Chapter 13 - Non Financial and Current Liabilities

Question 1

What are liabilities?

Answer 1

Obligations of an enterprise arising from past events or transactions, the settlement of which may result in the transfer of goods, services, or other items that yield economic benefit in the future.

Question 2

What are the three characteristics of a liability?

Answer 2

1. An obligation that arises from a past event or transaction.
2. An obligation cannot be avoided.
3. Settled through financial assets, goods, or services, on a determinable date or on the occurrence of a specified event.

Question 3

T or F: A liability does not have to be legally enforceable.

Answer 3

True

Question 4

When does a liability exist under IFRS?

This is the same as the characteristics of a liability

Answer 4

1. There is an obligation that arises from a past event
2. The obligation is unavoidable
3. The obligation will be settled through the transference of economic resources.

Question 5

What are financial liabilities? What are current liabilities often classified as?

Answer 5

Contractual obligations to deliver cash or other financial assets to another party or to exchange financial instruments, with another party that are potentially favourable. Current liabilities are often classified as financial

Question 6

How do we record financial liabilities initially and as time progresses?

Answer 6

Recorded initially at the fair value when first received, and then at its amortized cost over time.

Question 7

How are transactions costs treated when issuing liabilities initially at fair value and adjusting it through amortized cost overtime?

Answer 7

They are treated as an offsetting debit to the cost of the liability.

Question 8

How are transaction costs treated when issuing liabilities if we treat the liability at fair value after initial recognition.

Answer 8

They are treated as an expense rather than applying it against the liability.

Question 9

What are non financial liabilities? How do we measure them? How does ASPE treat these?

Answer 9

These are liabilities not settled with the terms of the contract. We measure them at the best estimate of the consideration paid when settling the obligation.It is not addressed.

Question 10

What is a current liability under IFRS?

Answer 10

The amount payable within one year from the statement of financial position date or within the normal operating cycle.

Question 11

What is the operating cycle?

Answer 11

The period that elapses between the acquisition of a good and the collection of cash from its sale.

Question 12

How are liabilities held for trading and those that have no right to defer beyond one year treated?

Answer 12

They are treated as a current liability.

Question 13

How do we measure the current liabilities / financial liabilities? How do we record it after the fact.

Answer 13

We measure them at the PV and will amortize the premium or discount arising between the difference in the future value and the present value by applying the effective interest rate method.

Question 14

How do we measure the non financial liabilities?

Answer 14

We measure them at the value of the goods or services that we will provide in the future.

Question 15

What are credit facilities?

Answer 15

Open ended lending contracts with financial institutions allowing companies to borrow funds at certain interest rates, and to pay off the amount borrowed at any time.

Question 16

What is an accrued payable?

What is it supported by? What is it not supported by?

Answer 16

Is a payable not yet supported by an invoice but is supported by other documentation like receiving reports and purchase orders.

Question 17

What are assurance type warranties?

Answer 17

Warranties that companies embed within the price of the product and customers pay nothing extra to receive it.

Question 18

What are service type warranties?

Answer 18

Warranties that companies sell as a separate product.

Question 19

Why do companies sell service type warranties and what services does it provide?

Answer 19

A separate item for additional consideration, providing more than just ensuring that the product will function properly.

Question 20

How do we record service type warranties when we first receive it? How do we de-recognize it overtime? What is this method called?

Answer 20

Record deferred revenue when first receiving it.

Amortize the deferred revenue into warranty revenue over the term of the coverage, and expensing it when warranty coverage must actually be provided. This is called the revenue approach.

Question 21

When does assurance type warranty exist?

How do we record the sales transaction? What is this approach called?

Answer 21

When the seller embeds warranty coverage within the price of the product and payment for that coverage is not optional.

We do not split the sales transaction into two parts of the sale of the product and the deferred revenue for the warranty. Rather we will record the entire value as a sale and ignore the warranty at this time. This is called the expense approach.

Question 22

How do we use the expenses approach initially?

Answer 22

We will estimate the expense based on the percentage of sales covered by the warranty and record it in the same period as the related sale arose, even if the payment for the expense occurs later.

Question 23

What is the journal entry created to estimate the warranty? What is the key difference between the assurance and service type warranties?

Answer 23

We will create an adjusting entry to set up a warranties expense (debit) and a warranties payable (Credit). The assurance type warranties has no deferred revenues and warranty revenues that will be recognized.

Question 24

How do we record the reduction in the assurance warranty?

Answer 24

We will debit the liability brining it down in value and we will credit the cash as we had to pay to make the warranty.

Question 25

How do we estimate warranty expense under IFRS vs ASPE? Is there really a difference?

Answer 25

Under IFRS we assess whether it is probable that it will occur. Under ASPE we just apply an estimate. Realistically there is no difference between IFRS and ASPE>

Question 26

When is it acceptable to use a cash basis of accounting for assurance warranties?

Answer 26

It is acceptable for tax purposes. Typically we only use this if the difference between the cash basis and the assurance type approach are not material.

Question 27

When is recording sales returns when it occurs acceptable?

Answer 27

It is only acceptable if the returns are immaterial.

Question 28

How are sales returns recorded under ASPE. 1. Estimating Process 2. When recording the estimate sales returns process. 3. When a sales returns occurs

Answer 28

1. Accrue an estimate for sales returns in an adjusting entry at the end of the period. 2. DR - Sales Returns CR - Allowance for Sales Returns 3. DR - Allowance for Sales Returns CR - Cash / Accounts Receivable.

Question 29

How are sales returns recorded under IFRS?

Answer 29

If the right of return is material, the company will estimate the return and record the estimated return at the time of the sale.

Question 30

What is the first step in estimating sales returns under IFRS? What happens when this occurs? What does this ensure?

Answer 30

Record a refund liability at the point of the sale equal to the price of the product estimated to be returned. When setting up this liability, it will reduce sales by the same amount. This ensures that the company does not record a sale for products that customers are likely to return.

Question 31

What is the second step in estimating sales returns under IFRS. What happens when this occurs?

Answer 31

When we record the refund liability this is based on the price of the items that will likely be returned to us. Therefore, we will record an asset called estimated inventory returns which is based on the cost of the items and it is a contra account to the COGS ensuring that similar to sales we do not de-recognize more than we should.

Question 32

What is the last step in estimating sales returns under IFRS when the customer returns the product?

Answer 32

1. DR - Refund Liability CR - Cash / Accounts Receivable 2. DR - Inventory CR - Estimated Inventory Returns.

Question 33

When are contingent losses recorded under ASPE?

Answer 33

1. It is likely (more than 75%) that there is an issue at the date of the financial statement though available information. 2. We can estimate the amount of the loss.

Question 34

When do we record contingent liability notes and not a contingent loss under ASPE?

Answer 34

1. It is likely but not measurable 2. It is likely and it has been accrued but it is likely to change. 3. It is not determinable as to whether it will actually occur or not.

Question 35

When do we record a provision under IFRS?

Answer 35

1. It is probable (more than 50%) that we will have to settle the obligation through outflow of resources. 2. We have a present obligation that arose from a past event. 3. We can make a reliable estimate of the obligation.

Question 36

How do we determine if there is a present obligation? What do we do if there is? If there is not?

Answer 36

We look at all information that is available to us, and determine if it is more likely than not (50%) that a present obligation does exist. If there is we record a provision if it can be measured. If there is not we put a contingent liability note. If the probability is remote then we do nothing.

Question 37

What are the three situations when we disclose a contingent liability under IFRS?

Answer 37

1. There is a present obligation that we cannot measure. 2. There is no possible or present obligation, we do nothing. 3. Cash outflow is remote than we do nothing.

Question 38

How do we estimate and disclose contingent losses under ASPE?

Answer 38

Based on a range of values we will record the lowest possible value in the range as the contingent loss, and we will create a note about all the possible ranges that it could be.

Question 39

How do we estimate and disclose the provision value under IFRS?

Answer 39

Based on the range of values, we will take a weighted average, which is often the mid point. From the mid point we will record the journal entry, but then we must disclose in the notes the difference between the average value and the highest possible number.

Question 40

How do we treat changes in the contingent gains under ASPE?

Answer 40

For contingent gains under ASPE we will never accrue it, but if it is likely that we place it as a note to the financial statements. However once that future event occurs it can be recognized, as we record it as realized.

Question 41

How do we treat changes in contingent gains under IFRS?

Answer 41

It follows similar principles to ASPE, except that if it is extremely probable that it will be recovered, it will be a contingent gain.

Question 42

What are the three situations when a current liability would instead be classified as a long term liability?

Answer 42

1. If the current liability is paid off with non-current assets. 2. If the current liability is paid off with equity, or converts the debt to the equity. 3. If the current liability is paid off with other new debt.

Question 43

What must be present under the payment of debt through new debt to classify a liability as non current? When does this need to be done under ASPE vs IFRS?

Answer 43

There must be a non-cancellable agreement for the refinancing that extends beyond one year or operating cycle. Under ASPE it must be done in time before the board approves the financial statements. Under IFRS it must be done by the statement of financial position date.

Question 44

Describe the treatment of customer loyalty programs?

Answer 44

A company will provide a product or service and some other material right in these situations. In this case, we must record the revenue from the sale of the product and the contract liability (IFRS) / deferred revenue (ASPE) or a specifically named liability to ensure based on the value of fulfilling it. When it is redeemed we record the revenue and the cost of the reward.

Question 45

What are premiums? What is the difference between a premium and a rebate?

Answer 45

Incentives are offered as a reward for purchasing products in the past or as a promotion to increase future sales. A premium is a good or service, whereas a rebate is a cash payment.

Question 46

What is the treatment of the premium/rebate under IFRS when recording initially? What is the treatment when we provide the reward? Which approach is this?

Answer 46

We record the liability at the point of sale, reducing the sale by the amount estimated as deferred revenue. We allocate the deferred revenue to revenue, and record any expenses incurred through the process. This is the revenue approach.

Question 47

What is the treatment of premium / rebate under ASPE? Which approach is this?

Answer 47

We do not create a liability at the point of sale; rather, we record the sale and related COGS. However, at the end of the period, we record an expense equal to the cost of any outstanding offers along with a liability based on the probability of redemption. This is the expense approach, as ASPE does not provide any specific details.

Question 48

How do we deal with situations where the premium is given without a revenue transaction?

Answer 48

We treat it under the expenses approach and record it based on the cost of the outstanding offer estimated as a percentage of redemption.

Question 49

Describe the treatment of the financial guarantees. | Disclosure rules and when the guarantor will record a liability

Answer 49

Companies will disclose the nature of the guarantee regardless of the likelihood of the lender enforcing it. The party that provides the guarantee will only record a liability if the guaranteed party fails to settle their financial obligations.

Question 50

What is a commitment? | What is recorded and what is disclosed?

Answer 50

An agreement that requires a company to have a transaction at some point in the future. We do not record unless there is a loss under an onerous contract, as there is no obligating event.

Question 51

Describe the self insurance risks? | Is estimation necessary and do we disclose this information?

Answer 51

This is a situation where a company will choose not to buy insurance as they believe that there is very little chance that an issue will happen. Since this is the case the estimate for any damages should not occur unless it happens. However they must disclose the self insurance risks.

Question 52

What industry allows the disclosure of current assets with current liabilities? What is the most common way to present current liabilities? How are the pledged collateral treated?

Answer 52

The real estate industry. On the right-hand side of the statement of financial position on the top, listed in order of maturity, but reverse order is permitted under IFRS. Disclosed as notes to the financial statement.

Question 53

How do we present contingencies? What is relevant information we should state regarding it?

Answer 53

We present contingencies into the notes to the financial statement, describing it, how we estimated it, or why we could not estimate it.

Question 54

What is the current ratio? What value should the ratio be and how is it used for loans?

Answer 54

The measurement of liquidity is by measuring if a company has enough current assets to pay off its current liabilities, typically the ratio should be positive and used in loan covenants.

Question 55

What is the right number to have for a current ratio? What happens if it is too high or too low?

Answer 55

It depends on the nature of the business in which it operates. If it is too high, they are not investing enough in long-term assets. If it is too low, then they may not be able to fulfill their current liabilities.

Question 56

What is the current ratio formula?

Answer 56

Current Assets / Current Liabilities

Question 57

What is the acid test ratio?

Answer 57

The acid test ratio is an adjustment of the current ratio. It eliminates inventory and prepaid from the numerator. Since if the company experiences a downturn in the business, there will be more inventory and higher accounts receivable thus making one assume that the business has improved when in fact it has not.

Question 58

What is the acid test ratio formula?

Answer 58

Cash + Marketable Securities+ Net Accounts Receivable / Current Liabilities

Question 59

What is the days payable outstanding ratio? What is the formula?

Answer 59

Measures the amount of time it takes to pay trade accounts payable. Average trade accounts payable/average daily COGS.

Question 60

What are rents and royalties payable? What is an example?

Answer 60

Liabilities based on sales. If rent is 1% of sales, rent is accrued as soon as the sales amount is determined.

Question 61

Describe the treatment of customer advances and deposits. Why are they treated as current.

Answer 61

We treat them as a liability when we receive the advance or deposit, and we reduce the liability when we provide the good or service or when we return the funds received for deposits. These are classified as current as they are expected to be settled within a year or one operating cycle.

Question 62

Describe the treatment of the sales tax of provincial governments sales tax. How do we treat these taxes?

Answer 62

If there is a PST it is classified as non-refundable. They are added to the cost of the item purchased. These are current liability as they are to be settled typically within one year.

Question 63

How is GST treated when we are the seller vs when we are the buyer? What happens at the end of the year.

Answer 63

When we are the seller, it is a liability that must be paid to the government. When we are the buyer, it is a receivable from the government not a component of the asset purchased or the expense incurred. We will net the receivable to the payable to determine if we get or pay cash.

Question 64

How are income taxes recorded?

Answer 64

We accrue the income tax payable monthly based on estimates, and reduce the balance when making installment payments.

Question 65

What are the two ways to record income taxes for small business and large businesses?

Answer 65

1. Through instalments in the year, we will debit income tax payable and credit the cash. However, by the year-end we will record an accrual to increase the expense and increase the payable to make it balance to zero. 2. Through the instalment dates, we will debit the expense and credit the cash.

Question 66

What are decommissioning and restoration obligations?

Answer 66

When a company retires a nuclear power plant or an oil well, some costs are required to be paid and thus a liability must be created known as a decommissioning provision (IFRS) or an asset retirement obligation (ASPE). The offsetting debit is the related asset or an asset retirement cost.

Question 67

What do we do when we acquire an asset that has applicable ARO?

Answer 67

We need to perform a PV calculation of the asset retirement obligation or the expected future cost to clean up.

Question 68

How does the calculations change if the ARO increases due to the usage of an asset rather than acquisition under IFRS and ASPE?

Answer 68

Under IFRS, we record an increase in production costs only under IFRS by debiting the inventory and/or COGS depending on what is sold or in inventory and credit the decommissioning provision. Under ASPE we record an increase in production costs by debiting the asset and crediting the asset retirement obligation.

Question 69

What is the difference in costs included in the ARO under IFRS vs ASPE.

Answer 69

Under IFRS it includes both the constructive obligation costs and the legally binding costs. Under ASPE we only care about the legally binding costs.

Question 70

What do we do with the ARO overtime?

Answer 70

We will record amortization or depreciation on the asset over time. We will debit the interest expense (IFRS) or accretion (ASPE) and credit the asset retirement obligation.

Question 71

What happens if we need to revalue the ARO?

Answer 71

We apply a prospective basis, making the changes moving forward,

Question 72

Is an ARO short or long-term? What can happen when we settle it? What does year-end disclosure notes require?

Answer 72

It is long-term in nature. When we settle it, it can have a gain or loss. Assumptions made to value the obligation and movements in its value. In addition too if any creditors restricted the use of the assets for the settlement of a liability.

Question 73

What event triggers the recognition of a dividend payable? What is the classification for dividends payable?

Answer 73

Declaration by the board of directors. Current liabilities as it falls between the date of the declaration and actual date of payment which is quite short.

Question 74

What are arrears?

Answer 74

Dividends on preferred shares that have a cumulative dividend feature. The shareholders will receive a stated dividend even if the board does not declare a dividend. The difference between the stated dividend and the dividend decleared is the dividend in arrears.

Question 75

Are dividends in arrears an obligating event.

Answer 75

No they are not an obligating event as they have not been declared, thus they are disclosed only

Question 76

How do we record declared stock dividends not yet distributed?

Answer 76

They are treated as equity and not a liability as they are not an obligation settled with cash or a financial resource.

Question 77

When are property taxes typically paid? What happens prior to the receiving of the assessment?

Answer 77

They are typically paid annually, in the middle of the year, when the property tax assessment arrives. There will be a monthly accrual of income taxes based on an estimate.

Question 78

How do we record a property tax accrual up to the point of the tax assessment? How do we record the entry for property taxes on the date of the assessment? How do we record the entry for property taxes after the date of the assessment? How do changes in property taxes play out?

Answer 78

We will debit property tax expense and credit property tax payable based on the estimate we made for the amount that will need to be paid. Based on the accrual we will de-recognize the payable accrued up to the point, set up a prepaid property tax debit, and credit the cash. Based on the prepaid amount set up, it will be de-recognized over the remaining time Tthey are adjusted on a prospective basis.

Question 79

What must employers do under payroll deductions for the CPP and EI.

Answer 79

They must match the CPP contributions of the employee. In addition, they must provide 1.4 times the contribution for EI. Both employers and employees must fund these.

Question 80

What other items must be deducted from a payroll?

Answer 80

Income tax withholdings, union dues, health care costs, group insurance, and social club dues.

Question 81

What are short-term compensated absences?

Answer 81

These are liabilities that are recorded when paid leave for employees occurs and they have a vested right. These can be accumulated over time like vacation pay or at a specific point in time like maternity leave.

Question 82

What is an accumulated right? When are these recorded?

Answer 82

Vested right carries over into the subsequent accounting periods and often increases overtime. They are recorded when they have the right to receive this compensation even if we pay out the compensation later.

Question 83

What is the typically the last entry recorded in an accounting period for employee benefits and why. Why are these classified as current liabilities?

Answer 83

Bonuses and profit sharing as they are a percentage of income before the bonus. They are classified as such for income tax purposes, as they will typically be paid out within a 6 month following year end.

Question 84

What is the exception to the IFRS refinancing criteria regarding the need to have a non-cancellable agreement by the statement of financial position date?

Answer 84

If the company expects to refinance it or roll it over under another existing agreement for at least 12 months and at tthe discretion of the firm.

Question 85

Describe notes payable | Describe the term and the stated interest rate

Answer 85

They can be long-term or short-term. They can bear interest (having a stated rate market rate different) or not bear interest (having no stated rate) creating a discount

Question 86

What is a common way to record purchase discounts?

Answer 86

Typically firms use the gross method but the net method is also acceptable

Question 87

What is a contingency?

Answer 87

It ia an existing condition or situation involving g uncertainty as to possible gains or losses to an enterprise that will ultimately arise when one or more future events occur or fail to occur.