Chap12 - CHAPTER 12 QUESTIONS 1. The major components...

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Unformatted text preview: CHAPTER 12 QUESTIONS 1. The major components included in the FASBs definition of liabilities are as fol- lows: (a) A liability is a result of past transactions or events. (b) A liability involves a probable future transfer of assets or services. (c) A liability is the obligation of a particular entity. All of these components should be present before a liability is recorded. In addition, the amount of the liability must be measurable in order to report it on the balance sheet. 2. a. An executory contract is one in which performance by both parties is still in the future. Only an exchange of prom- ises is made at the initiation of the con- tract. Common examples include labor contracts and purchase orders. b. The definition of liability states in part that a liability should be the result of a past transaction or event. Similar con- cepts in previous definitions used by accounting bodies have excluded executory contracts from inclusion as liabilities. However, the accounting methods currently accepted for leases, for example, essentially recognize li- abilities before performance by either party to the lease contract. Thus, the FASB apparently does not feel that its definition excludes the possibility of re- cording executory contracts as liabili- ties. 3. Current liabilities are claims arising from operations that must be satisfied with cur- rent assets within one operating cycle or within one year, whichever is longer. Non- operating cycle claims are classified as cur- rent if they must be paid within one year from the balance sheet date. Noncurrent liabilities are liabilities whose liquidation will not require the use of current assets to satisfy the obligation within one year. 4. Generally, liabilities should be reported at their net present values rather than at the amounts that eventually will be paid. The use of money involves a cost in the form of interest that should be recognized whether or not such cost is expressly stated under the terms of the debt agreement. A debt of $10,000 due five years from now has a pre- sent value less than $10,000, unless inter- est is charged on the $10,000 at a reason- able rate. 5. Some companies include short-term bor- rowing as a permanent aspect of their overall financing mix. In such a case, the company often intends to renew, or roll over, its short-term loans as they become due. As a result, a short-term loan can take on the nature of a long-term debt because, with the refinancing, the cash payment to satisfy the loan is deferred into the future. As of the date the financial statements are issued, if a company has either already done the refinancing or has a firm agree- ment with a lender to refinance a short-term loan, the loan is classified in the balance sheet as a long-term liability....
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This note was uploaded on 04/01/2010 for the course ACCT 1 taught by Professor Bono during the Spring '10 term at Illinois State.

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Chap12 - CHAPTER 12 QUESTIONS 1. The major components...

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