What would you do if you had a great idea for a new product but couldn’t come up with the cash to get the business off the ground? Small businesses often cannot attract investors. Nor can they obtain traditional debt financing through bank loans or bond issuances. Instead, they often resort to unusual, and costly, forms of non-traditional financing.
Such was the case for Wilbert Murdock. Murdock grew up in a low-income housing project but always had high goals. His entrepreneurial spirit led him into some business ventures that failed, such as a device to keep people from falling asleep while driving. Another idea was computerized golf clubs that analyze a golfer’s swing and provide immediate feedback. Murdock saw great potential in the idea. Many golfers are willing to shell out considerable sums of money for devices that might improve their game. But Murdock had no cash to develop his product, and banks and other lenders had shied away. Rather than give up, Murdock resorted to credit cards—in a big way. He quickly owed $25,000 to credit card companies.
While funding a business with credit cards might sound unusual, it isn’t. A recent study by the London-based Institute of Directors found that more than half of companies seeking bank financing had been turned down. About 20% of the 1,000 companies studied relied, at least in part, on credit card financing.
Murdock’s credit card debt forced him to sacrifice nearly everything in order to keep his business afloat. His car stopped running, he barely had enough money to buy food, and he lived and worked out of a dimly lit apartment in his mother’s basement. Through it all he tried to maintain a positive spirit, joking that, if he becomes successful, he might some day get to appear in an American Express (USA) commercial.
Sources: Rodney Ho, “Banking on Plastic: To Finance a Dream, Many Entrepreneurs Binge on Credit Cards,” Wall Street Journal (March 9, 1998), p. A1; Brian Groom, “Banks Fail to Help Half of Companies, Say IoD,” Financial Times Online (FT.com) (February 16, 2010).
Inventor-entrepreneur Wilbert Murdock, as you can tell from the Feature Story, had to use multiple credit cards to finance his business ventures. Murdock’s credit card debts would be classified as current liabilities because they are due every month. Yet, by making minimal payments and paying high interest each month, Murdock used this credit source long-term. Some credit card balances remain outstanding for years as they accumulate interest.
Earlier, we defined liabilities as creditors’ claims on total assets and as existing debts and obligations. These claims, debts, and obligations must be settled or paid at some time in the future by the transfer of assets or services. The future date on which they are due or payable (maturity date) is a significant feature of liabilities. This “future date” feature gives rise to two basic classifications of liabilities: (1) current liabilities and (2) non-current liabilities. Our discussion in this chapter is divided into these two classifications.
The content and organization of Chapter 10 are as follows.
Explain a current liability, and identify the major types of current liabilities.
You have learned that liabilities are defined as “creditors’ claims on total assets” and as “existing debts and obligations.” Companies must settle or pay these claims, debts, and obligations at some time in the future by transferring assets or services. The future date on which they are due or payable (the maturity date) is a significant feature of liabilities.
As explained in Chapter 4, a current liability is a debt that a company expects to pay within one year or the operating cycle, whichever is longer. is a debt that a company expects to pay within one year or the operating cycle, whichever is longer. Debts that do not meet this criterion are non-current liabilities.
Financial statement users want to know whether a company’s obligations are current or non-current. A company that has more current liabilities than current assets often lacks liquidity, or short-term debt-paying ability. In addition, users want to know the types of liabilities a company has. If a company declares bankruptcy, a specific, predetermined order of payment to creditors exists. Thus, the amount and type of liabilities are of critical importance.
The different types of current liabilities include notes payable, accounts payable, unearned revenues, and accrued liabilities such as taxes, salaries and wages, and interest payable. In the sections that follow, we discuss common types of current liabilities.
Describe the accounting for notes payable.
Companies record obligations in the form of written notes as notes payable. Notes payable are often used instead of accounts payable because they give the lender formal proof of the obligation in case legal remedies are needed to collect the debt. Companies frequently issue notes payable to meet short-term financing needs. Notes payable usually require the borrower to pay interest.
Notes are issued for varying periods of time. Those due for payment within one year of the statement of financial position date are usually classified as current liabilities.
To illustrate the accounting for notes payable, assume that Hong Kong National Bank agrees to lend HK$100,000 on September 1, 2017, if C. W. Co. signs a HK$100,000, 12%, four-month note maturing on January 1. When a company issues an interest-bearing note, the amount of assets it receives upon issuance of the note generally equals the note’s face value. C. W. Co. therefore will receive HK$100,000 cash and will make the following journal entry.
Interest accrues over the life of the note, and the company must periodically record that accrual. If C. W. Co. prepares financial statements annually, it makes an adjusting entry at December 31 to recognize interest expense and interest payable of . Illustration 10-1 shows the formula for computing interest and its application to C. W. Co.’s note.
C. W. Co. makes an adjusting entry as follows.
In the December 31 financial statements, the current liabilities section of the statement of financial position will show notes payable HK$100,000 and interest payable HK$4,000. In addition, the company will report interest expense of HK$4,000 under “Other income and expense” in the income statement. If C. W. Co. prepared financial statements monthly, the adjusting entry at the end of each month would have been .
At maturity (January 1, 2018), C. W. Co. must pay the face value of the note (HK$100,000) plus HK$4,000 interest . It records payment of the note and accrued interest as follows.
Explain the accounting for other current liabilities.
Many of the products we purchase at retail stores are subject to sales taxes.1 Many governments also are now collecting sales taxes on purchases made on the Internet as well. Sales taxes are expressed as a percentage of the sales price. The selling company collects the tax from the customer when the sale occurs. Periodically (usually monthly), the retailer remits the collections to the government’s department of revenue.
Under most government sales tax laws, the selling company must enter separately on the cash register the amount of the sale and the amount of the sales tax collected. The company then uses the cash register readings to credit Sales Revenue and Sales Taxes Payable. For example, if the March 25 cash register reading for Cooley Grocery shows sales of NT$10,000 and sales taxes of NT$600 (sales tax rate of 6%), the journal entry is as follows.
When the company remits the taxes to the taxing agency, it debits Sales Taxes Payable and credits Cash. The company does not report sales taxes as an expense. It simply forwards to the government the amount paid by the customers. Thus, Cooley Grocery serves only as a collection agent for the taxing authority.
Sometimes companies do not enter sales taxes separately in the cash register. To determine the amount of sales in such cases, divide total receipts by 100% plus the sales tax percentage. For example, assume that Cooley Grocery enters total receipts of NT$10,600. The receipts from the sales are equal to the sales price (100%) plus the tax percentage (6% of sales), or 1.06 times the sales total. We can compute the sales amount as follows.
Thus, we can find the sales tax amount of NT$600 by either (1) subtracting sales from total receipts or (2) multiplying sales by the sales tax rate .
• HELPFUL HINT
For point-of-sale systems, the company receives sales information through the computer network.
An airline company, such as Qantas Airways (AUS), often receives cash when it sells tickets for future flights. A magazine publisher, such as Finance Asia (HKG), receives customers’ payments when they order magazines. Season tickets for concerts, sporting events, and theater programs are also paid for in advance. How do companies account for unearned revenues that are received before goods are delivered or services are performed?
To illustrate, assume that the Busan IPark (KOR) sells 10,000 season football tickets at 50,000 each for its five-game home schedule. The club makes the following entry for the sale of season tickets (in thousands of ).
As each game is completed, Busan IPark records the recognition of revenue with the following entry (in thousands of ).
The account Unearned Ticket Revenue represents unearned revenue, and Busan IPark reports it as a current liability. As the club recognizes revenue, it reclassifies the amount from unearned revenue to Ticket Revenue. Unearned revenue is substantial for some companies. In the airline industry, for example, tickets sold for future flights represent almost 50% of total current liabilities. At United Airlines (USA), unearned ticket revenue is its largest current liability, recently amounting to over $1 billion.
Illustration 10-2 shows specific unearned revenue and revenue accounts used in selected types of businesses.
Companies often have a portion of long-term debt that comes due in the current year. That amount is considered a current liability. As an example, assume that Wendy Construction issues a five-year, interest-bearing €25,000 note on January 1, 2017. This note specifies that each January 1, starting January 1, 2018, Wendy should pay €5,000 of the note. When the company prepares financial statements on December 31, 2017, it should report €5,000 as a current liability and €20,000 as a non-current liability. (The €5,000 amount is the portion of the note that is due to be paid within the next 12 months.) Companies often identify current maturities of long-term debt on the statement of financial position as long-term debt due within one year.
It is not necessary to prepare an adjusting entry to recognize the current maturity of long-term debt. At the statement of financial position date, all obligations due within one year are classified as current, and all other obligations as non-current.
Prepare entries for interest-bearing notes..
Prepare entries for bonds issued at face value..
Prepare the journal entries to record the following events.
Prepare entries to record mortgage note and installment payments.
Prepare entries to record issuance of bonds and longterm notes, interest accrued, and bond redemption..
Lee Software Ltd. has successfully developed a new spreadsheet program. To produce and market the program, the company needs additional financing. On January 1, 2017, Lee borrowed money as follows.
Brief Exercises, DO IT! Review, Exercises, and Problems, and many additional resources are available for practice in WileyPLUS.
NOTE: Asterisked Questions, Exercises, and Problems relate to material in the appendix to the chapter.
Brenda Gable believes a current liability is a debt that can be expected to be paid in one year. Is Brenda correct? Explain.
Delhi Ltd. obtains Rs300,000 in cash by signing a 9%, 6-month, Rs300,000 note payable to First Bank on July 1. Delhi’s fiscal year ends on September 30. What information should be reported for the note payable in the annual financial statements?
Rotterdam University sold 10,000 season football tickets at €90 each for its five-game home schedule. What entries should be made (a) when the tickets were sold, and (b) after each game?
What is liquidity? What are two measures of liquidity?
(a) What are non-current liabilities? Give three examples. (b) What is a bond?
(a) As a source of long-term financing, what are the major advantages of bonds over ordinary shares? (b) What are the major disadvantages in using bonds for long-term financing?
Contrast the following types of bonds: (a) secured and unsecured, and (b) convertible and callable.
The following terms are important in issuing bonds: (a) face value, (b) contractual interest rate, (c) bond indenture, and (d) bond certificate. Explain each of these terms.
Describe the two major obligations incurred by a company when bonds are issued.
Assume that Bedazzled Ltd. sold bonds with a face value of €100,000 for €104,000. Was the market interest rate equal to, less than, or greater than the bonds’ contractual interest rate? Explain.
If a 6%, 10-year, R$800,000 bond is issued at face value and interest is paid annually, what is the amount of the interest payment at the end of the first period?
If the Bonds Payable account has a balance of HK$8,400,000 and the amount of the unamortized bond discount is HK$600,000, what is the face value of the bonds?
Which accounts are debited and which are credited if a bond issue originally sold at a premium is redeemed before maturity at 97 immediately following the payment of interest?
Roy Toth, a friend of yours, has recently purchased a home for €125,000, paying €25,000 down and the remainder financed by a 6.5%, 20-year mortgage, payable at €745.57 per month. At the end of the first month, Roy receives a statement from the bank indicating that only €203.90 of principal was paid during the month. At this rate, he calculates that it will take over 40 years to pay off the mortgage. Is he right? Discuss.
*In general, what are the requirements for the financial statement presentation of non-current liabilities?
*Ginny Bellis is discussing the advantages of the effective-interest method of bond amortization with her accounting staff. What do you think Ginny is saying?
*Redbone AG issues CHF500,000 of 8%, 5-year bonds on January 1, 2014, at 104. If Redbone uses the effective-interest method in amortizing the premium, will the annual interest expense increase or decrease over the life of the bonds? Explain.
*Explain the straight-line method of amortizing discount and premium on bonds payable.
*Fleming Ltd. issues £400,000 of 7%, 5-year bonds on January 1, 2017, at 105. Assuming that the straightline method is used to amortize the premium, what is the total amount of interest expense for 2017?
*Identify two taxes commonly withheld by the employer from an employee’s gross pay.
Identify whether obligations are current liabilities.
BE10-1 Cardinal SpA has the following obligations at December 31: (a) a note payable for €100,000 due in 2 years, (b) a 10-year mortgage payable of €300,000 payable in ten €30,000 annual payments, (c) interest payable of €12,000 on the mortgage, and (d) accounts payable of €60,000. For each obligation, indicate whether it should be classified as a current liability. (Assume an operating cycle of less than one year.)
Prepare entries for an interestbearing note payable.
BE10-2 Becky Ltd. borrows £60,000 on July 1 from the bank by signing a £60,000, 10%, one-year note payable.
Compute and record sales taxes payable.
BE10-3 Goodwin Auto Supply does not segregate sales and sales taxes at the time of sale. The register total for March 16 is £12,826. All sales are subject to a 6% sales tax. Compute sales taxes payable, and make the entry to record sales taxes payable and sales revenue.
Prepare entries for unearned revenues.
BE10-4 Hamburg University sells 4,000 season basketball tickets at €180 each for its 10-game home schedule. Give the entry to record (a) the sale of the season tickets and (b) the revenue recognized for playing the first home game.
Compare bond versus share financing.
BE10-5 Shaffer Ltd. is considering two alternatives to finance its construction of a new €2 million plant.
Complete the following table, and indicate which alternative is preferable.
Prepare entries for bonds issued at face value.
BE10-6 Meera Ltd. issued 4,000, 8%, 5-year, £1,000 bonds dated January 1, 2017, at 100. Interest is paid each January 1.
Prepare entries for bonds sold at a discount and a premium.
BE10-7 Nasreen Company issues €2 million, 10-year, 8% bonds at 97, with interest payable each January 1.
Prepare entries for bonds issued.
BE10-8 Frankum SpA has issued three different bonds during 2017. Interest is payable annually on each of these bonds.
Prepare the journal entry to record each bond transaction at the date of issuance.
Prepare entry for redemption of bonds.
BE10-9 The statement of financial position for Miley Consulting reports the following
Miley decides to redeem these bonds at 101 (face value of bonds £1,000,000) after paying annual interest. Prepare the journal entry to record the redemption on July 1, 2017.
Prepare entries for long-term notes payable.
BE10-10 Hanschu plc issues an £800,000, 10%, 10-year mortgage note on December 31, 2017, to obtain financing for a new building. The terms provide for annual installment payments of £130,196. Prepare the entry to record the mortgage loan on December 31, 2017, and the first installment payment on December 31, 2018.
Prepare statement presentation of non-current liabilities.
BE10-11 Presented below are non-current liability items for Suarez AG at December 31, 2017. Prepare the non-current liabilities section of the statement of financial position for Suarez.
Analyze solvency.
BE10-12 Suppose the 2017 adidas financial statements contain the following selected data (in millions)
Compute the following values and provide a brief interpretation of each.
Use effective-interest method of bond amortization.
*BE10-13 Presented below is the partial bond discount amortization schedule for Gomez SA. Gomez uses the effective-interest method of amortization.
Prepare entries for bonds issued at a discount.
*BE10-14 Zhu Ltd. issues HK$5 million, 10-year, 9% bonds at 96, with interest payable annually on January 1. The straight-line method is used to amortize bond discount.
Prepare entries for bonds issued at a premium.
*BE10-15 Golden plc issues £4 million, 5-year, 10% bonds at 102, with interest payable annually January 1. The straight-line method is used to amortize bond premium.
Prepare entry to record payroll.
*BE10-16 Lexington AG’s weekly payroll of €24,000 included Social Security taxes withheld of €1,920, income taxes withheld of €2,990, and insurance premiums withheld of €250. Prepare the journal entry to record Lexington’s payroll.
Prepare entries to record profit-sharing bonus.
*BE10-17 Mayaguez Ltd. provides its officers with bonuses based on net income. For 2017, the bonuses total £350,000 and are paid on February 15, 2018. Prepare Mayaguez’s December 31, 2017, adjusting entry and the February 15, 2018, entry.
Answer questions about current liabilities..
DO IT! 10-1 You and several classmates are studying for the next accounting examination.
They ask you to answer the following questions:
Evaluate statements about bonds..
DO IT! 10-2 State whether each of the following statements is true or false. If false, indicate how to correct the statement.
Prepare journal entry for bond issuance and show statement of financial position presentation.
DO IT! 10-3 Jeon Enterprises, Ltd. issues W300,000,000 of bonds for W306,000,000. (a) Prepare the journal entry to record the issuance of the bonds, and (b) show how the bonds would be reported on the statement of financial position at the date of issuance.
Prepare entry for bond redemption.
DO IT! 10-4 Jeske Industries, SA issued €400,000 of 10-year bonds at a discount. Prior to maturity, when the carrying value of the bonds was €390,000, the company redeemed the bonds at 99. Prepare the entry to record the redemption of the bonds.
Prepare entries for mortgage note and installment payment on note.
DO IT! 10-5 Mattsen Orchard issues a R$700,000, 6%, 15-year mortgage note to obtain needed financing for a new lab. The terms call for annual payments of R$72,074 each. Prepare the entries to record the mortgage loan and the first installment payment.
Analyze liabilities.
DO IT! 10-6 Grouper Company provides you with the following statement of financial position information as of December 31, 2017.
In addition, Grouper reported net income for 2017 of $16,000, income tax expense of $3,200, and interest expense of $1,300.
Prepare entries for interest-bearing notes.
E10-1 Padillio SpA had the following transactions involving notes payable.
July 1, 2017 | Borrows €60,000 from Fourth National Bank by signing a 9-month, 8% note. |
Nov. 1, 2017 | Borrows €42,000 from Livingston Bank by signing a 3-month, 7% note. |
Dec. 31, 2017 | Prepares adjusting entries. |
Feb. 1, 2018 | Pays principal and interest to Livingston Bank. |
Apr. 1, 2018 | Pays principal and interest to Fourth National Bank. |
Instructions
Prepare journal entries for each of the transactions.
Prepare entries for interest-bearing notes.
E10-2 On June 1, Yoon Ltd. borrows €70,000 from First Bank on a 6-month, €70,000, 9% note.
Instructions
Journalize sales and related taxes.
E10-3 In performing accounting services for small businesses, you encounter the following situations pertaining to cash sales.
Instructions
Prepare the entry to record the sales transactions and related taxes for each client.
Journalize unearned subscription revenue.
E10-4 Nevin Ltd. publishes a monthly sports magazine, Fishing Preview. Subscriptions to the magazine cost £18 per year. During November 2017, Nevin sells 12,000 subscriptions beginning with the December issue. Nevin prepares financial statements quarterly and recognizes subscription revenue at the end of the quarter. The company uses the accounts Unearned Subscription Revenue and Subscription Revenue.
Instructions
Calculate current ratio and working capital before and after paying accounts payable.
E10-5 The following financial data were reported by 3M Company (USA) for 2012 and 2013 (dollars in millions).
Instructions
Evaluate statements about bonds.
E10-6 Liane Hansen has prepared the following list of statements about bonds.
Instructions
Identify each statement as true or false. If false, indicate how to correct the statement.
Compare two alternatives of financing—issuance of ordinary shares vs. issuance of bonds.
E10-7 Global Car Rental is considering two alternatives for the financing of a purchase of a fleet of cars. These two alternatives are:
It is estimated that the company will earn ¥800,000 before interest and taxes as a result of this purchase. The company has an estimated tax rate of 30% and has 90,000 ordinary shares outstanding prior to the new financing.
Instructions
Determine the effect on net income and earnings per share for these two methods of financing.
Prepare entries for issuance of bonds, and payment and accrual of bond interest.
E10-8 On January 1, 2017, Klosterman Ltd. issued £500,000, 10%, 10-year bonds at face value. Interest is payable annually on January 1.
Instructions
Prepare journal entries to record the following.
Prepare entries for bonds issued at face value.
E10-9 On January 1, 2017, Forrester SA issued R$400,000, 8%, 5-year bonds at face value. Interest is payable annually on January 1.
Instructions
Prepare journal entries to record the following.
Prepare entries to record issuance of bonds at discount and premium.
E10-10 Pueblo Company issued €500,000 of 5-year, 8% bonds at 97 on January 1, 2017. The bonds pay interest annually.
Instructions
Prepare entries for bond interest and redemption.
E10-11 The following section is taken from Ohlman Ltd.’s. statement of financial position at December 31, 2016.
Bond interest is payable annually on January 1. The bonds are callable on any interest date.
Instructions
Prepare entries for redemption of bonds.
E10-12 Presented below are two independent situations.
Instructions
Prepare the appropriate journal entry for the redemption of the bonds in each situation.
Prepare entries to record mortgage note and payments.
E10-13 Jernigan Co. receives €240,000 when it issues a €240,000, 6%, mortgage note payable to finance the construction of a building at December 31, 2017. The terms provide for annual installment payments of €33,264 on December 31.
Instructions
Prepare the journal entries to record the mortgage loan and the first two payments.
Prepare non-current liabilities section.
E10-14 The adjusted trial balance for Zhang Ltd. at the end of the current year contained the following accounts.
Interest Payable | HK$ 9,000 |
Lease Liability | 59,500 |
Bonds Payable, due 2022 | 204,000 |
Instructions
Prepare the non-current liabilities section of the statement of financial position.
Calculate liquidity and solvency ratios; discuss impact of unrecorded obligations on liquidity and solvency.
E10-15 Suppose Lin Ltd.’s 2017 financial statements contain the following selected data (in millions).
Current assets | NT$ 3,416.3 | Interest expense | NT$ 473.2 |
Total assets | 30,224.9 | Income taxes | 1,936.0 |
Current liabilities | 2,988.7 | Net income | 4,551.0 |
Total liabilities | 16,191.0 |
Instructions
Prepare entries for issuance of bonds, payment of interest, and amortization of discount using effective-interest method.
*E10-16 Lorance SpA issued €400,000, 7%, 20-year bonds on January 1, 2017, for €360,727. This price resulted in an effective-interest rate of 8% on the bonds. Interest is payable annually on January 1. Lorance uses the effective-interest method to amortize bond premium or discount.
Instructions
Prepare the journal entries to record the following. (Round to the nearest euro.)
Prepare entries of issuance of bonds, payment of interest, and amortization of discount using effective-interest method.
*E10-17 LRNA Ltd. issued £380,000, 7%, 10-year bonds on January 1, 2017, for £407,968. This price resulted in an effective-interest rate of 6% on the bonds. Interest is payable annually on January 1. LRNA uses the effective-interest method to amortize bond premium or discount.
Instructions
Prepare the journal entries to record the following. (Round to the nearest pound.)
Prepare entries to record issuance of bonds, payment of interest, amortization of premium, and redemption at maturity.
*E10-18 Adcock A/S issued €600,000, 9%, 20-year bonds on January 1, 2017, at 103. Interest is payable annually on January 1. Adcock uses straight-line amortization for bond premium or discount.
Instructions
Prepare the journal entries to record the following.
Prepare entries to record issuance of bonds, payment of interest, amortization of discount, and redemption at maturity.
*E10-19 Gridley Ltd. issued £800,000, 11%, 10-year bonds on December 31, 2016, for £730,000. Interest is payable annually on December 31. Gridley uses the straight-line method to amortize bond premium or discount.
Instructions
Prepare the journal entries to record the following.
Record payroll-related deductions.
*E10-20 Dan Noll’s gross earnings for the week were $1,780, his income tax withholding was $303, and his social security tax total was $136.
Instructions
Prepare current liability entries, adjusting entries, and current liabilities section.
P10-1A On January 1, 2017, the ledger of Shumway Ltd. contains the following liability accounts.
Accounts Payable | £52,000 |
Sales Taxes Payable | 5,800 |
Unearned Service Revenue | 13,000 |
During January, the following selected transactions occurred.
Jan. | 5 | Sold merchandise for cash totaling £22,470, which includes 7% sales taxes. |
12 | Performed services for customers who had made advance payments of £10,000. (Credit Service Revenue.) | |
14 | Paid revenue department for sales taxes collected in December 2016 (£5,800). | |
20 | Sold 700 units of a new product on credit at £52 per unit, plus 7% sales tax. | |
21 | Borrowed £14,000 from DeKalb Bank on a 3-month, 6%, £14,000 note. | |
25 | Sold merchandise for cash totaling £12,947, which includes 7% sales taxes. |
Instructions
Journalize and post note transactions; show statement of financial position presentation.
P10-2A The following are selected transactions of Graves ASA. Graves prepares financial statements quarterly.
Jan. | 2 | Purchased merchandise on account from Ally Company, €30,000, terms 2/10, n/30. (Graves uses the perpetual inventory system.) |
Feb. | 1 | Issued a 6%, 2-month, €30,000 note to Ally in payment of account. |
Mar. | 31 | Accrued interest for 2 months on Ally note. |
Apr. | 1 | Paid face value and interest on Ally note. |
July | 1 | Purchased equipment from Clark Equipment paying €8,000 in cash and signing a 7%, 3-month, €40,000 note. |
Sept. | 30 | Accrued interest for 3 months on Clark note. |
Oct. | 1 | Paid face value and interest on Clark note. |
Dec. | 1 | Borrowed €15,000 from the Jonas Bank by issuing a 3-month, 6% note with a face value of €15,000. |
Dec. | 31 | Recognized interest expense for 1 month on Jonas Bank note. |
Instructions
Prepare entries to record issuance of bonds, interest accrual, and bond redemption.
P10-3A On May 1, 2017, Herron Industries AG issued CHF600,000, 9%, 5-year bonds at face value. The bonds were dated May 1, 2017, and pay interest annually on May 1. Financial statements are prepared annually on December 31.
Instructions
Prepare entries to record issuance of bonds, interest accrual, and bond redemption.
P10-4A Kershaw Electric Ltd. sold £6,000,000, 10%, 15-year bonds on January 1, 2017. The bonds were dated January 1, 2017, and paid interest on January 1. The bonds were sold at 98.
Instructions
Prepare installment payments schedule and journal entries for a mortgage note payable.
P10-5A Talkington Electronics issues a R$400,000, 8%, 10-year mortgage note on December 31, 2016. The proceeds from the note are to be used in financing a new research laboratory. The terms of the note provide for annual installment payments, exclusive of real estate taxes and insurance, of R$59,612. Payments are due on December 31.
Instructions
Prepare journal entries to record issuance of bonds, payment of interest, and amortization of bond discount using effective-interest method.
*P10-6A On January 1, 2017, Lock Industries Ltd. issued £1,800,000 face value, 5%, 10-year bonds at £1,667,518. This price resulted in an effective-interest rate of 6% on the bonds. Lock uses the effective-interest method to amortize bond premium or discount. The bonds pay annual interest January 1.
Instructions
(Round all computations to the nearest pound.)
Prepare journal entries to record issuance of bonds, payment of interest, and effective-interest amortization, and statement of financial position presentation.
*P10-7A On January 1, 2017, Jade SA issued €2,000,000 face value, 7%, 10-year bonds at €2,147,202. This price resulted in a 6% effective-interest rate on the bonds. Jade uses the effective-interest method to amortize bond premium or discount. The bonds pay annual interest on each January 1.
Instructions
Prepare entries to record issuance of bonds, interest accrual, and straight-line amortization for 2 years.
*P10-8A Paris Electric sold €3,000,000, 10%, 10-year bonds on January 1, 2017. The bonds were dated January 1 and pay interest annually on January 1. Paris Electric uses the straight-line method to amortize bond premium or discount. The bonds were sold at 104.
Instructions
Prepare entries to record -issuance of bonds, interest, and straight-line amortization of bond premium and discount.
*P10-9A Saberhagen Ltd. sold Rs3,500,000, 8%, 10-year bonds on January 1, 2017. The bonds were dated January 1, 2017, and pay interest annually on January 1. Saberhagen Company uses the straight-line method to amortize bond premium or discount.
Instructions
Prepare entries to record interest payments, straight-line premium amortization, and redemption of bonds.
*P10-10A The following is taken from the Colaw SA statement of financial position.
Interest is payable annually on January 1. The bonds are callable on any annual interest date. Colaw uses straight-line amortization for any bond premium or discount. From December 31, 2017, the bonds will be outstanding for an additional 10 years (120 months).
Instructions
Prepare current liability entries, adjusting entries, and current liabilities section.
P10-1B On January 1, 2017, the ledger of Zaur Ltd. contains the following liability accounts.
Accounts Payable | ¥42,500 |
Sales Taxes Payable | 5,800 |
Unearned Service Revenue | 15,000 |
During January, the following selected transactions occurred.
Jan. | 1 | Borrowed ¥15,000 in cash from Platteville Bank on a 4-month, 6%, ¥15,000 note. |
5 | Sold merchandise for cash totaling ¥9,828, which includes 8% sales taxes. | |
12 | Performed services for customers who had made advance payments of ¥9,400. (Credit Service Revenue.) | |
14 | Paid government treasurer’s department for sales taxes collected in December 2016, ¥5,800. | |
20 | Sold 700 units of a new product on credit at ¥44 per unit, plus 8% sales tax. | |
25 | Sold merchandise for cash totaling ¥16,308, which includes 8% sales taxes. |
Instructions
Prepare entries to record issuance of bonds, interest accrual, and bond redemption.
P10-2B On June 1, 2017, Weller SA issued €1,200,000, 8%, 5-year bonds at face value. The bonds were dated June 1, 2017, and pay interest annually on June 1. Financial statements are prepared annually on December 31.
Instructions
Prepare entries to record issuance of bonds, interest accrual, and bond redemption.
P10-3B Shonrock Co. sold R$800,000, 9%, 10-year bonds on January 1, 2017. The bonds were dated January 1, 2017, and paid interest on January 1. The bonds were sold at 105.
Instructions
Prepare installment payments schedule and journal entries for a mortgage note payable.
P10-4B Crosetti’s Electronics issues an £800,000, 8%, 10-year mortgage note on December 31, 2016, to help finance a plant expansion program. The terms of the note provide for annual installment payments, exclusive of real estate taxes and insurance, of £119,224. Payments are due on December 31.
Instructions
Prepare entries to record issuance of bonds, payment of interest, and amortization of bond discount using effective-interest method.
P10-5B On January 1, 2017, Witherspoon Satellites issued £4,500,000, 9%, 10-year bonds at £4,219,600. This price resulted in an effective-interest rate of 10% on the bonds. Witherspoon uses the effective-interest method to amortize bond premium or discount. The bonds pay annual interest January 1.
Instructions
(Round all computations to the nearest pound.)
Prepare entries to record issuance of bonds, payment of interest, and amortization of premium using effective--interest method.
P10-6B On January 1, 2017, Ashlock Chemical AG issued €4,000,000, 10%, 10-year bonds at €4,543,627. This price resulted in an 8% effective-interest rate on the bonds. Ashlock uses the effective-interest method to amortize bond premium or discount. The bonds pay annual interest on each January 1.
Instructions
(Round all computations to the nearest euro.)
Prepare entries to record issuance of bonds, interest accrual, and straight-line amortization for 2 years.
P10-7B Wu Ltd. sold ¥6,000,000, 8%, 20-year bonds on January 1, 2017. The bonds were dated January 1 and pay interest annually on January 1. Wu uses the straight-line method to amortize bond premium or discount. The bonds were sold at 96.
Instructions
Prepare entries to record issuance of bonds, interest, and straight-line amortization of bond premium and discount.
P10-8B Rosewell Ltd. sold £4,000,000, 7%, 10-year bonds on January 1, 2017. The bonds were dated January 1, 2017, and pay interest annually on January 1. Rosewell uses the straight-line method to amortize bond premium or discount.
Instructions
Prepare entries to record interest payments, straight-line discount amortization, and redemption of bonds.
P10-9B The following is taken from the Sinjh ASA statement of financial position.
SINJH ASA Statement of Financial Position December 31, 2016 |
|||
Non-current liabilities | |||
Bonds payable (face value €2,400,000), 9%, due January 1, 2027 | €2,310,000 | ||
Current liabilities | |||
Interest payable (for 12 months from January 1 to December 31) | 216,000 |
Interest is payable annually on January 1. The bonds are callable on any annual interest date. Sinjh uses straight-line amortization for any bond premium or discount. From December 31, 2016, the bonds will be outstanding for an additional 10 years (120 months).
Instructions
(Round all computations to the nearest euro).
CP10-1 James Ltd.’s statement of financial position at December 31, 2016, is presented below.
During 2017, the following transactions occurred.
Instructions
(You may want to set up T-accounts to determine ending balances.)
CP10-2 Eastland AG and Westside AG are competing businesses. Both began operations 6 years ago and are quite similar in most respects. The current statements of financial position data for the two companies are shown below.
You have been engaged as a consultant to conduct a review of the two companies. Your goal is to determine which of them is in the stronger financial position.
Your review of their financial statements quickly reveals that the two companies have not followed the same accounting practices. The differences and your conclusions regarding them are summarized below.
Eastland has used the allowance method of accounting for bad debts. A review shows that the amount of its write-offs each year has been quite close to the allowances that have been provided. It therefore seems reasonable to have confidence in its current estimate of bad debts.
Westside has used the direct write-off method for bad debts, and it has been somewhat slow to write off its uncollectible accounts. Based upon an aging analysis and review of its accounts receivable, it is estimated that CHF18,000 of its existing accounts will probably prove to be uncollectible.
Eastland estimated a useful life of 12 years and a residual value of CHF30,000 for its plant and equipment. It has been depreciating them on a straight-line basis.
Westside has the same type of plant and equipment. However, it estimated a useful life of 10 years and a residual value of CHF10,000. It has been depreciating its plant and equipment using the double-declining-balance method.
Based upon engineering studies of these types of plant and equipment, you conclude that Westside’s estimates and method for calculating depreciation are the more appropriate.
Among its current liabilities, Eastland has included the portions of non-current liabilities that become due within the next year. Westside has not done so.
You find that CHF16,000 of Westside’s CHF82,000 of non-current liabilities are due to be repaid in the current year.
Instructions
(Note: This is a continuation of the Matcha Creations problem from Chapters 1–9.)
MC10 Recall that Matcha Creations sells fine European mixers that it purchases from Kzinski Supply Co. Kzinski warrants the mixers to be free of defects in material and workmanship for a period of one year from the date of original purchase. If the mixer has such a defect, Kzinski will repair or replace the mixer free of charge for parts and labor.
Go to the book’s companion website, www.wiley.com/college/weygandt, to see the completion of this problem.
BYP10-1 The financial statements of TSMC appear in Appendix A. The notes to consolidated financial statements appear in the 2013 annual report, which can be found in the Investors section of the company’s website, www.tsmc.com.
Instructions
Refer to TSMC’s financial statements and answer the following questions about liabilities.
BYP10-2 Nestlé’s financial statements are presented in Appendix B. Financial statements of Petra Foods are presented in Appendix C.
Instructions
BYP10-3 Purpose: Bond or debt securities pay a stated rate of interest. This rate of interest is dependent on the risk associated with the investment. Fitch Ratings provides ratings for companies that issue debt securities.
Address: www.fitchratings.com, or go to www.wiley.com/college/weygandt
Instructions
Answer the following questions.
*BYP10-4 On January 1, 2015, Fleming Ltd. issued £2,400,000 of 5-year, 8% bonds at 95; the bonds pay interest annually on January 1. By January 1, 2017, the market rate of interest for bonds of risk similar to those of Fleming had risen. As a result, the market value of these bonds was £2,000,000 on January 1, 2017—below their carrying value. Debra Fleming, president of the company, suggests repurchasing all of these bonds in the open market at the £2,000,000 price. To do so, the company will have to issue £2,000,000 (face value) of new 10-year, 11% bonds at par. The president asks you, as controller, “What is the feasibility of my proposed repurchase plan?”
Instructions
With the class divided into groups, answer the following.
BYP10-5 Ron Seiser, president of Seiser AG, is considering the issuance of bonds to finance an expansion of his business. He has asked you to (1) discuss the advantages of bonds over equity financing, (2) indicate the types of bonds he might issue, and (3) explain the issuing procedures used in bond transactions.
Instructions
Write a memo to the president, answering his request.
BYP10-6 Dylan Horn is the president, founder, and majority owner of Wesley Medical Ltd., an emerging medical technology products company. Wesley is in dire need of additional capital to keep operating and to bring several promising products to final development, testing, and production. Dylan, as owner of 51% of the outstanding shares, manages the company’s operations. He places heavy emphasis on research and development and on long-term growth. The other principal shareholder is Mary Sommers who, as a non-employee investor, owns 40% of the shares. Mary would like to deemphasize the R&D functions and emphasize the marketing function, to maximize short-run sales and profits from existing products. She believes this strategy would raise the market price of Wesley’s shares.
All of Dylan’s personal capital and borrowing power is tied up in his 51% share ownership. He knows that any offering of additional shares will dilute his controlling interest because he won’t be able to participate in such an issuance. But, Mary has money and would likely buy enough shares to gain control of Wesley. She then would dictate the company’s future direction, even if it meant replacing Dylan as president and CEO.
The company already has considerable debt. Raising additional debt will be costly, will adversely affect Wesley’s credit rating, and will increase the company’s reported losses due to the growth in interest expense. Mary and the other minority shareholders express opposition to the assumption of additional debt, fearing the company will be pushed to the brink of bankruptcy. Wanting to maintain his control and to preserve the direction of “his” company, Dylan is doing everything to avoid a share issuance. He is contemplating a large issuance of bonds, even if it means the bonds are issued with a high effective-interest rate.
Instructions
p. 491 How About Some Green Bonds? Q: Why might standardized disclosure help investors to better understand how proceeds from the sale or issuance of bonds are used? A: By requiring transparency as to how a bond’s proceeds are to be used and how they will affect a company’s sustainable profitability, investors will make better financial decisions.
p. 499 Bonds versus Notes? Q: Why might companies prefer bond financing instead of short-term financing? A: In some cases, it is difficult to get loans from banks. In addition, low interest rates have encouraged companies to go more long-term and fix their rates. Recently, short-term loans suddenly froze, leading to liquidity problems for certain companies.
p. 501 “Covenant-Lite” Debt Q: How can financial ratios such as those covered in this chapter provide protection for creditors? A: Financial ratios such as the current ratio, debt to assets ratio, and times interest earned provide indications of a company’s liquidity and solvency. By specifying minimum levels of liquidity and solvency, as measured by these ratios, a creditor creates triggers that enable it to step in before a company’s financial situation becomes too dire.
Compare the accounting for liabilities under IFRS and U.S. GAAP.
IFRS and GAAP have similar definitions of liabilities. IFRSs related to reporting and recognition of liabilities are found in IAS 1 (revised) (“Presentation of Financial Statements”) and IAS 37 (“Provisions, Contingent Liabilities, and Contingent Assets”). The general recording procedures for payroll are similar although differences occur depending on the types of benefits that are provided in different countries. For example, companies in other countries often have different forms of pensions, unemployment benefits, welfare payments, and so on. The accounting for various forms of compensation plans under IFRS is found in IAS 19 (“Employee Benefits”) and IFRS 2 (“Share-based Payments”). IAS 19 addresses the accounting for a wide range of compensation elements, including wages, bonuses, post-employment benefits, and compensated absences. Both of these standards were recently amended, resulting in significant convergence between IFRS and GAAP.
Under IFRS, a company would record:
To illustrate, assume that Harris Corp. issues convertible 7% bonds with a face value of $1,000,000 and receives $1,000,000. Comparable bonds without a conversion feature would have required a 9% rate of interest. To determine how much of the proceeds would be allocated to debt and how much to equity, the promised payments of the bond obligation would be discounted at the market rate of 9%. Suppose that this results in a present value of $850,000. The entry to record the issuance under GAAP would be:
Under IFRS, the entry would be:
The FASB and IASB are currently involved in two projects, each of which has implications for the accounting for liabilities. One project is investigating approaches to differentiate between debt and equity instruments. The other project, the elements phase of the conceptual framework project, will evaluate the definitions of the fundamental building blocks of accounting. The results of these projects could change the classification of many debt and equity securities.
GAAP10-1 Briefly describe some of the similarities and differences between GAAP and IFRS with respect to the accounting for liabilities.
GAAP10-2 Ratzlaff Company issues $2 million, 10-year, 8% bonds at 97, with interest payable on January 1.
Instructions
GAAP10-3 Archer Company issued £4,000,000 par value, 7% convertible bonds at 99 for cash. The net present value of the debt without the conversion feature is £3,800,000. Prepare the journal entry to record the issuance of the convertible bonds (a) under GAAP and (b) under IFRS.
GAAP10-4 The financial statements of Apple are presented on Appendix D. The company’s complete annual report, including the notes to its financial statements, is available at http://investor.apple.com.
Instructions
Use the company’s financial statements and notes to the financial statements to answer the following questions.