©2009 The McGraw-Hill Companies, Inc. Chapter 9 Long-Term Liabilities.
© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Slide 10-1 LIABILITIES Chapter 10.
-
Upload
lenard-davis -
Category
Documents
-
view
229 -
download
0
Transcript of © The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Slide 10-1 LIABILITIES Chapter 10.
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-1
LIABILITIESChapter
10
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-2
I.O.U.
Defined as debts or obligations arising from past transactions or
events.
Defined as debts or obligations arising from past transactions or
events.
Maturity = 1 year or less Maturity > 1 year
Current Liabilities
Noncurrent Liabilities
The Nature of LiabilitiesThe Nature of Liabilities
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-3
The acquisition of assets is financed from two sources:
Funds from creditors, with a definite due date, and
sometimes bearing interest.
Funds from owners
DEBTDEBT EQUITYEQUITY
Distinction BetweenDebt and Equity
Distinction BetweenDebt and Equity
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-4
Devon Mfg. borrows $100,000 from First Bank. The loan will be repaid in 20 years
and has an annual interest rate of 8%.
Is this a current liability or a noncurrent liability?
Devon Mfg. borrows $100,000 from First Bank. The loan will be repaid in 20 years
and has an annual interest rate of 8%.
Is this a current liability or a noncurrent liability?
Liabilities – QuestionLiabilities – Question
The obligation will not be paid within one year or one operating
cycle, so it is a noncurrent liability.
The obligation will not be paid within one year or one operating
cycle, so it is a noncurrent liability.
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-5
Current Ratio = Current Assets ÷ Current LiabilitiesCurrent Ratio = Current Assets ÷ Current Liabilities
Working Capital = Current Assets - Current LiabilitiesWorking Capital = Current Assets - Current Liabilities
An important indicator of a company’s ability to meet its current obligations.
Two commonly used measures:
An important indicator of a company’s ability to meet its current obligations.
Two commonly used measures:
Evaluating LiquidityEvaluating Liquidity
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-6
Devon Mfg. has current liabilities of $230,000 and current assets of $322,000.
What is Devon’s current ratio?What is Devon’s current ratio?
Devon Mfg. has current liabilities of $230,000 and current assets of $322,000.
What is Devon’s current ratio?What is Devon’s current ratio?
Liabilities – QuestionLiabilities – Question
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-7
Short-term obligations to suppliers for purchases of merchandise and to others for goods and services.
Short-term obligations to suppliers for purchases of merchandise and to others for goods and services.
Merchandise inventory invoices
Merchandise inventory invoices
Shipping charges
Shipping charges
Utility and phone bills
Utility and phone bills
Office supplies invoices
Office supplies invoices
Accounts PayableAccounts Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-8
Total Notes Payable
Current Notes Payable
Noncurrent Notes Payable
When a company borrows money, a note payable is created.
Current Portion of Notes Payable
The portion of a note payable that is due within one year, or one operating cycle, whichever is longer.
When a company borrows money, a note payable is created.
Current Portion of Notes Payable
The portion of a note payable that is due within one year, or one operating cycle, whichever is longer.
Notes PayableNotes Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-9
PROMISSORY NOTE
Location Date
after this date
promises to pay to the order of
the sum of with interest at the rate
of per annum.
signed
title
Miami, Fl Nov. 1, 2003
Six months Porter Company
John Caldwell
Security National Bank
$10,000.00
12.0%
treasurer
Notes PayableNotes Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-10
On November 1, 2003, Porter Company would make the following entry.
Notes PayableNotes Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-11
Interest expense is the compensation to the lender for giving up the use of money for a period of time.
The liability is called interest payable.
To the lender, interest is a revenue.
To the borrower, interest is an expense..
Interest expense is the compensation to the lender for giving up the use of money for a period of time.
The liability is called interest payable.
To the lender, interest is a revenue.
To the borrower, interest is an expense..
Interest Rate Up!
Interest PayableInterest Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-12
The interest formula includes three variables that must be considered when computing
interest:
The interest formula includes three variables that must be considered when computing
interest:
Interest = Principal × Interest Rate × Time
When computing interest for one year, “Time” equals 1. When the computation period is less
than one year, then “Time” is a fraction.
When computing interest for one year, “Time” equals 1. When the computation period is less
than one year, then “Time” is a fraction.
Interest PayableInterest Payable
For example, if we needed to compute interest for 3 months, “Time” would be 3/12.
For example, if we needed to compute interest for 3 months, “Time” would be 3/12.
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-13
What entry would Porter Company make on December 31, the fiscal year-end?
What entry would Porter Company make on December 31, the fiscal year-end?
Interest Payable – ExampleInterest Payable – Example
$10,00012% 2/12 = $200$10,00012% 2/12 = $200
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-14
Net Pay
Payroll LiabilitiesPayroll Liabilities
Medicare Taxes
State and Local Income
TaxesFICA Taxes
Federal Income Tax
Voluntary Deductions
Gross Pay
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-15
Deferred revenue is recorded.
a liability account.a liability account.
Cash is received
in advance.
Cash is sometimes collected from the customer before the revenue is
actually earned.
Cash is sometimes collected from the customer before the revenue is
actually earned.
Unearned RevenueUnearned Revenue
Earned revenue is recorded.
As the earnings process is
completed . .
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-16
Relatively small debt needs can be filled from
single sources.
Relatively small debt needs can be filled from
single sources.
BanksInsurance
CompaniesPension
Plans
oror oror
Long-Term DebtLong-Term Debt
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-17
Large debt needs are often filled by issuing bonds.
Large debt needs are often filled by issuing bonds.
Long-Term DebtLong-Term Debt
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-18
Long-term notes that call for a series of installment payments.
Long-term notes that call for a series of installment payments.
Each payment covers interest for the period AND a portion of the
principal.
Each payment covers interest for the period AND a portion of the
principal.
With each payment, the interest portion gets
smaller and the principal portion gets larger.
With each payment, the interest portion gets
smaller and the principal portion gets larger.
Installment Notes PayableInstallment Notes Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-19
Identify the unpaid principal balance.
Unpaid Principal × Interest rate = Interest expense.
Installment payment - Interest expense = Reduction in unpaid principal balance.
Compute new unpaid principal balance.
Identify the unpaid principal balance.
Unpaid Principal × Interest rate = Interest expense.
Installment payment - Interest expense = Reduction in unpaid principal balance.
Compute new unpaid principal balance.
Allocating Installment Payments Between Interest and Principal
Allocating Installment Payments Between Interest and Principal
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-20
On January 1, 2003, Rocket Corp. borrowed $7,581.57 from First Bank of River City. The loan was a five-year loan and
had an interest rate of 10%. The annual payment is $2,000.
Prepare an amortization table for Rocket Corp.’s loan.
On January 1, 2003, Rocket Corp. borrowed $7,581.57 from First Bank of River City. The loan was a five-year loan and
had an interest rate of 10%. The annual payment is $2,000.
Prepare an amortization table for Rocket Corp.’s loan.
Allocating Installment Payments Between Interest and Principal
Allocating Installment Payments Between Interest and Principal
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-21
Now, prepare the entry for the first payment on December 31, 2003.
Now, prepare the entry for the first payment on December 31, 2003.
Allocating Installment Payments Between Interest and Principal
Allocating Installment Payments Between Interest and Principal
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-22
The information needed for the journal entry can be found on the amortization table. The payment
amount, the interest expense, and the amount to credit to principal are all on the table.
The information needed for the journal entry can be found on the amortization table. The payment
amount, the interest expense, and the amount to credit to principal are all on the table.
Allocating Installment Payments Between Interest and Principal
Allocating Installment Payments Between Interest and Principal
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-23
Bonds usually involve the borrowing of a large sum of money, called principal.
The principal is usually paid back as a lump sum at the end of the bond period.
Individual bonds are often denominated with a par value, or face value, of $1,000.
Bonds usually involve the borrowing of a large sum of money, called principal.
The principal is usually paid back as a lump sum at the end of the bond period.
Individual bonds are often denominated with a par value, or face value, of $1,000.
Bonds PayableBonds Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-24
Bonds usually carry a stated rate of interest, also called a contract rate.
Interest is normally paid semiannually.
Interest is computed as:
Interest = Principal × Stated Rate × Time Interest = Principal × Stated Rate × Time
Bonds PayableBonds Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-25
Bonds are issued through an intermediary called an underwriter.
Bonds can be sold on organized securities exchanges.
Bond prices are usually quoted as a percentage of the face amount. For example, a $1,000 bond
priced at 102 would sell for $1,020.
Bonds are issued through an intermediary called an underwriter.
Bonds can be sold on organized securities exchanges.
Bond prices are usually quoted as a percentage of the face amount. For example, a $1,000 bond
priced at 102 would sell for $1,020.
Bonds PayableBonds Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-26
Mortgage Bonds
Mortgage Bonds
Convertible Bonds
Convertible Bonds Junk BondsJunk Bonds
Debenture Bonds
Debenture Bonds
Types of BondsTypes of Bonds
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-27
On January 1, 2003, Rocket Corp. issues $1,500,000 of 12%, 10-year bonds payable. Interest is payable
semiannually, each July 1 and January 1.
Assume the bonds are issued at face value.Record the issuance of the bonds.
On January 1, 2003, Rocket Corp. issues $1,500,000 of 12%, 10-year bonds payable. Interest is payable
semiannually, each July 1 and January 1.
Assume the bonds are issued at face value.Record the issuance of the bonds.
Accounting for Bonds PayableAccounting for Bonds Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-28
Record the interest paymenton July 1, 2003.
Record the interest paymenton July 1, 2003.
Accounting for Bonds PayableAccounting for Bonds Payable
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-29
Bonds Sold Between Interest DatesBonds Sold Between Interest Dates
Bonds are often sold between interest dates.The selling price of the bond is computed as:
Bonds are often sold between interest dates.The selling price of the bond is computed as:
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-30
Present Value
Present Value
The Concept of Present ValueThe Concept of Present Value
Future Value
Future Value
$1,000 invested
today at 10%.
In 5 years it will be worth
$1,610.51.
In 25 years it will be worth $10,834.71!
Money can grow over time, because it can earn interest.
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-31
How much is a future amount worth today?How much is a future amount worth today?
Present Value
FutureValue
Interest compounding periods
Today
The Concept of Present ValueThe Concept of Present Value
How much is a future amount worth today?
Three pieces of information must be known to solve a present value problem:
The future amount. The interest rate (i). The number of periods (n) the amount will be
invested.
How much is a future amount worth today?
Three pieces of information must be known to solve a present value problem:
The future amount. The interest rate (i). The number of periods (n) the amount will be
invested.
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-32
Two types of cash flows are involved with bonds:
Today
Principal payment at maturity.
Periodic interest payments called annuities.
Maturity
The Concept of Present ValueThe Concept of Present Value
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-33
The Present Value Concept and Bond Prices
The Present Value Concept and Bond Prices
The selling price of the bond is determined by the market based
on the time value of money.
=
>
<
>
<
=
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-34
Gains or losses incurred as a result of retiring bonds should be reported as extraordinary items on the
income statement.
Gains or losses incurred as a result of retiring bonds should be reported as extraordinary items on the
income statement.
Exercising a callprovision.
Purchasing thebonds on theopen m arket.
Bonds can be re tired by . . .
Early Retirement of DebtEarly Retirement of Debt
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-35
Lease agreement transfers risks and benefits
associated with ownership to lessee.
Lease agreement transfers risks and benefits
associated with ownership to lessee.
Lessee records a leased asset and lease liability.
Lessee records a leased asset and lease liability.
Lessor retains risks and benefits associated with
ownership.
Lessor retains risks and benefits associated with
ownership.
Lessee records rent expense as incurred.
Lessee records rent expense as incurred.
Lease Payment ObligationsLease Payment Obligations
Operating LeasesOperating Leases Capital LeasesCapital Leases
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-36
T he lease transfersow nership to the
lessee.
T he lease containsa bargain purchase
option.
T he lease term is equal toor > 75% of the econom ic
life of the property.
T he PV of the m inim umlease paym ents = 90% ofthe FM V of the property.
A lease m ust be recorded asa Capital Lease if it m eets
any of the follow ing criteria .
Capital Lease CriteriaCapital Lease Criteria
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-37
Employers offer pension plans to employees.
Employers offer pension plans to employees.
Retirees receive pension
payments from the pension
fund.
Retirees receive pension
payments from the pension
fund.
The employer makes payments to a pension
fund. Usually, this is an independent entity
managed by a professional fund
manager.
The employer makes payments to a pension
fund. Usually, this is an independent entity
managed by a professional fund
manager.
PensionsPensions
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-38
Actuaries make the pension expense computations, based on:
Average age, retirement age, life expectancy.
Employee turnover rates.
Compensation levels.
Expected rate of return for the fund.
Actuaries make the pension expense computations, based on:
Average age, retirement age, life expectancy.
Employee turnover rates.
Compensation levels.
Expected rate of return for the fund.
The accountant then posts the entry to record pension expense and pension
liability.
The accountant then posts the entry to record pension expense and pension
liability.
PensionsPensions
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-39
Many companies offer benefits to retirees other than pensions,
such as health coverage or fitness club memberships.
Many companies offer benefits to retirees other than pensions,
such as health coverage or fitness club memberships.
Other Postretirement BenefitsOther Postretirement Benefits
Unfunded liabilityfor nonpensionpostretirement
benefits
Currentliability
Long-termliability
Amount tobe fundednext year
Remainderof unfunded
amount
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-40
Corporations pay income taxes
quarterly.
Deferred Income TaxesDeferred Income Taxes
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-41
The difference between tax expense and tax payable is recorded in an account called
deferred taxes.
The difference between tax expense and tax payable is recorded in an account called
deferred taxes.
The Internal Revenue Code is the set of
rules for preparing tax returns.
The Internal Revenue Code is the set of
rules for preparing tax returns.
Financial statement income tax expense.
Financial statement income tax expense.
IRS income taxes payable.
IRS income taxes payable.
GAAP is the set of rules for preparing
financial statements.
GAAP is the set of rules for preparing
financial statements.
Results in . . . Results in . . .Usually. . .
Deferred Income TaxesDeferred Income Taxes
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-42
Examine the December 31, 2003, information for X-Off Inc.
X-Off uses straight-line depreciation for financial reporting and accelerated depreciation for
income tax reporting. X-Off’s tax rate is 30%.
Deferred Income Taxes – ExampleDeferred Income Taxes – Example
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-43
Income TaxStatement Return Difference
Revenues 1,000,000$ Less: Depreciation 200,000 Other expenses 650,000 Income before taxes 150,000$
× Tax rate 30%Income taxes 45,000$
The income tax amount computed based on financial statement income
is income tax expense for the
period.
The income tax amount computed based on financial statement income
is income tax expense for the
period.
Compute X-Off’s income tax expense and income tax payable.
Deferred Income Taxes – ExampleDeferred Income Taxes – Example
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-44
Compute X-Off’s income tax expense and income tax payable.
Income TaxStatement Return Difference
Revenues 1,000,000$ 1,000,000$ Less: Depreciation 200,000 320,000 Other expenses 650,000 650,000 Income before taxes 150,000$ 30,000$
× Tax rate 30% 30%Income taxes 45,000$ 9,000$
Income taxes based on tax
return income are the taxes
payable for the period.
Income taxes based on tax
return income are the taxes
payable for the period.
Deferred Income Taxes – ExampleDeferred Income Taxes – Example
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-45
Income TaxStatement Return Difference
Revenues 1,000,000$ 1,000,000$ -$ Less: Depreciation 200,000 320,000 (120,000) Other expenses 650,000 650,000 - Income before taxes 150,000$ 30,000$ 120,000$
× Tax rate 30% 30% 30%Income taxes 45,000$ 9,000$ 36,000$
The deferred tax for the period of $36,000 is the difference between income tax expense of $45,000 and
income tax payable of $9,000.
The deferred tax for the period of $36,000 is the difference between income tax expense of $45,000 and
income tax payable of $9,000.
Deferred Income Taxes – ExampleDeferred Income Taxes – Example
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-46
Borrowing at one rate and investing at a higher
rate.
If we borrow $1,000,000 at 8% and invest it at 10%, we will clear $20,000
profit!
Financial LeverageFinancial Leverage
© The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin
Slide 10-47
Are we having fun
yet?
End of Chapter 10End of Chapter 10