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11. Current Liabilities. Principles of Financial Accounting, 11e Reeve • Warren • Duchac. 1. Describe and illustrate current liabilities related to accounts payable, current portion of long-term debt, and notes payable. 11-4. 1.

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Current liabilities

11

Current Liabilities

Principles of Financial Accounting, 11e

Reeve • Warren • Duchac


Current liabilities

1

Describe and illustrate current liabilities related to accounts payable, current portion of long-term debt, and notes payable.

11-4


Current liabilities

1

Liabilities that are to be paid out of current assets and are due within a short time, usually within one year, are called current liabilities.

  • Accounts payable

  • Current portion of long-term debt

  • Notes payable


Current liabilities

1

Accounts payable arise from purchasing goods or services for use in a company’s operations or for purchasing merchandise for resale.


Current liabilities

1

Accounts Payable as a Percent of Total Current Liabilities

Exhibit 1


Current liabilities

1

Current Portion of Long-Term Debt

Long-term liabilities are often paid back in periodic payments, called installments. Installmentsthat are due within the coming year must be classified as a current liability.


Current liabilities

1

The total amount of the installments due after the coming year is classified as a long-term liability.


Current liabilities

1

Short-Term Notes Payable

A firm issues a 90-day, 12% note for $1,000, dated August 1, 2008 to Murray Co. for a $1,000 overdue account.


Current liabilities

1

On October 30, when the note matures, the firm pays the $1,000 principal plus $30 interest ($1,000 × 12% × 90/360).

Interest Expense appears on the income statement as an “Other Expense.”


Current liabilities

1

On May 1, Bowden Co. (borrower) purchased merchandise on account from Coker Co. (creditor), $10,000, 2/10, n/30. The merchandise cost Coker Co. $7,500.


Current liabilities

Mdse. Inventory 10,000

Accounts Payable 10,000

Bowden Co. (Borrower)

Description Debit Credit

1

Coker Co. (Creditor)

Description Debit Credit

Accounts Receivable 10,000

Sales 10,000

Cost of Mdse. Sold 7,500

Mdse. Inventory 7,500


Current liabilities

Bowden Co. (Borrower)

Description Debit Credit

Accounts Payable 10,000

Notes Payable 10,000

Coker Co. (Creditor)

Description Debit Credit

Notes Receivable 10,000

Accounts Receivable 10,000

1

On May 31, Bowden Co. issued a 60-day, 12% note for $10,000 to Coker Co. on account.


Current liabilities

Bowden Co. (Borrower)

Description Debit Credit

Notes Payable 10,000

Interest Expense 200

Cash 10,200

Coker Co. (Creditor)

Description Debit Credit

Cash 10,200

Interest Revenue 200

Notes Receivable 10,000

1

On July 30, Bowden Co. paid Coker Co. the amount due on the note of May 31. Interest: $10,000 × 12% × 60/360.


Current liabilities

1

On September 19, Iceburg Company issues a $4,000, 90-day, 15% note to First National Bank.


Current liabilities

1

On the due date of the note (December 18), Iceburg Company owes $4,000 plus interest of $150 ($4,000 × 15% × 90/360).


Current liabilities

1

Discounting a Note

A discounted note has the following characteristics:

  • The creditor (lender) requires an interest rate, called the discount rate.

  • Interest, called the discount, is computed on the face amount of the note.

  • The debtor (borrower) receives the face amount of the note less the discount, called the proceeds.

  • The debtor pays the face amount of the note on the due date.


Current liabilities

1

On August 10, Cary Company issues a $20,000, 90-day note to Rock Company in exchange for inventory. Rock discounts the note at 15%.

Proceeds

Discount: $20,000 × .15 × 90/360

Discount rate


Current liabilities

The amount paid is the face amount of the note.

1

On November 8 the note is paid in full.


Current liabilities

Follow My Example 11-1

Follow My Example 6-1

a. $60,000

1

Example Exercise 11-1

Example Exercise 10-2

Proceeds from Notes Payable

On July 1, Bella Salon Company issued a 60-day note with a face amount of $60,000 to Delilah Hair Product Company for merchandise inventory.

Determine the proceeds of the note, assuming the note carries an interest rate of 6%.

Determine the proceeds of the note, assuming the note is discounted at 6%.

b. $59,400 [$60,000 – ($60,000 × 6% × 60/360)]

11-21

For Practice: PE 11-1A, PE 11-1B


Current liabilities

5

Describe the accounting treatment for contingent liabilities and journalize entries for product warranties.

11-79


Current liabilities

5

Contingent Liabilities

Some liabilities may arise from past transactions if certain events occur in the future. These potential obligations are called contingent liabilities.


Current liabilities

5

The accounting for contingent liabilities depends on the following two factors:

  • Likelihood of occurring: Probable, reasonably possible, or remote.

  • Measurement: Estimable or not estimable.


Current liabilities

5

Recording Contingent Liabilities

During June, a company sells a product for $60,000 on which there is a 36-month warranty. Past experience indicates that the average cost to repair defects is 5% of the sales price over the warranty period.


Current liabilities

5

If a customer required a $200 part replacement on August 16, the entry would be:


Current liabilities

5

Example Exercise 10-2

Example Exercise 11-7

Estimated Warranty Liability

Cook-Rite Inc. sold $140,000 of kitchen appliances during August under a 6 month warranty. The cost to repair defects under the warranty is estimated at 6% of the sales price. On September 11, a customer required a $200 part replacement, plus $90 labor under the warranty.

Provide the journal entries for (a) the estimated warranty expense on August 31 and (b) the September 11 warranty work.

11-85


Current liabilities

For Practice: PE 11-7A, PE11-7B

Follow My Example 11-7

5

Example Exercise 11-7 (continued)

a. Product Warranty Expense………………… 8,400

Product Warranty Payable…………….. 8,400

To record warranty expense

for August, 6% × $140,000.

b. Product Warranty Payable…………………. 290

Supplies…………………………………… 200

Wages Payable…………………………… 90

Replaced defective part under

warranty.

11-86


Current liabilities

Quick Ratio =

Quick assets

Current liabilities

5

Quick Ratio

Noble Co. Hart Co.

Quick assets:

Cash $147,000 $120,000

Accounts receivable (net) 84,000 472,000

Total quick assets $231,000 $592,000

Current liabilities $220,000 $740,000

The quick ratio or acid-test ratio can be used to evaluate a firm’s ability to pay its current liabilities within a short period of time.


Current liabilities

Quick Ratio =

Quick assets

Current liabilities

$231,000

$220,000

= 1.05

Noble Company =

5

Quick Ratio

Noble Co. Hart Co.

Quick assets:

Cash $147,000 $120,000

Accounts receivable (net) 84,000 472,000

Total quick assets $231,000 $592,000

Current liabilities $220,000 $740,000


Current liabilities

Quick Ratio =

Quick assets

Current liabilities

$592,000

$740,000

= 0.80

Hart Company =

5

Quick Ratio

Noble Co. Hart Co.

Quick assets:

Cash $147,000 $120,000

Accounts receivable (net) 84,000 472,000

Total quick assets $231,000 $592,000

Current liabilities $220,000 $740,000