Chapter 10
description
Transcript of Chapter 10
![Page 1: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/1.jpg)
McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter 10Liabilities
PowerPoint Authors:Brandy MackintoshLindsay Heiser
![Page 2: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/2.jpg)
10-2
Learning Objective 10-1
Explain the role of liabilities in financing a business.
![Page 3: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/3.jpg)
10-3
The Role of Liabilities
Current liabilities are short-term obligations that will be paid with current assets within the company’s current operating cycle or within one year of the
balance sheet date, whichever is longer.
Buys goods and services
on credit
Obtains short-term
loans
Issues long-term
debt
Liabilities are created when a company:
![Page 4: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/4.jpg)
10-4
The Role of LiabilitiesThe liability section of the General Mills 2010 and 2011
comparative balance sheets.
![Page 5: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/5.jpg)
10-5
Learning Objective 10-2
Explain how to account for common types of current
liabilities.
![Page 6: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/6.jpg)
10-6
Measuring Liabilities
Initial Amount of the Liability Cash Equivalent
Additional Liability Amounts Increase Liability
Payments Made Decrease Liability
![Page 7: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/7.jpg)
10-7
Current Liabilities
Accounts Payable
Accrued LiabilitiesLiabilities that have been incurred but not yet paid.
Increases(Credited)
Decreases(Debited)
when a company receives goods or services on credit
when a company pays on its account
![Page 8: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/8.jpg)
10-8
Accrued Payroll
Payroll Liabilities1. Payroll Deductions
2. Employer Payroll Taxes
Payroll DeductionsPayroll deductions are either required by law or voluntarily requested by employees and create a current liability for the company. Examples include:1. Income tax2. FICA tax3. Other deductions (charitable donations, union dues, etc.)
![Page 9: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/9.jpg)
10-9
Accrued Payroll
Gross PayPayroll Deductions: Federal Income Taxes FICA Taxes Other Total Payroll DeductionsNet Pay
$ 58.0048.80
10.00
$ 600.00
116.80$ 483.20
![Page 10: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/10.jpg)
10-10
Accrued PayrollAdam Palmer earned gross pay of $600 in the current payroll period.
General Mills withheld $58 in Federal income taxes, $48.80 for FICA, and $10 for United Way, resulting in net pay of $483.20. Let’s assume that
General Mills has 1,000 workers just like Adam.
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -$483,200 FIT Withheld (+L) +$58,000FICA Payable (+L)+$48,800United Way (+L) +$10,000
Payroll Expense(+E, -SE) -$600,000
2 Recorddr Wages and Salaries Expense (+E, -SE) cr Withheld Income Taxes Payable (+L) cr FICA Payable (+L) cr United Way Payable (+L) cr Cash (-A)
58,00048,80010,000
483,200
600,000
![Page 11: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/11.jpg)
10-11
Accrued PayrollEmployer Payroll Taxes
Employers have other liabilities related to payroll.1. FICA tax (a “matching” contribution)2. Federal unemployment tax3. State unemployment tax
Assume General Mills was required to contribute $48,800 for FICA, $750 for federal unemployment tax, and $4,000 for state unemployment tax.
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
FICA Payable (+L) +48,800FUTA Payable (+L) +750SUTA Payable (+L) +4,000
Payroll TaxExpense (+E, -SE) -53,550
2 Recorddr Payroll Tax Expense (+E, -SE) cr FICA Tax Payable (+L) cr Federal Unemployment Tax Payable (+L) cr State Unemployment Tax Payable (+L)
48,800750
4,000
53,550
![Page 12: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/12.jpg)
10-12
Accrued Income TaxesCorporations calculate taxable income by subtracting tax-allowed
expenses from revenues. This taxable income is then multiplied by a tax rate, which for most large corporations is about 35 percent.
Let’s assume General Mills calculated taxable income to be $1,000,000, and is subject to a 35% tax rate, so income taxes owed are $350,000
($1,000,000 × 35%)
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Income TaxPayable (+L) +350,000
Income TaxExpense (+E, -SE) -350,000
2 Recorddr Income Tax Expense (+E, -SE) cr Income Tax Payable (+L) 350,000
350,000
![Page 13: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/13.jpg)
10-13
Notes PayableFour key events occur with any note payable: 1. establishing the note, 2. accruing interest incurred but not paid, 3. recording interest paid, and 4. recording principal paid.
12
3
4
![Page 14: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/14.jpg)
10-14
Notes Payable1. Establish the note on November 1, 2012.Assume that on November 1, 2012, General Mills borrowed $100,000 cash on a one-year note that required General Mills to pay 6 percent interest and
$100,000 principal, both on October 31, 2013.
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (+A) +100,000 NotesPayable (+L) +100,000
2 Recorddr Cash (+A) cr Notes Payable (+L) 100,000
100,000
![Page 15: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/15.jpg)
10-15
Notes Payable2. Accrue interest owed but not paid on December 31, 2012.
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
InterestPayable (+L) +1,000
InterestExpense (+E, -SE) -1,000
2 Recorddr Interest Expense (+E, -SE) cr Interest Payable (+L) 1,000
1,000
![Page 16: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/16.jpg)
10-16
Notes Payable3. Record interest paid on October 31, 2013.
2 Recorddr Interest Expense (+E, -SE)dr Interest Payable (-L) cr Cash (-A) 6,000
5,0001,000
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -6,000 InterestPayable (-L) -1,000
InterestExpense (+E, -SE) -5,000
![Page 17: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/17.jpg)
10-17
Notes Payable4. Record principal paid of $100,000 on October 31, 2013.
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -100,000 NotePayable (-L) -100,000
2 Recorddr Note Payable (-L) cr Cash (-A) 100,000
100,000
![Page 18: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/18.jpg)
10-18
Current Portion of Long-Term Debt
Long-Term Debt
Current Portion of Long-term Debt
Noncurrent Portion of Long-term Debt
Borrowers must report in Current Liabilities the portion of long-term debt that is due to be paid within one year.
![Page 19: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/19.jpg)
10-19
Additional Current Liabilities
Sales Tax Payable
Payments collected from customers at time of sale create a liability that is due to the state
government.
Unearned Revenue
Cash received in advance of providing services creates a liability of services due to the
customer .
![Page 20: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/20.jpg)
10-20
Additional Current Liabilities
Best Buy sells a television for $1,000 cash plus 5 percent sales tax.
$1,000 × 5% = $50 sales tax collected
When Best Buy pays the sales tax to the state government, its accountants will reduce Sales Tax Payable (with a debit) and
reduce Cash (with a credit).
2 Recorddr Cash (+A) cr Sales Tax Payable (+L) cr Sales Revenue (+R, +SE)
501,000
1,050
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (+A) +1,050 Sales TaxPayable (+L) +50
SalesRevenue (+R, +SE) +1,000
![Page 21: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/21.jpg)
10-21
Additional LiabilitiesOn May 14th 2010, Live Nation Entertainment (the owner of
Ticketmaster), received $8 million cash for advance ticket sales for two Lady Gaga concerts to be held on February 21 and 22, 2011.
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (+A) +8 UnearnedRevenue (+L) +8
2 Recorddr Cash (+A) cr Unearned Revenue (+L) 8
8
![Page 22: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/22.jpg)
10-22
Additional LiabilitiesWhen the February 21st concert is held, Live Nation Entertainment
can recognize one half of the unearned revenue as earned revenue, as they have fulfilled part of the liability.
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
UnearnedRevenue (-L) -4
ConcertRevenue (+R, +SE) +4
2 Recorddr Unearned Revenue (-L) cr Concert Revenue (+R, +SE) 4
4
![Page 23: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/23.jpg)
10-23
Learning Objective 10-3
Analyze and record bond liability transactions.
![Page 24: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/24.jpg)
10-24
Long-Term Liabilities
Bonds are financial instruments that outline the future payments a company promises to make
in exchange for receiving a sum of money now.
Common Long-Term Liabilities1.Long-term notes payable 2.Deferred income taxes3.Bonds payable
![Page 25: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/25.jpg)
10-25
Bonds
Bond PricingThe bond price involves present value computations and is the amount
that investors are willing to pay on the issue date for the bonds.
Key Elements of a Bond1.Maturity date2.Face value3.Stated interest rate
1212$1,000 × 6% × = $60
Interest Computation
![Page 26: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/26.jpg)
10-26
BondsBalance Sheet Reporting of Bond Liability
Relationships between Interest Rates and Bond Pricing
![Page 27: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/27.jpg)
10-27
Bonds
General Mills receives $100,000 cash in exchange for issuing 100 bonds at their $1,000 face value, so the bonds are issued at
total face value (100 × $1,000 = $100,000).
Bonds Issued at Face Value
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (+A) +100,000 BondsPayable (+L)+100,000
2 Recorddr Cash (+A) cr Bonds Payable (+L) 100,000
100,000
![Page 28: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/28.jpg)
10-28
Bonds
General Mills issues 100 of its $1,000 bonds at a price of 107.26 percent of face value, the company will receive
$107,260 (100 × $1,000 × 1.0726).
Bonds Issued at a Premium
2 Recorddr Cash (+A) cr Bonds Payable (+L) cr Premium on Bonds Payable (+L)
100,0007,260
107,260
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (+A) +107,260 Bonds Payable (+L) +100,000Premium onBonds Payable (+L) +7,260
![Page 29: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/29.jpg)
10-29
$100,000 - $93,376 = $6,624 discount
Bonds
General Mills receives $93,376 for bonds with a total face value of $100,000, the cash-equivalent amount is $93,376, which represents
the liability on that date. These bonds are issued at a discount because the cash received is less than the face value of the bonds.
Bonds Issued at a Discount
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (+A) +93,376 Bonds Payable (+L) +100,000Discount onBonds Payable (+xL,-L)-6,624
2 Recorddr Cash (+A)dr Discount on Bonds Payable (+xL, -L) cr Bonds Payable (+L) 100,000
93,3766,624
![Page 30: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/30.jpg)
10-30
Interest on Bonds Issued at Face ValueGeneral Mills issues bonds on January 1, 2013, at their total face
value of $100,000. The bonds have an annual stated interest rate of 6 percent payable in cash on December 31 of each year, General Mills will need to accrue an expense and liability for interest at the
end of each accounting period. The end of the first accounting period is January 31, 2013.
$100,000 × 6% × 1/12 = $500 interest
2 Recorddr Interest Expense (+E, -SE) cr Interest Payable (+L) 500
500
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Interest Payable (+L) +500 InterestExpense (+E, -SE) -500
![Page 31: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/31.jpg)
10-31
Interest on Bonds Issued at a Premium
Cash proceeds > Face value
Cash proceeds – Face value = Premium
Interest expense < Cash interest paid
Interest expense = Cash interest paid – Premium amortization
![Page 32: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/32.jpg)
10-32
Interest on Bonds Issued at a Discount
Cash proceeds < Face value
Face value – Cash proceeds = Discount
Interest expense > Cash interest paid
Interest expense = Cash interest paid+ Discount amortization
![Page 33: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/33.jpg)
10-33
Bond RetirementGeneral Mills’ bonds were retired with a payment
equal to their $100,000 face value. Let’s analyze and record this transaction.
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -100,000 Bonds Payable (-L) -100,000
2 Recorddr Bonds Payable (-L) cr Cash (-A) 100,000
100,000
![Page 34: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/34.jpg)
10-34
Assume that in 2003, General Mills issued $100,000 of bonds at face value. Ten years later, in 2013, the company retired the bonds early. At the time, the bond price was 102, so General Mills made a payment of $102,000.
Cash Payment $103,000Carrying Value 100,000Loss on Retirement $3,000
Bond RetirementThe early retirement of bonds has three financial effects. The company1. pays cash,2. eliminates the bond liability, and3. reports either a gain or a loss.
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -102,000 Bonds Payable (-L) -100,000 Loss on BondRetirement(+E,-SE) -2,000
2 Recorddr Bonds Payable (-L)dr Loss on Bond Retirement (+E, -SE) cr Cash (-A) 102,000
100,0002,000
![Page 35: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/35.jpg)
10-35
Learning Objective 10-4
Describe how to account for contingent liabilities.
![Page 36: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/36.jpg)
10-36
Contingent Liabilities
Contingent liabilities are potential liabilities that arise from past transactions or events, but their ultimate resolution depends
(is contingent) on a future event.
![Page 37: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/37.jpg)
10-37
Learning Objective 10-5
Calculate and interpret the quick ratio and the times
interest earned ratio.
![Page 38: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/38.jpg)
10-38
Evaluate the ResultsTwo financial ratios are commonly used to assess a
company’s ability to generate resources to pay future amounts owed:
1. Quick ratio2. Times interest earned ratio
Quick Ratio = (Cash + Short-term Investments + Accounts Receivable, Net)Current Liabilities
Times InterestEarned Ratio = (Net Income + Interest Expense + Income Tax Expense)
Interest Expense
![Page 39: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/39.jpg)
10-39
Evaluate the ResultsAt the end of its 2011 fiscal year, General Mills reported $620 million of
cash and cash equivalents, no short-term investments, and $1,162 million of net accounts receivable. The company reported $3,659 million in total
current liabilities.
Quick Ratio = (Cash + Short-term Investments + Accounts Receivable, Net)Current Liabilities
$620 + 0 + 1,1623,659
= 0.487
A quick ratio of 0.487 implies that General Mills would be able to pay only 48.7 percent of its current
liabilities, if forced to pay them immediately. However, not all current liabilities are to be paid immediately.
![Page 40: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/40.jpg)
10-40
Evaluate the Results
In 2011, General Mills reported net income of $1,798 million and interest expense of $346 million, and income tax expense of $721 million. Let’s
calculate the times interest earned for 2011.
$1,798 + $346 + $721$346
= 8.28 times
The ratio means that General Mills generates $8.28 of income (before the costs of financing and taxes) for each dollar of interest expense. Reaching this level of interest coverage was important to General Mills because its long-term debt note reported that loan covenants required a minimum ratio of 2.5.
Times InterestEarned Ratio = (Net Income + Interest Expense + Income Tax Expense)
Interest Expense
![Page 41: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/41.jpg)
McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter 10Supplement 10A
Straight-Line Method of Amortization
![Page 42: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/42.jpg)
10-42
Cash Interest $6,000Amortization of Premium (1,815)Interest Expense $4,185
Bond PremiumBond premium or discount decreases each year, until it is completely
eliminated on the bond’s maturity date. This process is called amortizing the bond premium or discount. The straight-line method of amortization
reduces the premium or discount by an equal amount each period.
Recall our example when General Mills received $107,260 on the issue date (January 1, 2013) but repays only $100,000 at maturity (December 31, 2016). Under the straight-line method, this $7,260 is spread evenly as a reduction in
interest expense over the four years ($7,260 ÷ 4 = $1,815 per year).
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -6,000 Premium onBonds Payable (-L) -1,815
InterestExpense (+E, -SE) -4,185
2 Recorddr Interest Expense (+E, -SE)dr Premium on Bonds Payable (-L) cr Cash (-A) 6,000
4,1851,815
![Page 43: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/43.jpg)
10-43
Bond PremiumAmortization Schedule of Bonds Issued at a Premium
$7,260 ÷ 4 = $1,815
$100,000 × 6% × 12/12 = $6,000
$6,000 - $1,815 = $4,185
$7,260 - $1,815 = $5,445
$107,260 – $1,815 = $105,445
Notice that each of these amounts would plot as a straight-line!
![Page 44: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/44.jpg)
10-44
Cash Interest $6,000Amortization of Discount 1,656Interest Expense $7,656
Bond Discount
Recall our example where General Mills received $93,376 for four-year bonds with a total face value of $100,000, implying a discount of $6,624.
The annual amortization of the discount is $1,656 ($6,624 ÷ 4).
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -6,000 Discount onBonds Payable(-xL,+L)+1,656
InterestExpense (+E, -SE) -7,656
2 Recorddr Interest Expense (+E, -SE) cr Discount on Bonds Payable (-xL, +L) cr Cash (-A)
1,6566,000
7,656
![Page 45: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/45.jpg)
10-45
Bond DiscountAmortization Schedule of Bonds Issued at a Discount
$6,624 ÷ 4 = $1,656
$100,000 × 6% × 12/12 = $6,000
$6,000 + $1,656 = $7,656
$6,624 - $1,656 = $4,968
$93,376 + $1,656 = $95,032
![Page 46: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/46.jpg)
McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter 10Supplement 10B
Effective-Interest Method of Amortization
![Page 47: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/47.jpg)
10-47
Effective Interest AmortizationThe effective-interest method of amortization is considered a conceptually superior method of accounting for bonds because it correctly calculates interest expense by
multiplying the market interest rate times the carrying value of the bonds.
Interest (I) = Principal (P) × Rate (R) × Time (T)Interest Expense = Carrying Value × Market Rate × n/12
$4,290 = $107,260 × 4% × 12/12
When General Mills adds this $7,260 premium to the $100,000 face value, it reports a carrying value of $107,260 ($100,000 + $7,260) on January 1, 2013. The proceeds indicates that the market interest rte was 4 percent.
![Page 48: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/48.jpg)
10-48
Interest (I) = Principal (P) × Rate (R) × Time (T)Interest Expense = Carrying Value × Market Rate × n/12
$4,290 = $107,260 × 4% × 12/12
Cash Interest $ 6,000Effective Interest 4,290Amortization of Premium $1,710
Effective Interest AmortizationGeneral Mills issued 6% stated rate bonds for $107,260. The market rate of interest on these bonds is 4%. The face amount of the bonds, $100,000, results in cash interest is $6,000 ($100,000 × 6%). Let’s
amortize the premium on the bonds at the first interest payment date.
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -6,000 Premium onBonds Payable (-L) -1,710
InterestExpense (+E, -SE) -4,290
2 Recorddr Interest Expense (+E, -SE)dr Premium on Bonds Payable (-L) cr Cash (-A) 6,000
4,2901,710
![Page 49: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/49.jpg)
10-49
Effective Interest Amortization
Effective Interest Amortization of Bonds Issued at a Premium
$107,260 × 4% × 12/12 = $4,290
$100,000 × 6% × 12/12 = $6,000 $107,260 - $1,710 = $105,550
$6,000 - $4,290 = $1,710 $7,260 - $1,710 = $5,550
Interest Expense decreases and Premium Amortizationincreases each period. Cash interest is unchanged.
![Page 50: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/50.jpg)
10-50
Effective Interest Amortization
Interest (I) = Principal (P) × Rate (R) × Time (T)Interest Expense = Carrying Value × Market Rate × n/12
$7,470 = $93,376 × 8% × 12/12
General Mills issued $100,000 face value, 6%, 4-year bonds at a market price to yield investors 8%. The bonds were issued at a discount of $6,624. Let’s determine the effective interest for the first interest payment period.
Cash Interest $ 6,000Effective Interest 7,470Amortization of Discount $ 1,470
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -6,000 Discount onBonds Payable(-xL,+L)+1,470
InterestExpense (+E, -SE) -7,470
2 Recorddr Interest Expense (+E, -SE) cr Discount on Bonds Payable (-L) cr Cash (-A)
1,4706,000
7,470
![Page 51: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/51.jpg)
10-51
Effective Interest Amortization
$93,376 × 8% × 12/12 = $7,470
$100,000 × 6% × 12/12 = $6,000 $93,376 + $1,470 = $94,846
$7,470 - $6,000 = $1,470 $6,624 - $1,470 = $5,154
Effective Interest Amortization of Bonds Issued at a Discount
Both Interest Expense and Discount Amortizationincrease each period. Cash interest is unchanged.
![Page 52: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/52.jpg)
McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter 10Supplement 10C
Simplified Effective-Interest Amortization
![Page 53: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/53.jpg)
10-53
Accounting for Bond Issue.The shortcut method records the bonds at issuance at Bonds Payable, Net. That is face amount less discount or face amount plus premium.
The following journal entries demonstrate how the shortcut is applied tobonds issued at a premium, at face value, and at a discount.
![Page 54: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/54.jpg)
10-54
Bond Premium
Interest (I) = Principal (P) × Rate (R) × Time (T)Interest Expense = Bonds Payable, Net × Market Rate × n/12
Interest Expense $4,290 = $107,260 × 4% × 12/12
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -6,000 BondsPayable, Net (-L) -1,710
InterestExpense (+E, -SE) -4,290
2 Recorddr Interest Expense (+E, -SE)dr Bonds Payable, Net (-L) cr Cash (-A) 6,000
4,2901,710
![Page 55: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/55.jpg)
10-55
Bond Discount
Interest (I) = Principal (P) × Rate (R) × Time (T)Interest Expense = Bonds Payable, Net × Market Rate × n/12
Interest Expense $7,470 = $93,376 × 8% × 12/12
1 AnalyzeLiabilitiesAssets = Stockholders’ Equity+
Cash (-A) -6,000 BondsPayable, Net (+L) -1,470
InterestExpense (+E, -SE) -7,470
2 Recorddr Interest Expense (+E, -SE) cr Bonds Payable, Net (+L) cr Cash (-A)
1,4706,000
7,470
![Page 56: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/56.jpg)
McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter 10Solved Exercises
M10-5, E10-2, E10-3, E10-8, E10-10, PA10-3
![Page 57: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/57.jpg)
10-57
As of December 31,
Current Liabilities: Current Portion of Long-term Debt
Long-term DebtTotal Liabilities
2014
$ 3,000
10,000$ 13,000
2013
$ 2,000
13,000$ 15,000
M10-5 Reporting Current and Noncurrent Portions of Long-Term DebtAssume that on December 1, 2013, your company borrowed $15,000, a portion of which is to be repaid each year on November 30. Specifically, your company will make the following principal payments: 2014, $2,000; 2015, $3,000; 2016, $4,000; and 2017, $6,000. Show how this loan will be reported in the December 31, 2014 and 2013 balance sheets, assuming that principal payments will be made when required.
![Page 58: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/58.jpg)
10-58
E10-2 Recording a Note Payable through Its Time to MaturityMany businesses borrow money during periods of increased business activity to finance inventory and accounts receivable. Target Corporation is one of America’s largest general merchandise retailers.Each Christmas, Target builds up its inventory to meet the needs of Christmas shoppers. A large portion of Christmas sales are on credit. As a result, Target often collects cash from the sales several months after Christmas. Assume that on November 1, 2013, Target borrowed $6 million cash from Metropolitan Bank and signed a promissory note that matures in six months. The interest rate was 8.0 percent payable at maturity. The accounting period ends December 31.Required:1. Give the journal entry to record the note on November 1, 2013.2. Give any adjusting entry required on December 31, 2013.3. Give the journal entry to record payment of the note and interest
on the maturity date, April 30, 2014, assuming that interest has not been recorded since December 31, 2013.
![Page 59: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/59.jpg)
10-59
E10-2 Recording a Note Payable through Its Time to Maturity
November 1, 2013:
Borrowed on 6-month, 8.0%, note payable.
December 31, 2013 (end of the accounting period):
Adjusting entry for 2 months’ accrued interest ($6,000,000 x 8.0% x 2/12 = $80,000).
April 30, 2014 (maturity date):
Paid note plus interest at maturity.
dr Cash (+A) cr Note Payable (+L) 6,000,000
6,000,000
dr Interest Expense (+E, -SE) cr Interest Payable (+L) 80,000
80,000
dr Note Payable (-L)dr Interest Payable (per above) (-L)dr Interest Expense ($6,000,000 x 8.0% x 4/12) (+E, -SE) cr Cash (-A) 6,240,000
6,000,00080,000
160,000
![Page 60: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/60.jpg)
10-60
E10-3 Recording Payroll Costs McLoyd Company completed the salary and wage payroll for March 2013. The payroll provided the following details:
Required:1. Considering both employee and employer payroll taxes, use the
preceding information to calculate the total labor cost for the company.
2. Prepare the journal entry to record the payroll for March, including employee deductions (but excluding employer payroll taxes). Employees were paid in March but amounts withheld were not yet remitted.
3. Prepare the journal entry to record the employer’s FICA taxes and unemployment taxes.
![Page 61: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/61.jpg)
10-61
The total labor cost was $431,380, made up of the $400,000 in gross salaries and wages plus the $28,600 for Employer FICA taxes and $2,780 for unemployment taxes.
Req. 1
Req. 2dr Salaries and Wages Expense (+E, -SE) 400,000 cr Withheld Income Taxes Payable (+L) 37,000 cr FICA Taxes Payable—Employees (+L) 28,600 cr Cash (-A) 334,400Payroll for March including employee deductions.
March 31, 2013Req. 3dr Payroll Tax Expense (+E,-SE) 31,380 cr FICA Taxes Payable—Employer (+L) 28,600 cr Unemployment Taxes Payable (+L) 2,780Employer payroll taxes on March payroll.
March 31, 2013
E10-3 Recording Payroll Costs with Discussion
![Page 62: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/62.jpg)
10-62
E10-8 Preparing Journal Entries to Record Issuance of Bonds at Face Value, Payment of Interest, and Early RetirementOn January 1, 2013, Innovative Solutions, Inc., issued $200,000 in bonds at face value. The bonds have a stated interest rate of 6 percent. The bonds mature in 10 years and pay interest once per year on December 31.Required:1. Prepare the journal entry to record the bond issuance.2. Prepare the journal entry to record the interest payment on
December 31, 2013. Assume no interest has been accrued earlier in the year.
3. Assume the bonds were retired immediately after the first interest payment at a quoted price of 101. Prepare the journal entry to record the early retirement of the bonds.
![Page 63: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/63.jpg)
10-63
Req. 1
Req. 2
Req. 3
dr Cash (+A) 200,000 cr Bonds Payable (+L) 200,000
dr Interest Expense (+E, -SE) 12,000 cr Cash (-A) 12,000
($200,000 x 6% x 12/12) = $12,000
dr Bonds Payable (-L) 200,000dr Loss on Bonds Retired (+E, -SE) 2,000 cr Cash (-A) 202,000
($200,000 x 101%) = $202,000
E10-8 Preparing Journal Entries to Record Issuance of Bonds at Face Value, Payment of Interest, and Early Retirement
![Page 64: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/64.jpg)
10-64
E10-10 Calculating and Interpreting the Quick Ratio and Times Interest Earned RatioAt December 31, 2010, Kraft Foods Inc. reported no short-term investments but did report the following amounts (in millions) in its financial statements:
Required:1. Compute the quick ratio and times interest earned ratio (to two decimal
places) for 2010 and 2009.2. Did Kraft appear to have increased or decreased its ability to pay
current liabilities and future interest obligations as they become due?
![Page 65: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/65.jpg)
10-65
Req. 1
Req. 2
E10-10 Calculating and Interpreting the Quick Ratio and Times Interest Earned Ratio
2010 = = 0.58
$2,481 + $6,539$15,660
2009 = = 0.64
$2,101 + $5,197$11,491
2010 = ($4,114 + $ 2,024 + $1,147) ÷ $2,024 = 3.60
2009 = ($3,021 + $ 1,237 + $1,136) ÷ $1,237 = 4.36
![Page 66: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/66.jpg)
10-66
PA10-3 Recording and Reporting Current LiabilitiesDuring 2013, Lakeview Company completed the following two transactions. The annual accounting period ends December 31.a. On December 31, 2013, calculated the payroll, which indicates gross earnings for
wages ($80,000), payroll deductions for income tax ($8,000), payroll deductions for FICA ($6,000), payroll deductions for American Cancer Society ($3,000), employer contributions for FICA (matching), state unemployment taxes ($500), and federal unemployment taxes ($100). Employees were paid in cash, but these payments and the corresponding payroll deductions and employer taxes have not yet been recorded.
b. Collected rent revenue of $6,000 on December 10, 2013, for office space that Lakeview rented to another business. The rent collected was for 30 days from December 11, 2013, to January 10, 2014, and was credited in full to Unearned Rent Revenue.
Required:1. Give the journal entries to record payroll on December 31, 2013.2. Give ( a ) the journal entry for the collection of rent on December 10, 2013, and ( b )
the adjusting journal entry on December 31, 2013.3. Show how any liabilities related to these items should be reported on the company’s
balance sheet at December 31, 2013.
![Page 67: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/67.jpg)
10-67
Req. 1
Req. 2
dr Wage Expense (+E, -SE) 80,000 cr Withheld Income Tax Payable (+L) 8,000 cr FICA Payable (+L) 6,000 cr American Cancer Society Payable (+L) 3,000 cr Cash (-A) 63,000
dr Payroll Tax Expense (+E, -SE) 6,600 cr FICA Payable (+L) 6,000 cr State Unemployment Tax Payable (+L) 500 cr Federal Unemployment Tax Payable (+L) 100
(a) December 10, 2013:dr Cash (+A) 6,000 cr Unearned Rent Revenue (+L) 6,000Collection of rent revenue for one month.
(b) December 31, 2013:dr Unearned Rent Revenue (-L) 4,000 cr Rent Revenue (+R, +SE) 4,000Earned 20 days of rent and initially recorded all as unearned. Need to reduce unearned revenue for the 20 days and record it as earned revenue (20/30 x $6,000 = $4,000).
PA10-3 Recording and Reporting Current Liabilities
![Page 68: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/68.jpg)
10-68
Req. 3 Balance sheet at December 31, 2013:Current Liabilities: Withheld Income Taxes Payable 8,000 FICA Payable 12,000 American Cancer Society Payable 3,000 State Unemployment Tax Payable 500 Federal Unemployment Tax Payable 100 Unearned Rent Revenue 2,000
PA10-3 Recording and Reporting Current Liabilities
![Page 69: Chapter 10](https://reader035.fdocuments.in/reader035/viewer/2022062310/5681687d550346895ddef26f/html5/thumbnails/69.jpg)
10-69
End of Chapter 10