11
Current Liabilities
Principles of Financial Accounting, 11e
Reeve • Warren • Duchac
1
Describe and illustrate current
liabilities related to accounts
payable, current portion of
long-term debt, and notes
payable.
11-4
11-2
1
Liabilities that are to be paid out of
current assets and are due within a
short time, usually within one year,
are called current liabilities.
• Accounts payable
• Current portion of long-term debt
• Notes payable
11-3
1
Accounts payable arise from
purchasing goods or services for use
in a company’s operations or for
purchasing merchandise for resale.
11-4
1
Exhibit 1
11-5
Accounts Payable as a Percent
of Total Current Liabilities
1
Current Portion of Long-Term Debt
Long-term liabilities are often paid
back in periodic payments, called
installments. Installments that are
due within the coming year must be
classified as a current liability.
11-6
1
The total amount of the
installments due after the
coming year is classified as
a long-term liability.
11-7
1
Short-Term Notes Payable
A firm issues a 90-day, 12% note for $1,000,
dated August 1, 2008 to Murray Co. for a
$1,000 overdue account.
11-8
1
On October 30, when the note matures, the
firm pays the $1,000 principal plus $30
interest ($1,000 × 12% × 90/360).
Interest Expense appears
on the income statement
as an “Other Expense.”
11-9
1
On May 1, Bowden Co. (borrower)
purchased merchandise on account
from Coker Co. (creditor), $10,000,
2/10, n/30. The merchandise cost
Coker Co. $7,500.
11-10
1
Bowden Co. (Borrower)
Description
Debit Credit
Mdse. Inventory
10,000
Accounts Payable
10,000
Coker Co. (Creditor)
Description
Accounts Receivable
Sales
Cost of Mdse. Sold
Mdse. Inventory
11-11
Debit Credit
10,000
10,000
7,500
7,500
1
Bowden Co. (Borrower)
Description
Accounts Payable
Notes Payable
Debit
Credit
10,000
10,000
Coker Co. (Creditor)
Description
On May 31, Bowden
Co. issued a 60-day,
12% note for $10,000
to Coker Co. on
account.
11-12
Debit Credit
Notes Receivable
10,000
Accounts Receivable
10,000
1
Bowden Co. (Borrower)
Description
Debit
Notes Payable
Interest Expense
Cash
10,000
200
Credit
10,200
On July 30, Bowden Co.
paid Coker Co. the
amount due on the note of
May 31. Interest: $10,000
× 12% × 60/360.
11-13
Coker Co. (Creditor)
Description
Debit
Credit
Cash
10,200
Interest Revenue
200
Notes Receivable
10,000
1
On September 19, Iceburg Company issues a
$4,000, 90-day, 15% note to First National Bank.
11-14
1
On the due date of the note (December
18), Iceburg Company owes $4,000 plus
interest of $150 ($4,000 × 15% ×
90/360).
11-15
1
Discounting a Note
A discounted note has the following characteristics:
1. The creditor (lender) requires an interest rate,
called the discount rate.
2. Interest, called the discount, is computed on the
face amount of the note.
3. The debtor (borrower) receives the face amount of
the note less the discount, called the proceeds.
4. The debtor pays the face amount of the note on the
due date.
11-16
1
On August 10, Cary Company issues a $20,000,
90-day note to Rock Company in exchange for
inventory. Rock discounts the note at 15%.
Proceeds
Discount: $20,000 ×
.15 × 90/360
Discount rate
11-17
1
On November 8 the note is paid in full.
The amount paid is the face
amount of the note.
11-18
1
Example Exercise 11-1
Example Exercise 10-2
Proceeds from Notes Payable
On July 1, Bella Salon Company issued a 60-day note
with a face amount of $60,000 to Delilah Hair Product
Company for merchandise inventory.
a. Determine the proceeds of the note, assuming the
note carries an interest rate of 6%.
b. Determine the proceeds of the note, assuming the
note is discounted at 6%.
Follow My Example 11-1
Follow My Example 6-1
a. $60,000
b. $59,400 [$60,000 – ($60,000 × 6% × 60/360)]
11-21
11-19
For Practice: PE 11-1A, PE 11-1B
5
Describe the accounting
treatment for contingent
liabilities and journalize
entries for product
warranties.
11-79
11-20
5
Contingent Liabilities
Some liabilities may arise from past
transactions if certain events occur
in the future. These potential
obligations are called contingent
liabilities.
11-21
5
The accounting for contingent
liabilities depends on the following two
factors:
1. Likelihood of occurring: Probable,
reasonably possible, or remote.
2. Measurement: Estimable or not
estimable.
11-22
5
Recording Contingent Liabilities
During June, a company sells a product for
$60,000 on which there is a 36-month
warranty. Past experience indicates that the
average cost to repair defects is 5% of the
sales price over the warranty period.
11-23
5
If a customer required a $200 part replacement
on August 16, the entry would be:
11-24
5
Example Exercise 11-7
10-2
Estimated Warranty Liability
Cook-Rite Inc. sold $140,000 of kitchen appliances
during August under a 6 month warranty. The cost
to repair defects under the warranty is estimated at
6% of the sales price. On September 11, a
customer required a $200 part replacement, plus
$90 labor under the warranty.
Provide the journal entries for (a) the estimated
warranty expense on August 31 and (b) the
September 11 warranty work.
11-85
11-25
Example Exercise 11-7 (continued)
5
Follow My Example 11-7
a. Product Warranty Expense………………… 8,400
Product Warranty Payable……………..
8,400
To record warranty expense
for August, 6% × $140,000.
b. Product Warranty Payable………………….
Supplies……………………………………
Wages Payable……………………………
Replaced defective part under
warranty.
290
200
90
For Practice: PE 11-7A, PE11-7B
11-86
11-26
5
Quick Ratio
Noble Co.
Quick assets:
Cash
Accounts receivable (net)
Total quick assets
Current liabilities
Quick Ratio =
$147,000
84,000
$231,000
$220,000
Hart Co.
$120,000
472,000
$592,000
$740,000
Quick assets
Current liabilities
The quick ratio or acid-test ratio can be used
to evaluate a firm’s ability to pay its current
liabilities within a short period of time.
11-27
5
Quick Ratio
Noble Co.
Quick assets:
Cash
Accounts receivable (net)
Total quick assets
Current liabilities
Quick Ratio =
Noble Company =
11-28
$147,000
84,000
$231,000
$220,000
Hart Co.
$120,000
472,000
$592,000
$740,000
Quick assets
Current liabilities
$231,000
= 1.05
$220,000
5
Quick Ratio
Noble Co.
Quick assets:
Cash
Accounts receivable (net)
Total quick assets
Current liabilities
Quick Ratio =
Hart Company =
11-29
$147,000
84,000
$231,000
$220,000
Hart Co.
$120,000
472,000
$592,000
$740,000
Quick assets
Current liabilities
$592,000
$740,000
= 0.80