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Liabilities

Liabilities. Current liabilities: due in one year or less Types Ratios Long-term liabilities: due in more than one year Bonds Capital leases versus operating leases Contingent liabilities: possible future liabilities. Current Liabilities. Interest payable Unearned revenue

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Liabilities

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  1. Liabilities • Current liabilities: due in one year or less • Types • Ratios • Long-term liabilities: due in more than one year • Bonds • Capital leases versus operating leases • Contingent liabilities: possible future liabilities

  2. Current Liabilities • Interest payable • Unearned revenue • Sales tax payable • Payroll taxes payable

  3. Interest payable is a current liability Interest Payable

  4. Unearned Revenue Unearned Revenue is a current liability

  5. Sales Tax Payable Sales Tax payable is a current liability

  6. Payroll Taxes Payable

  7. Social Security and Medicare Issues • Depletion of social security funds • Social security payments • 2 for 1 • Live too long after retirement • Vote often • Social security contributions • Not enough Gen X, Y, Z, etc. • Company matches your Social Security and Medicare contributions • Self-employed and independent contractors • Medicare funds • Health insurance for those collecting social security

  8. CURRENT LIABILITY RATIOSShort-Term Creditors

  9. Long-term liabilities • Bonds • Capital leases

  10. BOND BASICS $1,000 at maturity Interest each year at coupon rate IBM $1,000 LOAN

  11. Bond Values • Lend IBM $1,000 for 30 years @ 8%, two years later rates on similar bonds decrease to 6% • Still receiving $80 per year for 28 more years • PV of Annuity, 28 years, 6% • $80 x 13.4062 =$1,072.50 • Receiving $1,000 in 28 years • PV of $1, 28 years, 6% • $1,000 x .1956 = $195.60 • Value of bond = PV of Int Annuity + PV of $1,000 • $1,072.50 + $195.60 = $1,268.10 • 26.8% increase in bond value • If coupon rate > required rate of return, value of bond will be > $1,000

  12. Bond Values • Discount bond cash flows at required rate of return (yield to maturity) • Don’t use coupon rate • If you do, you’ll find value is $1,000 • Interest rates increase, bond values decrease • Interest rates decrease, bond values increase • Bonds are priced at a percent of par value • 104, 98, etc.

  13. Bonds • Advantages • Interest on bonds deducted as an expense on tax return • Dividends on common stock: not an expense • No dilution of stockholders’ interest • Disadvantages • Failure to pay debt can result in bankruptcy • Dividends discretionary; interest is not

  14. Bond Journal Entries

  15. Leasing long-term assets • Advantages of operating leases • No concern about residual value • Generally smaller down payment • Can deduct rent on tax return • Keeps liability off balance sheet • However, should disclose lease commitments in footnotes

  16. Leasing long-term assets • Capital leases • Lease property for most of its useful life • Can purchase the property for nominal amount at end of lease • Lease payments represent financing • Treat as an asset and long-term liability

  17. Contingent liability • Possible future liability • Either • Amount of liability can not be reasonably determined • Or not sure if liability exists • Lawsuits, environmental issues, etc. • Generally disclose in footnotes

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