chapter 10

Question 1

what are current liabilities

Answer 1

are present obligations to transfer future economic resources because of past transactions

Question 2

what are financial liabilities

Answer 2

A form of financial instrument, represented by a contractual obligation to pay cash in the future

Question 3

how are liabilities be reported if they are current

Answer 3

if they are paid or settled within one year from the date on the statement of financial position

Question 4

how are liabilities settled

Answer 4

with cash payments, these are referred to as financial liabilities.

Question 5

what are some common current liabilities

Answer 5

accounts payable, refund liability, taxes payable, deferred revenue.

Question 6

what are the different sales taxes?

Answer 6

Quebec: federal and provincial sales tax (GST + QST)
Ontario and Atlantic provinces: harmonized sales tax (HST)
Other provinces: federal (GST) and provincial sales tax (PST)

Question 7

who pays sales taxes

Answer 7

person who buys the final product

Question 8

companies that provide services or sell goods have to what

Answer 8

pax sales taxes

Question 9

To account for sales tax collected from customers, companies will use

Answer 9

sales tax payable

Question 10

how to calculate sales revenue

Answer 10

Total Receipts / (1 + Tax Rate)

Question 11

wages vs salaries

Answer 11

Wages are based on an hourly rate or amount, while salaries are fixed annual amounts and do not typically provide for overtime pay

Question 12

how is an employees gross pay calculated

Answer 12

will be their total salaries or wages earned.

Question 13

what us the amount that employees actually pay

Answer 13

their net pay (withholding certain amounts from their gross pay)

Question 14

Mandatory payroll deductions

Answer 14

federal and provincial income taxes, Canadian Pension Plan (CPP) contributions and Employment Insurance (EI) contributions.

Question 15

Voluntary payroll deductions

Answer 15

health plans, union dues, charitable donations and others (depends on the company).

Question 16

On top of the contributions withheld from employee pay, employers are required to make their own

Answer 16

contributions to CPP and EI (and sometimes to health and pension plans).

Question 17

The employer’s CPP contribution is equal to

Answer 17

the employee’s contribution

Question 18

The employer’s EI contribution is

Answer 18

1.4 times the amount contributed by the employee.

Question 19

these contributions are accounted as what

Answer 19

employee benefits expense.

Question 20

liabilities can be either

Answer 20

certain or uncertain

Question 21

what are certain liabilities

Answer 21

Certain liabilities are those with known payees, amounts and dates, such as salaries and sales tax payable we just discussed.

Question 22

what are uncertain liabitlies

Answer 22

are those that are uncertain in timing, payee or amount. Uncertain liabilities can be either provisions or contingent liabilities.

Question 23

what are provisions

Answer 23

Liabilities of uncertain timing or amount. They are recorded in the accounts based on reasonable and probable estimates.

Question 24

Provisions are uncertain as to timing or amount and are recorded as a liability when:

Answer 24

Present obligation exists
Outflow of resources to settle that obligation is probable or likely
Amount can be estimated reliably

Question 25

examples of common provisions

Answer 25

Product warranties that are included in the price of the product (ex. guarantee against defects)
Damages from lawsuits
Fines from regulator bodies

Question 26

when does a company not record a provision

Answer 26

if the outcome is not probable or not determinable or an estimate of the outcome cannot be made. in the notes to the financial statements

Question 27

what are contigent liabilities

Answer 27

Existing or possible obligations arising from past events. The liability is contingent (dependent) on whether some uncertain future event occurs that will confirm either its existence or the amount payable, or both

Question 28

when do you not disclose a contingent liability

Answer 28

If the possibility of an outflow of resources (settlement through payment) is remote, a company will not need to disclose a contingent liability.

Question 29

When a company borrows money from a creditor for more than a short period of time, they will be charged what

Answer 29

interest

Question 30

what is the principal

Answer 30

The original amount borrowed

Question 31

how is interest payable

Answer 31

In addition to paying off the principal, interest is also payable on the principal amount outstanding.

Question 32

how can interest be paid

Answer 32

Interest may be paid on a single due date when the principal is due, or interest may be paid on various dates before the principal is due.

Question 33

Common types of interest-bearing liabilities include the following:

Answer 33

Operating lines of credit that allow a company to borrow up to a preauthorized limit whenever required
Notes with a single principal payment on maturity
Loans that require instalment payments of principal and interest on scheduled dates

Question 34

what is an operating line

Answer 34

A pre-arranged agreement to borrow money at a bank, up to an agreed-upon amoun

Question 35

what does an operating line of credit allow

Answer 35

a company to borrow up to the preauthorized limit whenever required.

Question 36

how are companies required to pay interestfor operating lines

Answer 36

at a floating interest rate – this means the interest rate will vary over time in relation to the bank’s prime rate

Question 37

when is a line of credit normally used

Answer 37

used when the bank account balance becomes negative, so will be reported as a current liability called bank indebtedness

Question 38

It is not uncommon for banks to establish

Answer 38

debt covenants or collateral when negotiating lines of credit.

Question 39

how does a notes payable bear interest

Answer 39

a fixed interest rate, which is constant for the entire term of the note.

Question 40

interest expense is accrued over time so

Answer 40

is often recorded as an adjusting entry. The interest rates provided in questions will always be yearly

Question 41

Liabilities with instalment payments include

Answer 41

bank loans payable and mortgages payable (type of bank loan secured by land/buildings).

Question 42

advantages of debt financing

Answer 42

Normally easier to obtain than equity financing and avoids the dilution of ownership that comes with issuing shares.
Borrowing may allow companies to grow faster (and potentially be more competitive).
A company will be required to pay interest but the “silver lining” is that this interest is deductible for tax purposes.

Question 43

disadvantages of debt financing

Answer 43

Companies are required to pay back principal and interest on specified due dates. Equity financing does not require any repayment.
There is a risk that interest payments will increase in the future if interest rates rise and the rate is floating.
A company may be required to pledge security to obtain debt financing (such as land or buildings).

Question 44

how are current liabilities presented

Answer 44

liabilities are reported as the first category of liabilities.
Can be listed separately on statement of financial position or detailed in the notes
Normally listed in order in which they are due

Question 45

how are non current liabilities presented

Answer 45

are typically presented immediately following current liabilities and detail in notes. They will generally be measured and reported at amount expected to be paid when due

Question 46

what is analyzing debt

Answer 46

will include an analysis of liquidity (a company’s ability to pay maturing obligations and meet unexpected cash needs within the year year) and solvency (ability to meet long term obligations)

Question 47

what are liquidity ratios

Answer 47

ratios include the current ratio, inventory turnover and receivables turnover – all covered in earlier chapters.

Question 48

what are solvency ratios

Answer 48

include debt to total assets and times interest earned. Both will be reviewed here.

Question 49

what does the debt to total assets measure

Answer 49

measures the proportion of financing provided by creditors as a percentage of assets.
The higher the ratio, the higher the risk that the company may not be able to pay interest + debts coming due.

Question 50

what does the solvency times interest earned

Answer 50

This provides an indication of a company’s ability to meet interest payments as they come due.
Calculated as: (Net income + Interest expense + Income tax expense) ÷ Interest expense
Higher will be better as it will indicate a company has more earnings as compared to their interest expense. Higher will also mean that there is less risk of not being able to meet interest obligations.

Question 51

what are credit rating agencies

Answer 51

) will assess a company and provide opinions about a company’s ability to make timely payments on short and loan term debt.

Question 52

how is short term debt rated

Answer 52

rated using an R scale, with R-1 being the highest quality and R-5 meaning high risk.

Question 53

how is long term debt rated

Answer 53

using a different scale with AAA being the highest quality and D being speculative.