Deck 9: Current Liabilities and Contingent Obligations

Question 1

Bonus agreements can be structured in various ways. A typical bonus calculation could involve income before or after taxes and income before or after the bonus.

Answer 1

True

Question 2

Assets and liabilities with differing implications for financial flexibility should be reported together.

Answer 2

False

Question 3

Which of the following statements does not describe an essential characteristic of a liability?

A) A liability is a present obligation that will be settled by a probable future transfer or use of assets.
B) The obligated entity has little or no discretion to avoid the future sacrifice.
C) The identity of the recipient must be known to the obligated party.
D) The transaction or event obligating the enterprise has already occurred.

Answer 3

C

Question 4

Which of the following is a legal liability?

A) sick pay that may be taken as time off
B) sales taxes payable to the state
C) gambling debt owed
D) bribes due to foreign traders

Question 5

Assume that a company is facing a loss contingency. GAAP requires the company to categorize the likelihood of occurrence of a future event that will confirm the loss as being plausible, remotely plausible, or remote.

Question 6

The ability to refinance short-term obligations on a long-term basis can be demonstrated if the company has already refinanced those obligations after the date of the balance sheet but before it is issued.

Question 7

Assume that a company is facing a loss contingency. GAAP requires the company to recognize a liability even if the company cannot determine whether or not the event has occurred.

Question 8

Under current standards of the FASB, liabilities include

A) only legal obligations.
B) both legal and illegal obligations.
C) both legal and nonlegal obligations.
D) legal, nonlegal, and illegal obligations.

Question 9

Which of the following is not an issue associated with liabilities?

A) Identification
B) Valuation and Measurement
C) Assessment
D) Reporting

Question 10

Vacation pay and year-end bonuses would be considered legal liabilities.

Question 11

Liabilities are defined as probable future sacrifices of economic benefits arising from present obligations of a company to provide services or assets in the future as defined by the FASB.

Question 12

All of the following are examples of legal liabilities except

A) notes payable.
B) sales tax payable.
C) sick pay payable may be taken as time off).
D) property taxes payable.

Question 13

The FASB recommends that assets and liabilities with differing liquidities be arranged as separate items in the balance sheet.

Question 14

Which is not a characteristic of a liability?

A) There will be a probable future transfer or use of assets.
B) There is little or no discretion to avoid the future sacrifice.
C) The obligating transaction or event must have already happened.
D) A legally enforceable claim must be present.

Question 15

Short-term debt that is expected to be refinanced on a long-term basis may be excluded from the current liability classification if the company has the intent to refinance or the ability to refinance.

Question 16

The FASB is concerned with the accurate portrayal of liquidity because users evaluate future cash flows in their decision making practices.

Question 17

Which of the following is not a characteristic of a liability?

A) It will be settled by a future transfer of assets.
B) The company has no discretion to avoid the future sacrifice.
C) The obligating event has already happened.
D) All of these are characteristics of a liability.

Question 18

Which of the following statements is true?

A) One of the essential characteristics of a liability is that the transaction or other event obligating the entity will probably occur in the future.
B) In order for there to be a liability, a duty or responsibility must be present that obligates a particular entity.
C) In order for there to be a liability, a legally enforceable claim must be present.
D) In order to have a liability, the identity of the recipient must be known.

Question 19

Compensated absences include vacation, holiday, sick, or other activities for which the company pays its employees.

Question 20

The ability to utilize financial resources and to adapt to changes in the business environment is referred to as a company's financial flexibility.

Question 21

The Lawrence Company records its trade accounts payable net of any cash discounts. At the end of 2016, Lawrence had a balance of $300,000 in its trade accounts payable account before any adjustments related to the following items:
1) Goods shipped to Lawrence FOB shipping point were in transit on December 31. The invoice price of the goods was $50,000, with a 2% discount allowed for prompt payment.
Goods shipped to Lawrence FOB destination on December 29 arrived on January 2, 2017.
2) The invoice price of the goods was $9,000, with a 4% discount allowed for payment within 20 days.
On December 10, Lawrence had recorded a shipment received. The recorded invoice price
3) was $24,750, net, with a 1% discount allowed for payment within 14 days. At the end of the year, payment had not been made.
At what amount should Lawrence report trade accounts payable on its December 31, 2016 balance sheet?

A) $349,000
B) $349,250
C) $357,680
D) $357,930

Question 22

On December 1, 2015, Sons, Inc. borrowed money at the bank by signing a 90-day non-interest-bearing note for $40,000 that was discounted at 12%. Which of the following entries is not correct?

Question 23

Discount on Notes Payable should be classified as a

A) current asset.
B) contra account to Notes Payable.
C) part of shareholders' equity.
D) companion account to Notes Payable.

Question 24

Cooper's inventory has been financed 100% with a long-term note. The note is coming due in 2016. Cooper has received a commitment from a new lender that permits five-year refinancing of debt up to an amount equal to 50% of inventory, which is expected to range between $14,000 and $20,000 in 2016. At December 31, 2015, how much of the company's currently maturing note payable can be classified as long-term debt?

A) $7,000
B) $6,000
C) $10,000
D) $9,000

Question 25

Which of the following dividends is not considered a current liability when declared?

A) property dividends
B) stock dividends
C) scrip dividends
D) cash dividends

Question 26

On December 31, 2016, the Wagner Company had the following liabilities:

On December 31, Wagner signed a binding agreement with its bank to refinance the 12% note through February 14, 2019, at a variable interest rate.
What is the amount of Wagner's current liabilities on December 31, 2016?

A) $150,000
B) $190,000
C) $230,000
D) $260,000

Question 27

Analysts use the quick ratio also known as the acid test ratio) and the current ratio. The use of both ratios has become common because

A) the quick ratio is much easier to compute than the current ratio.
B) interpretation of the current ratio is more difficult because of its complexity.
C) the acid test is a more severe test of a company's liquidity.
D) the acid test a better measure of management's effectiveness.

Question 28

Short-term debt expected to be refinanced

A) may be classified as long-term if both the intent to refinance and the ability to refinance exist.
B) must always be reported as a current liability.
C) may be classified as long-term if off-balance-sheet financing has been obtained.
D) may be classified as long-term if there is an intent to refinance.

Question 29

Which of the following statements is false?

A) A dividend payable in shares of the issuing company's stock is not reported as a current liability.
B) Interest and dividends accrue as a liability as time passes.
C) The declaration of a dividend may not result in a current liability.
D) Undeclared dividends in arrears on cumulative preferred stock are not recognized as a liability.

Question 30

On the balance sheet, liabilities are generally classified as

A) current or long-term.
B) legal or nonlegal.
C) material or immaterial.
D) probable or estimated.

Question 31

Management of current liabilities arises, in part, because of a concern over

A) profitability.
B) liquidity.
C) timeliness.
D) materiality.

Question 32

On December 1, 2016, Old Car Co. borrowed money at the bank by signing a 90-day non-interest-bearing note for $24,000 that was discounted at 8%. Which of the following entries is correct?

Question 33

Beta, Inc. had $10,000 of notes payable coming due on January 10, 2016. As of December 31, 2015, Beta was negotiating with the lender to extend the due date of the note by two additional years. On January 5, 2016, the company used $2,000 of excess cash to pay off part of the note. On January 8, 2016, the refinancing was completed, the $2,000 payment was refunded and added back to the note balance, and the note was extended for another two years. On Beta's December 31, 2015 balance sheet, which was issued on April 1, 2016, how much of the $10,000 note should be shown as current?

A) $10,000
B) $0
C) $8,000
D) $2,000

Question 34

With regard to liabilities, liquidity refers to

A) a company's ability to convert its assets to cash to pay for its liabilities.
B) a company's ability to use its financial resources to adapt to change.
C) a company's operating cycle.
D) only liabilities and not assets.

Question 35

Which of the following statements regarding the gross and net methods for recording trade accounts payable is true?

A) The net method overstates accounts payable at the end of the accounting period.
B) The net method is more widely used in practice than is the gross method.
C) The gross method more accurately measures liquidity.
D) The net method highlights management inefficiency because purchase discounts lost are recorded whenever an invoice is paid after the cash discount period has expired.

Question 36

On January 1, 2016, the Pruett Company signed a six-month, non-interest-bearing note payable for $170,000 and received $162,800 from Your Neighborhood Bank. On January 31, 2016, what amount should Pruett record for interest expense, and what is the net carrying value of the note?

A) $1,200; $161,600
B) $0; $170,000
C) $7,200; $170,000
D) $1,200; $164,000

Question 37

Which of the following statements is true?

A) If ability to refinance a currently maturing obligation is present, the obligation should be classified as noncurrent debt.
B) If no reasonable estimate can be made of the minimum amount expected to be available for future refinancing, the entire outstanding short-term obligation must be disclosed as a noncurrent obligation.
C) The FASB has concluded that obligations that are due on demand should be classified as current liabilities, even though liquidation of the liabilities is not expected within the next year or operating cycle, whichever is longer.
D) If a refinancing is soon to be accomplished by issuing common stock, a currently maturing short-term obligation should be included in shareholders' equity on the current balance sheet.

Question 38

Current liabilities are obligations whose liquidation is reasonably expected to require the use of existing current assets or the creation of other current liabilities within

A) one year or operating cycle, whichever is longer.
B) one year.
C) one year or operating cycle, whichever is shorter.
D) an operating cycle.

Question 39

Current liabilities are obligations of a company that it expects to liquidate within

A) one year.
B) the normal operating cycle.
C) the normal operating cycle or one year, whichever is longer.
D) the normal operating cycle or one year, whichever is shorter.

Question 40

The operating cycle is typically defined as the time it requires to convert

A) cash to inventory to receivables.
B) raw materials to finished goods.
C) finished goods to receivables to cash.
D) cash to inventory to receivables to cash.

Question 41

All of the following payroll taxes are levied against the employer except

A) FICA taxes.
B) federal unemployment taxes.
C) state unemployment taxes.
D) federal income taxes withheld.

Question 42

Which of the following journal entries would probably be made if the modified cash basis of accounting for warranties is in use for a sale made in 2016?

Question 43

American Business Services introduced a new machine on January 1, 2016. The machine carried a two-year warranty against defects. The estimated warranty costs related to dollar sales were 3% in the year of sale and 5% in the year after sale. Additional information follows: Actual Warranty If American Business Services considers these warranties to be assurance-type and accounts for them by accruing the expense and the related liability) in the year of the sale, what amount relating to warranties should be reflected on the December 31, 2017, balance sheet?

A) $5,300
B) $6,400
C) $6,500
D) $9,100

Question 44

Exhibit 9-2
In 2015, the Magtag Company sold 16,000 ovens. Magtag estimated that 14% of the machines would require repairs under the two-year assurance-type warranty at an average cost of $60. During 2015, Magtag had an actual outlay of
$62,000 for repairs under warranty. Magtag uses the GAAP approach of accruing warranty expense and the related liability) in the year of the sale.
Refer to Exhibit 9-2. At what amount should the company record warranty expense for 2015?

A) $42,000
B) $62,000
C) $134,400
D) $116,000

Question 45

According to current GAAP, which of the following is not a condition suggesting that an accrual for vacation pay should be made?

A) The obligation must relate to rights that vest.
B) The payment of compensation is probable.
C) The obligation must relate to employee services already rendered.
D) The amount can be reasonably estimated.

Question 46

Exhibit 9-1
The Happy Cereal Company includes a premium in each box of its cereal. For four premiums plus $2.00, customers are entitled to a plastic wiggle worm that costs Happy $4.50 each. Happy expects 60% of the premiums to be redeemed. In 2016, Happy sold 500,000 boxes of cereal and distributed 25,000 wiggle worms.
Refer to Exhibit 9-1. What is Happy's estimated liability for unredeemed premiums on December 31, 2016?

A) $125,000
B) $187,500
C) $225,000
D) $337,500

Question 47

Exhibit 9-1
The Happy Cereal Company includes a premium in each box of its cereal. For four premiums plus $2.00, customers are entitled to a plastic wiggle worm that costs Happy $4.50 each. Happy expects 60% of the premiums to be redeemed. In 2016, Happy sold 500,000 boxes of cereal and distributed 25,000 wiggle worms.
Refer to Exhibit 9-1. What is Happy's premium expense for 2016?

A) $125,000
B) $187,500
C) $225,000
D) $337,500

Question 48

The Antarctica Company closes its books annually on December 31, while the city in which it is located has a fiscal year beginning on April 1 and ending on March 31. Taxes on property are assessed on April 1 of each year. Property taxes in the amount of $360,000 and $390,000 were assessed on April 1, 2015 and 2016, respectively. For the year ended December 31, 2016, the Antarctica Company would report property tax expense of

A) $360,000.
B) $370,000.
C) $382,500.
D) $390,000.

Question 49

Exhibit 9-2
In 2015, the Magtag Company sold 16,000 ovens. Magtag estimated that 14% of the machines would require repairs under the two-year assurance-type warranty at an average cost of $60. During 2015, Magtag had an actual outlay of
$62,000 for repairs under warranty. Magtag uses the GAAP approach of accruing warranty expense and the related liability) in the year of the sale.
Refer to Exhibit 9-2. What amount should the company report for estimated liability under warranties at the end of 2015?

A) $72,400
B) $62,000
C) $48,000
D) $84,000

Question 50

GAAP relating to compensated absences

A) applies to items such as vacation pay, severance pay, sick pay, and other long-term fringe benefits.
B) establishes the same accruing standards for vacation pay, holiday pay, and sick pay.
C) requires the use of current pay rates to accrue for compensated absences.
D) does not require the accrual of accumulated nonvested sick pay.

Question 51

Lucas Company provides a bonus compensation plan under which key employees receive bonuses equal to 10% of Lucas's income after deducting income taxes but before deducting the bonus. If income before income tax and the bonus is $400,000 and the income tax rate is 30%, the bonuses should total

A) $27,160.
B) $28,866.
C) $36,400.
D) $40,000.

Question 52

Sick pay benefits that are related to an employee's services already rendered, whose payment is probable and whose amount can reasonably be estimated, must be accrued and recognized as a current liability if the obligation relates to rights that

A) I
B) II
C) III
D) IV

Question 53

Which payroll tax is imposed on both the employee and the employer?

A) federal income tax
B) state unemployment tax
C) FICA tax
D) federal unemployment tax

Question 54

Cunningham, a branch manager, is allowed a bonus of 10% of income after bonus and tax. If the tax rate is 30% and income before bonus and tax is $200,000, what is Mr. Cunningham's bonus?

A) $13,084
B) $14,000
C) $14,433
D) $20,000

Question 55

King Sales sells a certain product for $20,000. Included in this price is an implied service-type warranty of $600. Fifty machines were sold in 2016. Warranty expense incurred during 2016 amounted to $35,000. Which of the following entries would King Sales probably not make in 2016?

Question 56

Concerning accounting for warranties, which of the following statements is true?

A) Federal income tax regulations require companies to accrue warranty expense in the year of the sale.
B) The modified cash basis method is required for tax reporting.
C) The modified cash basis method uses a percentage of completion approach to warranty revenue recognition.
D) The modified cash basis recognizes warranty expense when cash is received on the sale.

Question 57

Unearned revenue also called deferred revenue) can occur when

A) services are provided prior to receipt of cash.
B) goods are sold on account.
C) services are provided after the receipt of cash.
D) goods are sold for cash.

Question 58

Voluntary payroll deductions may include all of the following except

A) charity donations.
B) 401K deductions.
C) group health insurance.
D) FICA taxes.

Question 59

Candy's Video includes the amount of sales taxes collected directly in the price charged for merchandise, and the total amount is credited to Sales. During January, Sales was credited for $310,117.50. The January 31 adjusting entry to account for a 5% state sales tax should be

Question 60

Jennifer Cakes places a coupon in each box of its product. Customers may send in five coupons and $3, and the company will send them a recipe book. Sufficient books were purchased at a cost of $5 each. A total of 400,000 boxes of product were sold in 2016. It was estimated that 6% of the coupons would be redeemed. During 2016, 8,000 coupons were redeemed. Which entry should be made at December 31, 2016?

Question 61

Which of the following contingencies is usually accrued?

A) risk of loss from fire
B) expected proceeds from insurance settlement
C) bad debts
D) discovery of possible mineral reserves on company property

Question 62

Barlo Lunch Snacks places a coupon in each box of its cracker product. Customers may send in five coupons and $3, and the company will send them a recipe book. Sufficient books were purchased at a cost of $5 each. A total of 500,000 boxes of product were sold in 2016. It was estimated that 4% of the coupons would be redeemed. During 2016, 9,000 coupons were redeemed. What is Barlo's premium expense for 2016?

A) $4,400
B) $8,000
C) $20,000
D) $40,000

Question 63

A probable loss contingency is reasonably estimated within a range of possible amounts. No amount within the range is a better estimate than any other amount within the range. The amount that should be accrued should be

A) zero.
B) the lower amount of the range.
C) the upper amount of the range.
D) the average amount within the range.

Question 64

A gain contingency that is reasonably possible and for which the amount can be reasonably estimated should be

A) accrued.
B) disclosed but not accrued.
C) neither accrued nor disclosed.
D) classified as an appropriation of retained earnings.

Question 65

The Park Company is affected by the following contingencies at the end of 2016:
1) Expropriation of Park's foreign assets, valued at $3,000,000, appears reasonably possible.
2) Parks' legal counsel has concluded that it is probable that the company will be required to pay damages of $500,000 in a lawsuit.
3) It appears remotely possible that a major customer will be unable to repay Parks on a note receivable for $100,000.
4) Parks' controller estimates that $250,000 of the company's pledged receivables are likely to be uncollectible, and the lender will require Parks to honor the amounts.
What total amount should Parks accrue for loss contingencies in 2016?

A) $750,000
B) $850,000
C) $3,500,000
D) $3,850,000

Question 66

Albert Corp. introduced a new machine on January 1, 2016. The machine carried a two-year assurance-type warranty against defects. The estimated warranty costs related to dollar sales were 3% in the year of sale and 5% in the year after sale. Additional information follows: Actual Warranty If the company uses the GAAP approach of accruing warranty expense and the related liability) in the year of the sale, what amount relating to warranty expense should be reflected on the December 31, 2017 income statement?

A) $2,200
B) $4,800
C) $5,200
D) $7,400

Question 67

The Salty Chip Company includes one coupon having no expiration date with its deluxe snack pack. Upon return of 10 coupons, Salty Chip will send a silver chip clip, which costs Salty Chip $1.50 each. Past experience indicates that 30% of coupons issued will be redeemed. Salty Chip began this promotion in 2015 and sold 1,000,000 deluxe snack packs. During 2015, 90,000 coupons were received and 9,000 chip clips were distributed to customers. The December 31, 2015 balance sheet should include a liability for coupons outstanding of

A) $18,000.
B) $180,000.
C) $31,500.
D) $50,000.

Question 68

The modified cash basis to determine warranty expense

A) violates the matching concept.
B) requires recognition in the period of sale of the estimated warranty expense and warranty liability.
C) separates accounting for two components of the sales price: the price of the product and the price of the warranty.
D) records warranty expense when the merchandise under warranty is sold.

Question 69

Exhibit 9-4
During 2016, the Thomas Company began selling a new type of machine that carries a two-year assurance-type warranty against all defects. Based on past industry and company experience, estimated warranty costs should total
$2,000 per machine sold. During 2016, sales and actual warranty expenditures were $4,000,000 80 machines) and
$44,000, respectively. Thomas uses the GAAP approach of accruing warranty expense and the related liability) in the year of the sale.
Refer to Exhibit 9-4. What amount should Thomas report as its warranty expense for 2016?

A) $0
B) $ 44,000
C) $160,000
D) $320,000

Question 70

Concerning accounting for warranties, which of the following statements is false?

A) The GAAP approach of accruing warranty expense and the related liability) in the year of the sale is not an acceptable method for federal income tax purposes.
B) The modified cash basis is the most conceptually sound method for financial reporting.
C) In accounting for service-type warranties, companies much report warranty expense in the period of sale.
D) The modified cash basis recognizes warranty expense when cash is paid for the repairs to merchandise under warranty.

Question 71

Exhibit 9-3
John Company includes three coupons in each package of cookies it sells. In exchange for 20 coupons, a customer will receive a cookie sheet. John estimates that 30% of the coupons will be redeemed. In 2016, John sold 4,000,000 boxes of cookies and purchased 150,000 Cookie sheets at $2.50 each. During the year, 970,000 coupons were redeemed.
Refer to Exhibit 9-3. What amount should John record as premium expense for 2016?

A) $121,250
B) $450,000
C) $375,000
D) $500,000

Question 72

Gain contingencies should

A) be accrued if they are probable and can be reasonably estimated.
B) not be accrued in the accounts.
C) be accrued only if they are the result of litigation or government appropriation.
D) never be accrued or disclosed in the footnotes.

Question 73

Which of the following loss contingencies is not usually accrued?

A) product warranty obligations
B) premium offer obligations
C) risk of loss from fire
D) noncollectibility of receivables

Question 74

Exhibit 9-4
During 2016, the Thomas Company began selling a new type of machine that carries a two-year assurance-type warranty against all defects. Based on past industry and company experience, estimated warranty costs should total
$2,000 per machine sold. During 2016, sales and actual warranty expenditures were $4,000,000 80 machines) and
$44,000, respectively. Thomas uses the GAAP approach of accruing warranty expense and the related liability) in the year of the sale.
Refer to Exhibit 9-4. What amount should Thomas report as its estimated warranty liability at December 31, 2016?

A) $0
B) $44,000
C) $120,000
D) $116,000

Question 75

Exhibit 9-3
John Company includes three coupons in each package of cookies it sells. In exchange for 20 coupons, a customer will receive a cookie sheet. John estimates that 30% of the coupons will be redeemed. In 2016, John sold 4,000,000 boxes of cookies and purchased 150,000 Cookie sheets at $2.50 each. During the year, 970,000 coupons were redeemed.
Refer to Exhibit 9-3. What amount should John report as estimated premium claims outstanding at December 31, 2016?

A) $121,250
B) $328,750
C) $450,000
D) $500,000

Question 76

The FASB established the use of the terms "probable," "reasonably possible," and "remote." It adopted these terms because

A) the available statistical techniques are not exact enough.
B) the likelihood of occurrence of future events can vary over a wide range.
C) future gains are not easy to estimate.
D) unnecessary estimates should not be recorded in the financial records.

Question 77

Exhibit 9-5
Backhoe Company estimates its annual warranty costs to be 4% of annual net sales. Backhoe uses the GAAP approach of accruing warranty expense and the related liability) in the year of the sale. The following information relates to the calendar year 2015:
Refer to Exhibit 9-5. The amount of expenditures for warranty costs for 2015 is

A) $80,000.
B) $120,000.
C) $140,000.
D) $240,000.

Question 78

When a contingency must be accrued under IFRS, the charge is referred to as

A) an endowment.
B) a provision.
C) an appropriation.
D) a risk expense.

Question 79

Which of the following statements is true?

A) No loss contingencies should be disclosed if there is just a reasonable possibility of a loss.
B) Indirect guarantees should normally be accrued.
C) In the case of loss contingencies, accrual can be made even if the exact payee and payment date are not known.
D) Losses may be accrued for unasserted claims and other potential unfiled lawsuits.

Question 80

Exhibit 9-5
Backhoe Company estimates its annual warranty costs to be 4% of annual net sales. Backhoe uses the GAAP approach of accruing warranty expense and the related liability) in the year of the sale. The following information relates to the calendar year 2015:
Refer to Exhibit 9-5. The amount of warranty expense for 2015 is

A) $80,000.
B) $120,000.
C) $140,000.
D) $240,000.