QUESTIONS
1. Distinguish between a current liability and a long-term debt.
2. Assume that your friend Will Morris, who is a music major, asks you to define and discuss the nature of a liability. Assist him by preparing a definition of a liability and by explaining to him what you believe are the elements or factors inherent in the concept of a liability.
3. Why is the liabilities section of the balance sheet of primary significance to bankers?
4. How are current liabilities related by definition to current assets? How are current liabilities related to a company’s operating cycle?
5. Leon Wight, a newly hired loan analyst, is examining the current liabilities of a corporate loan applicant. He observes that unearned revenues have declined in the current year compared to the prior year. Is this a positive indicator about the client’s liquidity? Explain.
6. How is present value related to the concept of a liability?
7. What is the nature of a “discount” on notes payable?
8. How should a debt callable by the creditor be reported in the debtor’s financial statements?
9. Discuss the accounting treatment or disclosure that should be accorded a declared but unpaid cash dividend, an accumulated but undeclared dividend on cumulative preferred stock, and a stock dividend distributable.
10. How does unearned revenue arise? Why can it be classified properly as a current liability? Give several examples of business activities that result in unearned revenues.
11. What are compensated absences?
12. Under what conditions must an employer accrue a liability for the cost of compensated absences?
13. Under what conditions is an employer required to accrue a liability for sick pay? Under what conditions is an employer permitted but not required to accrue a liability for sick pay?
14. Faith Battle operates a health food store, and she has been the only employee. Her business is growing, and she is considering hiring some additional staff to help her in the store.
Explain to her the various payroll deductions that she will have to account for, including their potential impact on her financial statements, if she hires additional staff.
15. Under what conditions should a short-term obligation be excluded from current liabilities?
16. What evidence is necessary to demonstrate the ability to consummate the refinancing of short-term debt?
17. Define (a) a contingency and (b) a contingent liability.
18. Under what conditions should a contingent liability be recorded?
19. Distinguish between a determinable current liability and a contingent liability. Give two examples of each type.
20. How are the terms “probable,” “reasonably possible,” and “remote” related to contingent liabilities?
21. Grant Company has had a record-breaking year in terms of growth in sales and profitability. However, market research indicates that it will experience operating losses in two of its major businesses next year. The controller has proposed that the company record a provision for these future losses this year, since it can afford to take the charge and still show good results. Advise the controller on the appropriateness of this charge.
22. Explain the accounting for an assurance-type warranty.
23. Explain the accounting for a service-type warranty.
24. Southeast Airlines Inc. awards members of its Flightline program a second ticket at half price, valid for 2 years anywhere on its flight system, when a full-price ticket is purchased. How would you account for the full-fare and half-fare tickets?
25. Pacific Airlines Co. awards members of its Frequent Fliers
Club one free round-trip ticket, anywhere on its flight system, for every 50,000 miles flown on its planes. How would you account for the free ticket award?
26. When must a company recognize an asset retirement obligation?
27. Should a liability be recorded for risk of loss due to lack of insurance coverage? Discuss.
28. What factors must be considered in determining whether or not to record a liability for pending litigation? For threatened litigation?
29. Within the current liabilities section, how do you believe the accounts should be listed? Defend your position.
30. How does the acid-test ratio differ from the current ratio?
How are they similar?
31. When should liabilities for each of the following items be recorded on the books of an ordinary business corporation?
(a) Acquisition of goods by purchase on credit.
(b) Officers’ salaries.
(c) Special bonus to employees.
(d) Dividends.
(e) Purchase commitments.
