranty protection beyond the manufacturer's original warranty.

Revenue associated with the sale of gift cards normally is recognized

when the gift cards are redeemed