Kế toán, kiểm toán - Chapter 10: A further look at financial statements

CHAPTER 10:A FURTHER LOOK AT FINANCIAL STATEMENTSLO 1: Account for current liabilities.LO 2: Account for instalment notes payable.LO 3: Identify the requirements for the financialstatement presentation and analysis of liabilities.LO 4: Account for bonds payable (Appendix 10A).LEARNING OBJECTIVESPresent obligations resulting from past transactionsClassified as current and non-currentLiabilitiesLiabilities must be settled in the future by transfer of assets or provision of servicesExpected to be paid or settled: Through payment by cash, through the transfer of goods or services or through the creation of other current liabilities Within one year of the date on the statement of financial positionAll other liabilities are classified as non-current (or long-term) liabilitiesCurrent LiabilitiesTypes of current liabilities include:Bank indebtedness from operating lines of creditAccounts payable and accrued liabilitiesUnearned revenueNotes and loans payableSales taxesProperty taxesPayrollCurrent maturities of non-current debtProvisions and contingent liabilitiesCurrent LiabilitiesPre-arranged agreement between a company and a lender to allow the company to borrow up to an agreed-upon amount: To help manage temporary cash shortfallsInterest is charged using a floating (or variable) interest rateSecurity (collateral) may be required by bankWhen used, results in bank indebtednessOperating Line of CreditFederal Goods and Services Tax (GST)Provincial Sales Tax (PST or QST)Combined into one harmonized sales tax (HST) in some provincesSales TaxesMay or may not be included in sale priceMust be remitted periodically to respective governments: When paid, debit Sales Tax Payable account and credit CashSales Tax PayableBusinesses that own property pay property taxes for each calendar year to municipal or provincial governmentsProperty taxes are calculated at a specified rate for every $100 of the assessed value of the propertyProperty TaxesUpon receipt of the property tax bill (assume in March), an expense is recorded for the months that have passed (assume in January and February)Property Taxes PayableWhen paid (assume in May), expense is recorded for additional months that have passed, and prepaid is set up for remaining months Property Taxes Payable (Continued)Prepaid is cleared to expense at the end of yearProperty Taxes Payable (Continued)Three types of liabilities related to employee salaries and wages:Salary or wages owed to employees (known as gross pay)Payroll deductions required to be withheld from employees’ gross payEmployees’ gross pay less payroll deductions is known as net pay (or take home pay)Employer payroll obligationsPayrollMandatory payroll deductions:Canada pension plan (CPP)Employment insurance (EI)Federal and provincial income taxesVoluntary payroll deductions:Benefits such as health and pensionUnion duesCharitable donationsEmployee Payroll DeductionsEmployer’s share of CPP and EI Workers’ compensationEmployee benefits:Compensated absences (vacation, statutory holidays)Employer-sponsored health plans and pensionsEmployer Payroll ObligationsA promise to pay a specified amount either at a future date or on demandOften used instead of accounts payableProvide written documentation, if needed, for legal remediesNormally has interest attached (at a fixed annual rate)Issued for varying periods of time: If due within one year of financial statement date, they are classified as current liabilitiesShort-Term Notes PayableThe portion of non-current (long-term) debt that is due within the current year or operating cycle should be classified as a current liabilityCurrent Maturities of Non-Current DebtEvents with uncertain outcomes:To whom an obligation is owedWhen the obligation may have to be settledWhat amount is needed to settle obligationProvisions are uncertain as to timing or amountRecorded because:Their outcome is probableAmount owed can be estimatedProbable defined as “more likely than not” (IFRS)Contingent liabilities are possible obligations that are dependent upon some future eventUncertainty of the outcome is not considered probable or determinable; or outcome cannot be estimatedNot recorded, only notes to financial statementsUncertain LiabilitiesWhat are some examples of current liabilities a small retail clothing store located in a shopping mall might have?Discussion QuestionObligations to be paid after one year or moreIncludes instalment notes payable, bonds payable, and finance leasesMay be secured or unsecured: Secured notes are known as mortgages if the note has property as collateralNon-Current LiabilitiesNormally repayable in a series of periodic payments called installmentsInstalment payments usually take one of two forms: Fixed principal payments plus interest (fixed or floating interest) Blended principal and interest paymentsInstalment Notes PayableLoan is repayable in equal periodic amounts plus interestTo illustrate, assume that Belanger Ltée borrows $120,000 for five years at 4%: Terms provide for monthly installment payments of $2,000 ($120,000 ÷ 60 months) Monthly interest expense is calculated by multiplying the outstanding principal balance by the interest rateInstalment Payment Schedule— Fixed Principal PaymentsInstalment Payment Schedule — Fixed Principal Payments (Continued)Loan is repayable in equal periodic amounts including interestTo illustrate, assume that instead of fixed principal payments, Belanger Ltée repays its $120,000, 4%, 5-year loan payable in equal monthly installments of $2,210Monthly interest expense is still calculated by multiplying the outstanding principal balance by the interest rateInstalment Payment Schedule— Blended PaymentsInstalment Payment Schedule — Blended Payments (Continued)Current liabilitiesReported as the first category of liabilitiesCan be listed separately on statement of financial position or detailed in the notesNormally listed in order in which they are dueNon-current liabilitiesReport separately in statement of financial position and detail in notesMeasured and reported at amount due when liability is expected to be paidStatement PresentationLiquidity – measures short-term ability to pay maturing obligations and meet unexpected cash needs within the next year:Current ratioInventory turnover ratioReceivables turnover ratioSolvency – measures ability to meet long-term obligations:Debt to total assets Times interest earnedAnalysis of Debt ObligationsIndicates the extent to which a company’s assets are financed by debtTotal AssetsTotal LiabilitiesDebt to Total Assets =Lower is betterDebt to Total AssetsProvides an indication of a company’s ability to meet interest payments as they come due Times Interest Earned =Net Income + Interest Expense +Income Tax Expense (EBIT)Interest ExpenseHigher is betterTimes Interest EarnedTreated as periodic rentals – no assets or liabilities are recordedUsually short-term: If longer-term, considered to be “off-balance-sheet financing”Must be disclosed in the notes to the financial statementsOperating LeasesHow does an operating lease affect the analysis of a company’s solvency?Discussion QuestionA form of interest-bearing notes payableLarge amount is divided into smaller denominations:Makes them attractive to investors Most have a fixed interest rate (coupon rate)May be secured or unsecured (debenture)Payable at maturity (term bonds) or in instalments (serial bonds)Redeemable bonds can be retired before maturityAppendix 10ABonds PayableBonds can be traded on stock exchanges: Bond prices are quoted as a percentage of the face value of the bondsMarket (or effective) interest rate (yield): Rate investors demand for loaning fundsCoupon interest rate: Rate determining amount paid to investorsBond TradingBonds may be issued at:Face valueBelow face value (discount)If market interest rate is higher than coupon rateAbove face value (premium)If market interest rate is lower than coupon rateAccounting for Bond IssuesAccounting for Bond IssuesAssume that Candlestick, Inc. issued five-year $1 million 5% bonds dated January 1 at 100 (100% of face value)Coupon rate equal to market interest rateInvestors pay face valueIssue price of $1,000,000Issuing Bonds at Face ValueThis occurs when investors pays less than the face value of the bond:The coupon rate is too low – investors can get a better rate elsewhereThe bond price must therefore decrease to ensure that the yield (effective interest rate) is competitiveSince the coupon rate is fixed, a lower bond price will result in a higher yieldIssuing Bonds at a DiscountAssume that on January 1, Candlestick, Inc. sells $1 million, five-year, 5% bonds at 98.1417 of face value:Issue price of $981,417 results in a discount of $18,583Issuing Bonds at a Discount (Continued)This occurs when investors pays more than the face value of the bond:The coupon rate is too high – company does not have to offer such a high interest rateThe bond price will therefore increase to ensure that the yield (effective interest rate) is competitiveSince the coupon rate is fixed, a higher bond price will result in a lower yieldIssuing Bonds at a PremiumAssume that on January 1, Candlestick, Inc. sells $1 million, five-year, 5% bonds at 101.9043 of face value:Issue price of $1,019,043 results in a premium of $19,043Issuing Bonds at a Premium (Continued)Accounting for Bond IssuesJournal EntriesPremiums and discounts amortized using effective-interest method:Calculate bond interest expenseCalculate bond interest paidCalculate amortization amountAmortization of Bond Premium or DiscountBond discount (or premium) is allocated to interest expense over the life of the bonds – called amortizing the discount (or amortizing the premium)Difference between interest expense (at the market rate or yield) and interest paid (at the coupon rate) is the discount or premium to be amortizedAmortizing the Discount or PremiumCarrying amount is face value of bond less/plus unamortized discount/premiumDiscount increases until it reaches maturity value; premium decreasesCarrying AmountBonds can be retired at maturity or earlier (by purchasing on the open market)At maturity, the bonds’ carrying amount is equal to their face value:Regardless of the issue price of the bondsAny premium or discount will be fully amortizedNo gain or loss occursAccounting for Bond RetirementsFace value:Amount of principal due at maturityPresent value:Value today of:Bond face value to be received at maturity, andInterest payments to be received periodicallyThe value today is dependent upon when the amounts are to be received, and the market rate of interestDetermining Issue Price of BondsTerminologyIssue price = the present value of all future cash inflows (discounted at market rate of interest)Face value – use Table 1 (PV of $1) to determine the factor to use to calculate the face value of bond= PV factor x face value of bondInterest – use Table 2 (PV of an annuity of $1) to calculate the present value of bond interest= PV annuity factor x periodic interest payment (payment calculated using coupon rate)Sum the two to arrive at the price of the bondDetermining the Price of a Bond—Using Present Value TablesComparing IFRS and ASPECOPYRIGHTCopyright © 2017 John Wiley & Sons Canada, Ltd. 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