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Exam 13: Current Liabilities and Contingencies

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Question 31

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Z Co. filed suit against W, Inc. in 2009 seeking damages for patent infringement. At December 31, 2009, legal counsel for Z believed that it was probable that Z would be successful against W for an estimated amount in the range of $30 million to $60 million, with each amount in that range considered equally likely. Z was awarded $40 million in April 2010. Z should report this award in its 2009 financial statements, issued in March, 2010 as

A) A receivable and unearned revenue of $40 million.
B) A receivable and revenue of $40 million.
C) A disclosure of a gain contingency of $40 million.
D) A disclosure of a gain contingency of an undetermined amount in the range of $30 million to $60 million.SFAS #5 states that gain contingencies should not be recognized in the financial statements until realized.Adequate disclosure should be made in the footnotes but care should be taken to avoid misleading implications as to the likelihood of realization of the contingent gain.

E) B) and C)
F) A) and B)

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Question 32

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Mozart Music Co. began operations in December of 2009. The company sold gift certificates during December in various amounts totaling $1,600. The gift certificates are redeemable for merchandise within 3 years of the purchase date. However, experience within the industry predicts that 90% of gift certificates will be redeemed within one year. Certificates totaling $500 were presented for redemption during 2009 as part of merchandise purchases having a total retail price of $750. Required: (1.) Determine the liability for gift certificates to be reported in the December 31, 2009, balance sheet. (2.) What is the appropriate classification (current or noncurrent) of the liabilities at December 31, 2009? Show calculations.

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Question 33

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Amounts withheld from employees in connection with payroll often represent liabilities to third parties.

Warranty expense is recorded along with the related liability in the reporting period in which the product under warranty is sold.

Bank loans are often arranged in advance as lines of credit. What is a line of credit? How do a committed and a noncommitted line of credit differ?

On June 30, 2009, Chu Industries issued 9-month notes in the amount of $700,000. Assume that interest is payable at maturity in the following three independent cases: Required: Determine the amount of interest expense that should be accrued in a year-end adjusting entry under each assumption: $\begin{array}{l}\text { Interest rate } \quad \text { Fiscal Year End }\\\begin{array} { c c c } \text { 1. } & 9 \% & \text { December } 31 \\\text { 2. } & 6 \% & \text { August } 31 \\\text { 3. } & 12 \% & \text { October } 31\end{array}\end{array}$

Knique Shoes issued a $100,000, 8-month, "noninterest-bearing note." The loan was made by Second Commercial Bank whose stated "discount rate" is 9%. The effective interest rate on this loan is:

Orange Co. can estimate the amount of loss that will occur if a foreign government expropriates some of the company's asset in that country. If expropriation is reasonably possible, a loss contingency should be

During the year, L&M Leather Goods sold 1,000,000 reversible belts under a new sales promotional program. Each belt carried one coupon, which entitles the customer to a $4.00 cash rebate. L&M estimates that 70% of the coupons will be redeemed, even though only 500,000 coupons had been processed during the year. At December 31, L&M should report a liability for unredeemed coupons of:

At the beginning of 2009, Angel Corporation began offering a 2-year warranty on its products. The warranty program was expected to cost Angel 4% of net sales. Net sales made under warranty in 2009 were $180 million. Fifteen percent of the units sold were returned in 2009 and repaired or replaced at a cost of $5.3 million. The amount of warranty expense on Angel's 2009 income statement is:

Assume the same facts as in question 142, except that $2 million in earned travel awards on ALA expired during 2009. What is the expense that ALA should report for its frequent flyer program in its 2009 income statement?

Red Co. can estimate the amount of loss that will occur if a foreign government expropriates some of the company's assets in that country. If expropriation is probable, a loss contingency should be

Current liabilities normally are recorded at their:

On October 1, 2009, Home Builders Company issued a $600,000, 8-month, noninterest-bearing note to the bank. Interest was discounted at a 12% discount rate. Required: 1) Prepare the appropriate journal entry by Home Builders to record the issuance of the note. 2) Determine the effective interest rate. 3) Suppose the note had been structured as a 12% note with interest and principal payable at maturity. Prepare the appropriate journal entry to record the issuance of the note by Home Builders. 4) Prepare the appropriate journal entry on December 31, 2009, to accrue interest expense on the note described in 3. for the 2009 financial statements.

A loss contingency should be accrued in a company's financial statements only if the likelihood that a liability has been incurred is:

Amber Inc. is one of the largest pharmacy retailers in mid-America. In its 2009 annual report to shareholders, it made the following disclosure: In 2000, Amber assigned a number of leases to Bell's Inc. and Home Stores, Inc. as part of the sale of the Company s former Eastern divisions. Amber is contingently liable if Bell's and Home are unable to continue making rental payments on these leases. In 2006, Amber recorded a pretax charge to earnings of $42.7 million to recognize the estimated lease liabilities associated with the Bell's and Home bankruptcies and for a single lease from Amber's former Georgia division. In 2009, Bell's began the liquidation process and Home emerged from bankruptcy and, based on the resolution of various leases, Amber reversed $12.1 million of this accrual. Explain the accounting principle(s) that required Amber to record the $42.7 million charge in 2006 and the $12.1 million reversal in 2009.

Of the following, which typically would not be classified as a current liability?

Large, highly rated firms sometimes sell commercial paper:

Ontario Resources, a natural energy supplier, borrowed $80 million cash on November 1, 2009, to fund a geological survey. The loan was made by Quebec Banque under a short-term credit line. Ontario Resources issued a 9-month, 12% promissory note with interest payable at maturity. Ontario Resources' fiscal period is the calendar year. Required: 1. Prepare the journal entry for the issuance of the note by Ontario Resources. 2. Prepare the appropriate adjusting entry for the note by Ontario Resources on December 31, 2009. Show calculations. 3. Prepare the journal entry for the payment of the note at maturity. Show calculations.

Yummy Rice Cereal offers an all-star bowl in exchange for 3 return box tops. Yummy Rice estimates that 30% will be redeemed. The bowls cost Yummy Rice $1 each. In 2009, 5,000,000 boxes of cereal were sold. By year-end 900,000 box tops had been redeemed. Required: Calculate the liability that Yummy Rice should report at December 31, 2009.