Instructor Notes

INSTRUCTOR NOTES

Intermediate Financial Accounting II

ACG 3111 - D001

Summer 1997

Marilyn T. Zarzeski

University of Central Florida

BA 466 -- Orlando Campus

823-2150

LIABILITIES--Chapters 13 & 14

 Cash

A.Defn of LIABILITY: probable future sacrifice of economic benefits arising from

present obligations to transfer assets

Un. Rev.

 Revenue

to provide services as a result of past transactions or events

Debt Ratio =Average Liab. (varies per industry)

Total Assets

Defn of CURRENT LIABILITY: obligations that are expected to require use of CA or the creation of CL or rendering of a service, within one year or the operating cycle, whichever is more.

Current Ratio =_Current Assets (CA) _

Current Liabilities (CL)

Working Capital = CA - CL

Since difference between FACE VALUE OF CL and PRESENT VALUE OF CL is usually immaterial, record FACE VALUE on Balance Sheet.

Economic Issues: IF CL are understated, the ratios look better! Therefore, auditors search for UNRECORDED LIABILITIES.

~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

CURRENT LIABILITIES

Effect of Transactions

Exercise 13-16

TIP:Analyze Change in NI first; then analyze Balance Sheet Changes.

1.Inventory 75,000 (A)

AP75,000 (L)

2.AP75,000

Disc. on NP 5,000

NP80,000

3.Interest expense(E)

Interest payable(L)

4.Cash100,000(A)

Discount on NP 10,000 (L)

Note Payable110,000

5.Int. expense(E)

Discount on NP(Contra L)

6.Cash74,500( A )

Sales70,283( R )

Sales Tax Payable 4,217( L )

7.Wage Expense35,000( E )

Cash25,000( A )

Payables10,000( L )

8.,9,&10. Exp.

Pay

12.Est. Loss

Est. Liab.

13.Est. Exp.

Est. Pay

14.Est. Pay

Cash

(15, 16, & 17 go together)

15.Cash( A )

Sales( R )

Un. Rev. (warranties)( L )

16.W. Exp.( E )

Cash( A )

17.Un. Rev. (Warr.)( L )

Rev( R )

18.Est. Exp.( E )

Est. Liab.( L )

Compensated Absences

Solution to Ex. 13-5

1994 (in days)1994 (in dollars)

VacationSickVacationSick

Earned+10+6Earned $4,320  $2,592 Exp.

Payable

Used/Taken- 0 -4 Used/Taken 1,728 Payable

End of Year10 days 2 days Cash

Rate = $6.00/hr.

Example: 10 days x ($6.00 x 8 hrs.) x 9 workers = $4,320$48/day

FIFO

1995(in days)1995 (in dollars)

VacationSickVacationSick

Beg. Bal.10 x $6 2 x $6Earned$5,040$3,024Exp.

Payable

Earned+10 x $7+6 x $7Taken 3,8881 2,3762Payable

Cash

Taken- 9 -5 7923Exp.

Cash

Ending Ba. 11 3

Rate = $7.001 9 days x ($6.00x 8 hrs.) x 9 workers = $3,888

2 2 days x $6.00 x 8 hrs x 9 workers= 864

3 days x $7.00 x 8 hrs. x 9 workers= 1,512

2 2,376

3 9 days x $1.00 x 8 hrs. x 9 workers= 648

2 days x $1.00 x 8 hrs. x 9 workers= 144

(due to increased wages) 3 792

acg3111z.DOC

SHORT-TERM OBLIGATIONS EXPECTED TO BE REFINANCED

1994 1995

Balance SheetActualIssuance

DateRefinancingof Financial

Statements

Situation A

12/31/942/4/953/18/95

$40,000STNP40,000$40,000 is now LTNP

STNP LTNP40,000on 12/31/94 financials

Balance SheetRefinancing AgreementIssuance

Datesigned...for LTNP of $100,000of Fin. Stmts.

Situation B

12/31/94INTENT: to use $40,000 to pay off the STNP $40,000 is now LTNP

$40,000No G/L Entryon 12/31/94 financials

STNP

Balance SheetIssued C.Stk for $30,000Issuance of

DateFinancial Stmts

Situation C 12/31/94 Cash $30,000 $10,000 is STNP

$40,000 C. Stk.10,000$30,000 is LTNP

STNP Paid in Capital20,000

INTENT: to use the $30,000 to pay part of the STNP

STNP = Short-term Note Payable

acg3111z.DOC

SUMMARY OF ACCOUNTING FOR CONTINGENCIES

LOSS CONTINGENCY

Can Reasonably EstimateCannot Reasonably Estimate

Probable / 1. Record both a loss and a liability, and report them in the body of the statements / 2. Do not accrue; report as a note
in the financial statements
Reasonably
possible / 3. Do not accrue; report as a note
in the financial statements / 4. Do not accrue; report as a note
in the financial statements
Remote / 5. No accrual or note required;
however, a note is permitted / 6. No accrual or note required;
however, a note is permitted

GAIN CONTINGENCY

Can Reasonably EstimateCannot Reasonably Estimate

Probable / 7. No accrual except in unusual
circumstances. Note disclosure
required / 8. If disclosure is made, exercise
care to avoid misleading in-
ferences
Reasonably
possible / 9. If disclosure is made, exercise
care to avoid misleading in-
ferences / 10. If disclosure is made, exercise
care to avoid misleading
inferences
Remote / 11. Disclosurenot recommended

acg3111z.DOC

Contingent Liab.cannot usually be measured precisely and payment is dependent upon on future event.





Determinable CL’sare precisely measured and reasonably certain as to date of payment.

Accounts Payable open accounts with suppliers; normally not subject to specific, formal contracts.

 Loans (S.T.)

·Short-Term Debts Commercial Paper (co.-to-co. note)

 Line of Credit (in footnotes)

 Current Portion of Debt

Dividends Payable

- On Declaration Date, an obligation arises

- On Payment Date, obligation is paid

Unearned



Deferred Revenues  receipts of cash in advance of us giving the service

Returnable Deposits  provision to pay possible future obligations in event of damage or to repay customer at end of contract e.g., Lease commitments.

Third-Party Collections  co. holds cash to be sent to government

e.g., Sales Tax and Federal Payroll Taxes

Accumulated

 Determinable  e.g., interest

Accrued Liabilities 



Conditional  e.g., bonus, income taxes

LONG-TERM NOTES AND BONDS

A.Sources of Financing (Funds): bank

1.Notes Payable  obligations evidenced by formal promissory notes another co.

2.Bonds Payable  obligation to a large no. of creditors, via SEC guidelines

3.Leasehold  obligation to a lessor; must pay future rent to occupy or to use someone else’s property

Terms of Above Financing:

 Principal Security Provisions, e.g., collateral

 Interest Ratio Limits

 Time to Maturity Sinking Funds

B.Economic Consequences of LTL:

Effect on fin. ratios and credit rating

Obligation to meet debt covenants (restrictions, etc.) and thereby cause limits on management’s operating activities, including dividend payments

Mgmt has incentives to manage their debt wisely so they can obtain more when needed.

Potential manipulation by mgtmt

a) “take a bath” in bad years and thereby look better in future years OR

b) “smooth income over” this good year and next ones so that no one year is really bad

C.Difference between STATED RATE AND EFFECTIVE RATE

Note:the calculation of Present Value is less subjective with the LTLs because

princterms of the agreement are used in the calculation OBJECTIVITY int. achieved

term

All LTLs must be valued on Bal. Sheet at Present Value.

These maySTATED RATE  typed on the agreement

or may (S.R.)Prin. x S.R. x Time = CASH Interest

not be 

equalEFFECTIVE RATE actual interest rate paid by the borrower

(E.R.)

If there is a difference between S.R. and E.R., then a discount or premium arises.



these are like “holdingaccounts” for interest

ALWAYS go into the PV tables at the E.R.!

D.Effective-Interest Method

 calculates the PV of the debt via the effective rate

 calculates the INTEREST EXPENSE via the effective rate

(Effective rate is what the borrower is really paying over the term of the debt.)

 Interest Expense = C.V. x E.R. x Time

C.V. = Carrying Value Principal + Premium

 Principal - Discount

acg3111z.DOC

Three Types of Notes

(1) Interest-Bearing Note (Stated Rate = Effective Rate)

Principal

SR SR SR SR SR SR SR = Interest

To find the table factor

i = SR = ER = per note

n = periods per terms of note

======

(2) Non-Interest-Bearing Note (Zero interest-bearing)

Maturity = Principal + Interest

To find the table factor

i = ER = per the transacted deal

n = periods per terms of note

======

(3) Combination of the two notes above.

Principal

SR SR SR SR SR SR SR = Stated Rate of Interest < Effective Rate of Interest

To find the table factor

i = ER = per implicit or imputed rate, per the transacted deal

n = number of interest payments per terms of note

Long-term Liabilities

ACG 3111

Chapter 14

Effect on NI

Rev.Exp.

ALSEGain- LossSCF

(cash effect)

Issue Bond

CashNENEFinancing

Disc. on BP

AJE

Int. Exp.NE NE

Disc. on BP

Int. Pay

Payment of Interest

Int. PayNENE(Operating)

Cash

Maturity

Int. Exp.

Disc. on BPCash1=(Operating)

Cash1

Cash2Cash2=(Financing)

Early Extinguishment

Int. Exp.

Disc. on BP orCash1=(Operating)

Cash1

depends

numbers

in expense

BP & gain

Cash2Cash2=(Financing)

E/O Gain

E.LONG-TERM NOTES PAYABLE

 issued by our co. to banks and other lenders; we owe the money at some future time

CASE 1:SR = ER(Interest-Bearing Note)

11%

IssuanceCash5,000i = 11%

NP 5,000n = 2 (periods of interest)

CV x ER x T = Exp



Interest Interest Exp. 550Note: CV = Carrying Value

PaymentsCash550

at end of yr. 1  P x SR x T = Cash or Int. Payable

Interest Exp. 550

At Maturity Cash 550 or one compound entry

NP 5,000

Cash5,000

interest payments

 

CASE 2:Non-Interest-Bearing Note 6733 0 0

(9% implied)

8,000

Cash6733

IssuanceDiscount on Notes1267

contra liability

NP8000

 6733 x 9% = C.V. x E.R. x Time

AJE at end Int. Exp.606

of yr. 1 Disc. on Notes 606 _ NP _ ___Discount__

80001267 606

661

 C.V. x E.R. = 7339 x 9%

Int. Exp.661

Disc. on Notes661C.V. = 8000 - 661 = 7339

At MaturityNP8000

Cash8000

acg3111z.DOC

CASE 3:SR< Effective Rate(somewhat a combo of Case 1 and 2)

SR = 5%Pay $400 interest annually

ER = 8%

Date: 1/1/90

IssuanceCash7572*

Disc. on N 428

NP8000FV 

8000



6859

PV = FV x table factor

PV of $1

6859 = 8000 x .85734 713 400 400

 PV of OA

_713_ = 400 x 1.78326PV FV FV

= Total PV = Cash

i= 8%

n = 2

Principal = 8000

Date: 12/31/90

Interest Payment 7572 x 8% x 1

and AJE  CV x ER x T

At end of Interest Exp.606

year oneDisc. on Notes206

Cash4008000 x 5% x 1

P x SR x T

Always do T-Accts. to keep

track of Carrying Value



Date: 12/31/91 CV x ER x T_ NP_ _ Discount

At end of Interest Exp.622 8000428

year twoDisc. on Notes222206

(Maturity)Cash400 P x SR x T 222 12/31/90222

NP8000 1/1/91222

Cash8000 222

Straight Line Amortization of Interest

GAAP says the company can use this in lieu of the Effective Interest Method if it results in amounts that are NOT materially different.

 \

Interest B.V. (C.V.) of the Note Payable

Expense bonds usually have this



TO amortize via STRAIGHT-LINE method, Divide the TOTAL Discount (or premium)

by the no. of years of months in the term of the note.

Note:The balancing figure will now be the INTEREST EXPENSE.

In the Effective Interest Method, the balancing figure is the DISCOUNT ON NP.

Impairment of Loan

Creditor still hopes for payment, but thinks it is probable that some of the PRINCIPAL (or interest) will not be paid. Therefore, the Creditor sets up an allowance account. The debtor does not do an impairment entry!

Bad Debt Exp.

Allowance for Bad Debt

12/31/97

310,460 500,000



Step 1: Total Principal

12/31/951 2345



Impairment Date CV

375,657

225,3 96300,000

Step 2:   Expected Principal 12/31/97 Payment

CVn = 3

=PV i= 10%

Step 3:Find the difference (Step 1 - Step 2)  Loss due to impairment $150,261

Restructuring of Loan

Reduce Principal owed

 Entries sometimes are needed

Reduce Interest owedat restructure date

Increase Time to maturity

That is, the debtor gets a “good deal.”

Basic Bond Entries and Their Effect on Financial Statements

Effect on NI_

Rev.Exp.

ALSEGain- LossSCF

(cash effect)

Issue Bond

CashNENEFinancing

Disc. on BP

AJE

Int. Exp.NE NE

Disc. on BP

Int. Pay

Payment of Interest

Int. PayNENE(Operating)

Cash

Maturity

Int. Exp.

Disc. on BPCash1=(Operating)

Cash1

Cash2Cash2=(Financing)

Early Extinguishment

Int. Exp.

Disc. on BP orCash1=(Operating)

Cash1

depends

numbers

in expense

BP & gain

Cash2Cash2=(Financing)

E/O Gain

Issuance of Bonds

A.Given bond data and competitor’s yield, calculate bond issue price CASH

Given: Our Company Our Competitor

par
$100,000 = principal
= face
state rate  14% 4 Yr.
=nominal rate
6/30, 12/31 / COMPETITOR’S
BOND

yield = 16%

= effective rate

= market rate

Two CASH Features to most bonds:

PV1 $100,000  use PV of $1 table

1.Principal 

PV27000 7000 7000 7000 7000 7000 7000 7000 use PV of ordinary annuity table

2.Interest 

 = P x SR x Tn = periods of interest = 4 x 2 = 8 (6 mos.)

= 100,000 x 14% x ½i = effective rate for interest payments = _16% = 8%

= $7,000/6 mos. 2 (6 mos.)

Must discount FUTURE CASH values on each time line to the PRESENT (PV1 and PV2)

FORMULA:PV = FV x table factorIssued on 1/1/91:

Cash94,253

Disc. on BP 5,747

BP100,000

For PV1 :Pv1 = $100,000 x .54024 = $54,024

For PV2 :PV2 = $ 7,000 x 5.7470 = 40,229

CASH = Total PV = 94,253

B.Given the bond price as quoted in the bond market.

Given: Issued 100 bonds of $1,000 at 94¼

1/1/91:

100 x $1,000 =$100,000 FaceCash94,250

__x 94¼%Disc. on BP 5,750

$ 94,250 CASHBP 100,000

Issuance of our organization’s BONDS

$100,000
14% 4-Yr.
6/30, 12/31 / C.V. = BP - Discount on BP
C.V. = BP + Premium on BP

_PAR_DISCOUNTPREMIUM

Stated Rate = 14%SR = 14%SR = 14%

Effective Rate = 14%ER = 16 %ER = 10%

Issue Cash100,000Cash94,253Cash112,926

DateBP100,000*Disc. on BP5,747 BP 100,000

1/1/91BP 100,000 * Prem on BP 12,926

______

EFFECTIVE INTEREST METHOD

Interest Payment

6/30/91

Int. Exp.7000Int. Exp.7540 Int. Exp.5646

Cash7000 Cash 7000 *Prem on BP1354

* Disc. on BP 540Cash 7000

Interest Payment

12/31/91

Int. Exp.7000Int. Exp.7584 Int. Exp. 5579

Cash7000 Cash 7000 *Prem. on BP 1421

* Disc. on BP 584Cash7000



Interest Exp. Is a CONSTANT RATE

Assume Fiscal Year Ends 4/30: The issue date is 1/1/91 and entries are above.

AJE 94,253x16%x4/12112,926x10%x4/12

4/30/91

Int. Exp.4667Int. Exp. 5027 Int. Exp. 3764

Int. Pay4667*Disc. on BP 360 *Prem on BP 903

Int. Pay 4667 Int. Pay 4667

Interest Payment 94,253x16%x2/12112,926x10%x2/12

6/30/91

Int. Exp.2333Int. Exp. 2513 Int. Exp. 1882

Int. Pay 4667Int. Pay 4667 Int. Pay 4667

Cash7000Cash 7000 *Prem on BP 451

*Disc. on BP 180Cash 7000

* = Balancing Figure (so that debits equal credits)

acg3111z.DOC

STRAIGHT-LINE METHOD

Using Same Bond Data as on Prior Page

_PAR_DISCOUNTPREMIUM

Issue DateCash100,000Cash94,253Cash112,926

1/1/91BP100,000*Disc. on BP 5,747BP 100,000

BP 100,000 *Prem on BP 12,926

6/30/91Int. Exp.7000*Int. Exp.7718*Int. Exp. 5384

Cash 7000Cash 7000 Prem on BP 1616

Disc. on BP 718Cash 7000

12/31/91Int. Exp.7000*Int. Exp.7718*Int. Exp. 5384

Cash 7000Cash 7000 Prem on BP 1616

Disc. on BP 718Cash 7000

INTEREST EXPENSE  (CONSTANT DOLLAR AMOUNT)

Assume Fiscal Year Ends 4/30: The issue date is 1/1/91 and entries are above.

AJE

4/30/91Int. Exp.4667Int. Exp.5147*Int. Exp. 3591

Int. Pay 4667Int. Pay 4667Prem. on BP 1076

Disc. on BP 480 Int. Pay 4667

(120x4) (269x4)

Interest Payment

6/30/91Int. Exp2333*Int. Exp. 2573*Int. Exp. 1795

Int. Pay4667Int. Pay4667Int. Pay 4667

cash 7000 Cash7000Prem. on BP 538

Disc. on BP 240Cash 7000

(120x2)

Case ACase BCase C

Issued Bond at:100 94¼113

Issue Date

1/1/91Cash100,000Cash 94,250Cash113,000

BP 100,000Disc. on BP 5,750 BP 100,000

BP 100,000Prem on BP 13,000

* Balancing Figure (so that debits equal credits)

acg3111z.DOC

Issuance of Bonds on March 1, 1991

Between Interest Payment Dates

PARDISCOUNTPREMIUM

+2,333 +2,333

3/1Cash102,3333/1 Cash 94,2533/1 Cash 112,926

Issuance BP 100,000Disc. on BP 5,747BP 100,000

Int. Pay 2,333 BP 100,000 Prem on BP 12,926

Int. Pay 2,333 Int. Pay 2,333

4 mos.  PxSRxT

6/30Int. Exp.46676/30Int. Exp.5027Int. Exp. 3764

CashInt. Pay2333Int. Pay2333 alwaysInt. Pay 2333

Payment Cash 7000 Cash 7000 6-mo. checks*Prem on BP 903

Date *Disc. on BP 360Cash 7000

 Effective-Interest Method used above

Redeeming Bonds Payable

Situation: Redeem original bonds on 1/1/92 for 99

Assume straight-line amortization of interest

PARDISCOUNTPREMIUM

1/1/921/1/921/1/92

BP 100,000 BP 100,000 BP 100,000

Cash99,000 Disc. on BP 4,311 Prem on BP 9,694

E/O Gain 1,000 Cash 99,000 Cash 99,000

E/O Loss 3,311 E/O Gain 10,694

Disc. on BP _ ___ Premium on BP

5747 12,926

7181616

Bal. 4311 9,694 Bal.

Steps

1. Accrue int. exp. to date of redemption

2. Calculate C.V.

3. Difference between CV and cash is the GAIN or LOSS (extraordinary)

Chapter 14

Page 675 + in K & W Textbook

BONDS ISSUED AT PAR

10-year, 10% $800,000 with effective rate of 10%, semi-annual interest

Pays interest 1/1 and 7/1

(Assume calendar year is the fiscal year)

Issue DateCash800,000

1/1/95BP 800,000

7/1/95Interest Exp.40,000 CV x ER x T = 800,000 x 10% x ½

InterestCash 40,000 P x SR x T = 800,000 x 10% x ½

Payment

12/31/95Int. Exp.40,000 CV x ER x T = 800,000 x 10% x ½

AJEInt. Pay 40,000 P x SR x T = 800,000 x 10% x ½

(same as cash formula)

1/1/96Int. Pay40,000

InterestCash 40,000

Payment

...... Time Goes By 1/1/96 to 12/31/04

12/31/04Int. Exp.40,000

Int. Pay 40,000

At Maturity

1/1/05Int. Pay.40,000last interest payment

Cash 40,000

BP800,000pay off the principal (face value)

Cash 800,000

BONDS ISSUED At PAR (Face Value)

on interest date (no discount; no premium)

STATED RATE = EFFECTIVE RATE

CV = Carrying Value = Book Value = BP - Discount on BP = BP + Premium on BP

AJE = Adjusting Journal Entry

acg3111z.DOC

BONDS ISSUED AT A DISCOUNT on interest date

10%, $800,000, 10-yr., interest on 1/1, price is 97

Issued

1/1/95Cash776,000(97% x 800,000 par)

* Disc. on BP 24,000Calendar Year = Fiscal Year

BP800,000(par)

12/31/95*Int. Exp.82,400(NNTB)

AJEDisc. on BP 2,400STRAIGHT-LINE AMORTIZATION

Int. Pay80,000 Total

 P x SR x T(24,000  10 years = 2,400/yr.)

800,000 x 10% x 1 = 80,000how often you plan to record an entry

Interest

Payment

1/1/96Int. Pay80,000

Cash80,000_ __Discount on BP______BP_ _

1/1/95 24,000 800,000 00

______2,400 12/31/95 1/1/95

12/31/96*Int. Exp. 82,400 12/31/95 21,600

Disc. on BP 2,400

Int. Pay 80,000 ______2,400 12/31/95

12/31/96 19,200

etc.

CV = BP - Disc. on BP

12/31/96CV = 800,000 - 19,200 = 78,800

Hint:To find CV on any particular date, look in

the above two general ledger accounts.

At Maturity

1/1/05Int. Pay 80,000

Cash80,000

BP800,000

Cash800,000

* = Plug Figure = NNTB = Number Needed to Balance

AJE = Adjusting Journal Entry

acg3111z.DOC

Page 675 + in K & W Textbook

BONDS ISSUED AT A PREMIUM on interest date

10%, $800,000, 10-year, interest on 1/1, price is 103

Issued

1/1/95Cash824,000(103% x 800,000 par)

BP800,000(par)Calendar Year = Fiscal Year

*Prem on BP 24,000

12/31/95*Int. Exp.77,600STRAIGHT-LINE AMORTIZATION

AJEPrem on BP 2,400(24,000  10 years = 2,400/yr.)

Int. Pay80,000(800,000 x 10% x 1 = 80,000)

1/196Int. Pay80,000______Prem. on BP______BP_____

InterestCash80,00024,000 1/1/95 800,000

Payment1/1/95

12/31/95_2,400______

etc.21,600 12/31/95

12/31/96 2,400

etc.

1/1/05Int. Pay80,000

At MaturityCash80,000

BP800,000CV = BP + Premium on BP

Cash800,000

* = Plug Figure = NNTB

Page 676 in K & W Textbook

Bonds Issued At Par BETWEEN INTEREST DATES

10%, 10-year $800,000 issued at 100 on 3/1/95, pays interest 1/1 and 7/1

stated rate

But the co. had intended to issue them on 1/1/95.

1/1/95 Planned Issue Date

2 mos.

3/1/95Cash813,333(800,000 + 2 months of cashinterest,since

ActualBP800,000 4 months later, we send a 6-month interest

Issue DateInt. Exp. 13,333 payment to whomever is holding (owns) the

 bonds on that date).

or Int. Pay P x SR x T

4 mos.800,000 x 10% x 2/12

7/1/95Int. Exp.40,000

InterestCash40,000 P x SR x T

Payment 800,000 x 10% x ½

(6 months of

interest in CASH)OR

Int. Pay13,333No matter which entry you choose to do,

Int. Exp.26,667the income statement should have 4 months

Cash40,000of interest expense

$26,667 as of 7/1/95

12/31/95Int. Exp.40,000

AJEInt. Pay40,000

1/1/96Int. Pay40,000

InterestCash40,000

Payment

etc.

acg3111z.DOC

Page 676 Textbook K & W

Bonds Issued At A Premium BETWEEN INTEREST DATES

10%, 10-year $800,000 issued at 102 on 3/1/95, pays interest 1/1 (annually)

Planned Issue Date

1/1/95

2 mos.

Actual Issue Date

3/1/95Step 1: Ignore the Accrued InterestSTRAIGHT-LINE AMORTIZATION

Cash816,000

BP800,000 CVLife of Bond

Prem. on BP 16,0009 yrs. 10 mos. = 118 mos.

16,000  118 mos. = $136/ mo. of amortized Interest

10 mos.Step 2: Calculate the Accrued Interest

Cash13,333(PxSRxT = 800,000 x 10% x 2/12

Int. Pay13,333

AJE Interest

12/31/95*Int. Exp.65,307

Prem. on BP 1,360($136/mo. x 10 mos.)

Int. Pay66,667(P x SR x T = 800,000 x 10% x 10/12)

Pay Interest

1/1/96Int. Pay80,000

Cash80,000

* NNTB

Caution to Accountants:

Bonus System and Profit Sharing Plans Incentive to work hard and help the co. make money  good for the stockholders who own the co.

HOWEVER, Incentive to manipulate net income  accountants and auditors BEWARE

management’s “request” to understand expenses and overstate income!

CONTINGENT LIABILITIES:“Maybe” LIABILITIES

Gain Contingenciesnever recorded (accrued)

rarely disclosed

Loss Contingencies  can be:

1)RemoteRarely disclose

Disclosure

2)Reasonably Possible put in the footnotes

3)Probableif reasonably estimated, do accrual entry

if not reasonably estimated, put in footnotes

Example:

Warranties  when a SELLER promises to remove deficiencies in the quantity, quality, or performance of a product sold to a BUYER.

prepare an AJE yearly to match estimated warranty expenses to the revenue earned that year

AJE Warranty Expense

Contingent Warranty Payable/Liability

ACG 3111-- Chapters 14,15,&16

Notes, Bonds, and Stock

Market Quotations

STOCKS

52 Weeks YldVolNet

Hi LoStock Sym Div %PE100’sHiLoCloseChg

32 7/8 24 3/4 FordMotorF 1.24 3.9 6 164603231 3/432----

107 1/280 3/4FordMotor pfF 4.20 4.0---296104 3/8103 5/8 103 7/8-1/8

4833 5/8Rockwell ROK 1.08 2.3 14386546 3/845 5/846 1/4+1/2

BONDS

CurNet

BondsYldVolCloseChg

IBM 8 3/8 197.4 5112 7/8-1/8

BellsoT8 1/4 327.625108 7/8 +1 7/8

Proprietorships and Partnerships

Three Major Types of Business Enterprises:

1.Individual Proprietorship (1 owner)

2.Partnership (2 or more owners)NOT separate legal entities

3.Corporation (1 or more owners)

 separate legal entity

Partnerships

Usually draw up a Partnership Agreement, although NOT required by law

In a lawsuit, the partners are sued, not the partnership; this stems from UNLIMITED LIABILITY  partners are jointly and severally liable  a partner’s personal assets are at risk! Liability is not limited to the original investment in the partnership.

No income taxes for the partnership itself; each partner’s share of NI is taxable on his/her personal tax return, even if NO cash is withdrawn.

Partnership interests are not easily transferable like shares of stock.

The return comes in the form of cash withdrawals, which are usually restricted.

The salary to partners is not sal. exp. to the enterprise; it is part of the Income Sharing Agreement.

acg3111z.DOC

CORPORATIONSINGLE PROPRIETORSHIPPARTNERSHIP

Startup: CashCash Cash

C. Stk FMV =>LandFMV=> Land

PIC...etc.FMV =>Equipment

etc.

Z, CapitalZ, Capital

T, Capital______

Daily

Operations:SameSameSame______

Money to Owners:Dividends/REZ, Drawing Z, Drawing or Z, Capital

CashCashT, Drawing or T, Capital

CashCash______

Closing booksInc. Sum.Inc. Sum.Inc. Sum.

at year end:RE.Z, CapitalZ, Cap.

T, Cap.

REZ, CapitalZ, Capital

Div.Z, DrawingT, Capital

Z, Drawing Entry if drawing

T, Drawing_ account is used

Balance SheetBalance SheetBalance Sheet

_A__L__A_ _L__A__L_

Stockholders’ EquityOwner’s EquityPartners’ Equity

C. Stock Z, CapitalT, Capital

PIC...... Z, Capital

acg3111z.DOC

STOCKHOLDERS’ EQUITY: CONTRIBUTED CAPITAL

ACG 3111--CHAPTER 15

Introduction

Equity means “a claim to something.” Stockholders’ equity represents the claim that the stockholders have to the assets. Creditors’ equity (liabilities) represents the claim that the creditors have to the assets.

A comprehensive study of financial instruments is underway. Part of the study is an attempt to distinguish between liability AND equity instruments.

INCOME includes changes in stockholders’ equity (hereafter equity) during a period, but it excludes changes in equity arising from transactions with owners of the enterprise.

LIABILITY: an obligation to sacrifice future economic benefits (due dates for principal and interest are part of liabilities)

EQUITY: NO obligation to sacrifice future economic benefits (equity is the residual claim of the owners to a portion of the assets of the company, after all creditors and other lawful parties receive their money)

THE NATURE OF STOCKHOLDERS’ EQUITY

Stockholders’ equity = assets minus liabilities = net assets = net worth = owners’ equity = partners’ equity = book value of the company = capital

Sources of Equity

Paid-in Capital = Contributed Capital = Common Stock and Paid-in Capital (PIC) in Excess of Par--Common OR Preferred Stock and PIC in Excess of Par--Preferred, plus miscellaneous PIC accounts

Earned Capital = Retained Earnings (The accumulated earnings/losses less the dividends, since the company’s inception)

Changes in Equity that AFFECT assets and liabilities: Net income/loss and transfers between entity and owners.