MGMT 200 Purdue Chapter 8

What is liability?

The obligation of a company to transfer some economic benefit in the future

Most liabilities require the payment of cash in the future:

accounts payable, notes payable, salaries payable

When does a deferred revenue liability arise?

when a company receives cash in advance from customers

What do deferred revenues represent?

Obligation of the company to transfer inventory or services to those customers in the future

current liability

pay within one year from balance sheet date

long term liability

payable in more than one year from balance sheet date

note signed by a firm

promises to repay the amount borrowed plus interest

what is interest calculated as

face value x annual interest rate x fraction of the year

record notes payable

debit cash

credit notes payable

record interest payable

debit interest expense

credit interest payable

record repayment of notes payable

debit notes payable

debit interest expense

debit interest payable

credit cash

when do we record interest expense

in the period in which we incur it

what is a line of credit

permits a company to borrow up to a limit

what is line of credit recorded like

notes payable

what is commercial paper

borrowing from another company rather than a bank

how long is commercial paper

30 to 270 days

is interest rate lower on commercial paper or bank loan

bank loan

what is accounts payable

amounts owed to suppliers of merchandise or services

employee costs

federal and state income taxes

social security and medicare

employee health, dental, disability, and life insurance

employee investments in retirement or savings plan

employer costs

federal and state unemployment taxes

social security and medicare

employer health, dental, disability and life insurance

employer contributions to retirement or savings plan

how much is FICA

7.65% (6.2 social security and 1.45 medicare)

fringe benefits

additional employee benefits paid for by employer (insurance and contributions to savings and retirement)

recording payroll

debit salaries expense

credit employee income tax payable

credit FICA tax payable

Credit salaries payable

recording fringe benefits

debit salaries expense

credit fringe benefits payable (to both places)

recording payroll taxes

debit payroll tax expense

credit FICA tax payable

credit unemployment tax payable

sales tax payable

sales tax collected from customers by the seller

what does sales tax payable represent

current liabilities payable to government

recording gift card

debit cash

credit deferred revenue

recording downloads

debit deferred revenue

credit sales revenue

recording sales tax payable

debit cash

credit sales revenue

credit sales tax payable

current portion of long term debt

amount that will be paid within one year from balance sheet

recording current portion of long term debt

debit notes payable long term

credit notes payable short term

contingencies

uncertain situations that can result in a gain or loss for a company

contingent liability

existing uncertain situation that might result in a loss

likelihood of payment for liability is

probably, reasonably possible, remote

amount of payment for liability is

reasonably estimate, not reasonably estimate

contingent liability is only recorded if

a loss is probably and the amount is reasonable estimable

recording contingent liabilities

debit loss

credit contingent liability

warranties

represent a liability for a company at the time of the sale if it meets the criteria for recording a contingent liability

how can companies formulate reasonable predictions for warranty cost

past experiences, industry statistics, other current business conditions

recording warranty costs

debit warranty expense

credit warranty liability

recording warranty clams

debit warranty liablity

credit cash

contingent gains

existing uncertain situation that might result in a gain

when are contingent gains recorded

not until gain is known for sure

liquidity analysis

refers to having sufficient cash or other current assets to pay currently maturing debts

lack of liquidity

can result in financial difficulties or bankruptcy

three liquidity measures

working capital, current ratio, acid test ratio

working capital

measure of current assets remaining after paying current liabilities (current assets - current liabilities)

working capital is a large positive what but is not the best measure for

indicator of liquidity but not for comparing other companies

current ratio

amount of current assets available for every $1 of current liabilities

acid test ratio

amount of quick assets available for every $1 of current liabilities

what are quick assets

cash, current investments, accounts receivable (exclude inventory and prepaid rent)

acid test ratio provides what

better overall indication of liquidity

changes that increase current ratio

increase in current assets and decrease in current liabilities

changes that increase acid test ratio

increase in quick assets and decrease in current liabilities

changes that decrease current ratio

decrease in current assets and increase in current liabilities

changes that decrease acid test ratio

decrease in quick assets and increase in current liabilities

liquidity management

can influence the ratios that measure liquidity to some extent