The effect of this ace is to increase wages payable

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Employees have worked during a period and have not yet been paid. The effect of this ace is to increase wages payable on the balance sheet and to recognize wages expense on income statement. Failure to recognize this liability and associated expense would understae liabilities on the balance sheet and overstate income in the current period and unders income in the subsequent period. When the company pays employees in the following period, cash and wages payable decrease. This payment does not result in expense because the expense was recognized in prior period when incurred. The accrued wages illustration relates to events that are fairly certain. We know, for exampe, when wages are incurred but not paid. Other examples of accruals that are fairly certain are ren costs, insurance premiums, and taxes owed. Contingent Accrued Liabilities Some accrued liabilities are less certain than others. Consider company facing a lawsuit. Should it record the possible liability and related expense? The answ depends on the likelihood of occurrence and the ability to estimate the obligation. Specifically. the obligation is probable and the amount estimable with reasonable certainty, then a company w recognize this obligation, called a contingent liability. If an obligation is only reasonably pass' (or cannot be reliably estimated), the contingent liability is not reported on the balance sheet and merely disclosed in the footnotes. All other contingent liabilities that are less than reasonably sible are not disclosed.
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Module 7 I Liability Recognition and Nonowner Financing 7-8 gement of Accrued Liabilities Managers have some latitude in determining the amount timing of accruals. This latitude can lead to rnisreporting of income and liabilities (uninten- or otherwise). Here's how: If accruals are underestimated, then expenses are underesti- , income is overestimated, and retained earnings are overestimated. In subsequent periods an understated accrued liability is settled (for more than the "under" estimate), reported e is lower than it should be; this is because prior-period income was higher than it should been. (The reverse holds for overestimated accruals.) The misreporting of accruals, there- _. shifts income from one period into another. We must be keenly aware of this potential for e shifting as we analyze the financial condition of a company. Experience tells us that accrued liabilities related to restructuring programs (including sever- accruals and accruals for asset write-downs), or to legal and environmental liabilities, or . ess acquisitions are somewhat problematic. These accruals too often represent early recogni- of expenses. Sometimes companies aggressively overestimate one-time accruals and record ;::.en larger expense. This is called taking a bigbath. The effect of a big bath is to depress t-period income, which relieves future periods of these expenses (thus, shifting income d in time). Accordingly, we must monitor any change or unusual activity with accrued ities and view large one-time charges with skepticism.
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