Finanical Accounting 9th Edition Solutions Ch9

Chapter 9
Liabilities
Short Exercises
(10 min.) S 9-1
Journal
DATE
2012
July
2013
Apr.
July
ACCOUNTTITLESANDEXPLANATION
DEBIT
31 Inventory
NotePayable,Short-Term
Purchasedinventoryby issuinga
note payable.
11,000
30 InterestExpense($11,000 .12 9/12)..

InterestPayable..
Accruedinterestexpense.
990
CREDIT
11,000
990
31 NotePayable,Short-Term............
InterestPayable
InterestExpense($11,000 .12 3/12)..
Cash
Paid notepayableand interestat
maturity.
11,000
990
330
12,320
Balance Sheet on April 30, 2013:

Notepayable,short-term
$11,000
Interestpayable
990
Chapter 9
Liabilities
9-1
Income Statement, April 30, 2013:

InterestExpense
9-2
Financial Accounting 9/e Solutions Manual
$990
(5-10 min.) S 9-2

Req. 1
2012
2011
Accounts payable turnover:

COGS
Averageaccountspayable
Days payable outstanding:

365
Accountspayableturnover
$2,700,000 = 9
$300,000
$2,500,000 = 10
$250,000
365 = 41 days
9
365 = 37 days
10
Req. 2
Thecompanysliquiditypositionhas deterioratedduring2012.
Chapter 9
Liabilities
9-3
(10 min.) S 9-3

Req. 1
DATE
Journal
DEBIT
Cash($564,000 .40)....
NotesReceivable($564,000 $255,600)..
SalesRevenue
To recordsaleson account.
225,600
338,400
WarrantyExpense($564,000 .05)
EstimatedWarrantyPayable..
To accruewarrantyexpense.
28,200
EstimatedWarrantyPayable...
Cash..
To pay warrantyclaims.
18,000
CREDIT
564,000
28,200
18,000
Req. 2
EstimatedWarrantyPayable
Bal.
18,000
Bal.
13,000
28,200
23,200
(5-10 min.) S 9-4
Warrantyexpense= $28,200
Theexpense recognition principle addressesthis situation.
The warrantyexpensefor the year doesnot necessarilyequal the years cashpayments
for warranties. Cash paymentsfor warranties do not determinethe amount of warranty
expense for that year. Instead, the warranty expense is estimated and deducted from
9-4
revenueduringthe periodof the sale, regardlessof whenthe companypaysfor warranty

claims.
Studentresponsesmayvary.
Chapter 9
Liabilities
9-5
(5-10 min.) S 9-5

1. These are contingent liabilities, because, at the time of the note, Tony Chase, Inc.,
wasnot liablefor any of theseproductlosses.
2. In the United States, the contingencycan becomea real liability if a user of a Tony
Chaseproductsuffersa lossfor whichthe companyis responsible.
Tony Chase must pay for all individual losses up to $3.8 million and all aggregate
losses above $26.3 million. The company is insured against losses between $3.8
millionand$26.3million.
3. Outsidethe UnitedStates,the contingencybecomesa real liability the sameway if
a TonyChaseuser suffersa lossfor whichthe companyis responsible.
Outside the United States, Tony Chase must pay only for losses above $26.3 million
becausethe companyis insuredagainstlossesup to $26.3million.
9-6
(5-10 min.) S 9-6

a. $155,500
($200,000 .7775)
b. $207,000
($200,000 1.0350)
c. $188,500
($200,000 .9425)
d. $205,000
($200,000 1.0250)
(5 min.) S 9-7
a. Discount
b. Premium
c. Par (face)value
d. Discount
Chapter 9
Liabilities
9-7
(5-10 min.) S 9-8

Journal
DATE
2012
a. July
1 Cash..
BondsPayable..
To issuebondat par.
b. Dec. 31 InterestExpense($125,000 .08 6/12).
InterestPayable.
To accrueinterestexpense.
2013
c. Jan.
1 InterestPayable..
Cash.
To pay semiannualintereston bonds.
2019
d. July
1 BondsPayable
Cash.....
To pay bondsat maturity.
9-8
DEBIT
CREDIT
125,000
125,000
5,000
5,000
5,000
5,000
125,000
125,000
(10-15 min.) S 9-9

Req. 1 Amortization table
A
Semiannual
Interest
Date
Interest
Payment
(3%of
Maturity
Value)
Interest
Expense
(4.5%of
Preceding
BondCarrying
Amount)
Discount
Amortization
(B - A)
Mar. 31, 2012
Discount
Account
Balance
(Preceding
(D - C)
Bond
Carrying
Amount
($560,000
- D)
$109,200
$450,800
Sept. 30, 2012
$16,800
$20,286
$3,486
105,714
454,286
Mar. 31, 2013
16,800
20,443
3,643
102,071
457,929
Sept. 30, 2013
16,800
20,607
3,807
98,264
461,736
Req. 2
Journal
DATE
2012
Mar.
31
Sept.
30
DEBIT
Cash($560,000 .805)
Discounton BondsPayable..
BondsPayable.
450,800
109,200
InterestExpense..
Discounton BondsPayable
Cash..
20,286
CREDIT
560,000
3,486
16,800
(10 min.) S 9-10

Req. 1 Borrowed$450,800. Maturityvalueis $560,000.
Req. 2Cashinterestis $16,800.
Chapter 9
Liabilities
9-9
Req. 3InterestexpenseSeptember30, 2012is $20,286.

InterestexpenseMarch31, 2013is $20,443.
(10-15 min.) S 9-11
Req. 1Borrowed$2,925,000:
Journal
DATE
2012
July
1
Cash($3,000,000 .975)
Discounton BondsPayable.
BondsPayable
DEBIT
CREDIT
2,925,000
75,000
3,000,000
Req. 2Payback$3,000,000at maturity,July 1, 2022.

Req. 3Cashinterestis $120,000($3,000,000 8% 6/12) eachsix months.
Req. 4Interestexpenseis $123,750[$120,000+ ($75,000/ 20)]
Journal
DATE
2012
Dec.
31
2013
Jan.
1
9-10
DEBIT
InterestExpense....................................
Discounton BondsPayable...............
InterestPayable................................
123,750
InterestPayable.....................................
Cash...............................................
120,000
CREDIT
3,750
120,000
120,000
(10-15 min.) S 9-12

Req. 1
Wal Mart
Stores
Best Buy
Co.
5
Leverage
ratio
6 Total debt
7
Debtratio
Times
interest
earned
$17,849/ $7,292
$17,849- $7,292
$10,557/ $17,849
$2,114/ $87
2.45
$180,663/ $71,247
2.53
$10,557 $180,663- $71,247

.59
24.2 times
$109,416
$109,416/ $180,663
$25,542/ $1,928
.60
13.2 times
Req. 2
Bothcompaniesdebt-payingabilitiesare strong. Fromthe standpointof leverage(debt)
the companiesare aboutequal. However,Best Buyhas a strongertimes-interest-earned
ratio (24.2 vs. 13.2).
Chapter 9
Liabilities
9-11
(10-15 min.) S 9-13

PlanA
Issue$1,000,000of
7% BondsPayable
Net incomebeforeexpansion...........................
PlanB
Issue$1,000,000
of CommonStock
$400,000
$400,000
Projectincomebeforeinterest
andincometax..........................................
$ 100,000
$100,000
Less:interestexpense($1,000,000 .07)
(70,000)
-0-
Projectincomebeforeincometax.....................
30,000
100,000
Lessincometax expense(30%)........................
(9,000)
(30,000)
Projectnet income..........................................
21,000
70,000
Total companynet income...............................
$421,000
$470,000
Earningsper shareincludingexpansion:
PlanA ($421,000/ 100,000shares)...............
PlanB ($470,000/ 200,000shares)...............
$4.21
$2.35
Recommendation: To increase earnings per share, Wavetown Marina should borrow the
money.
9-12
(5-10 min.) S 9-14

Req. 1
Leverage
ratio
$100.0/ $40.0 = 2.5
Thismeansthat Evensonhas $2.50of assetsfor everydollar of

stockholdersequity.
Debtratio
$60.0/ $100.0 = .60
Thismeansthat Evensonhas $.60 in liabilities(debt)for everydollar of

assets.
Timesinterestearned
$4.1 / $1.1 = 3.73 times
Thismeansthat for everydollar of interestexpenseEvensonhas
earned$3.73of operatingincome.
Evensonsdebt ratio is aboutaverageandcancoverits existinginterest

expense. I wouldbe willingto lendEvenson$1 million.
Chapter 9
Liabilities
9-13
(10 min.) S 9-15

LIABILITIES
Current:
Accountspayable..
$ 33,000
Currentportionof bondspayable.
56,000
Interestpayable..
1,700
Total currentliabilities.
90,700
Longterm:
Notespayable,long-term.
125,000
Bondspayable
$375,000
Less:Discounton bondspayable.
(11,250)
Total liabilities.
9-14
363,750
$579,450
Exercises
(5-15 min.) E 9-16A
Req. 1
Journal
DATE
DEBIT
8,880
Cash..
7,000
CREDIT
8,880
7,000
Req. 2
INCOMESTATEMENT
Salesrevenue
Warrantyexpense
$111,000
8,880
BALANCESHEET
Currentliabilities
Estimatedwarrantypayable
($5,000+ $8,880 $7,000)
$ 6,880
Req. 3
Estimated warranty payable, a current liability, will cause a companys current ratio to
decrease.
Chapter 9
Liabilities
9-15
(10-15 min.) E 9-17A

Journal
DATE
2012
Oct.
Nov.
Dec.
DEBIT
1 Cash
UnearnedSubscriptionRevenue...
SalesTax Payable($2,400 .09)
2,616
15 SalesTax Payable...
Cash..
216
31 UnearnedSubscriptionRevenue
SubscriptionRevenue($2,400 3/12)..
600
CREDIT
2,400
216
216
600
BALANCESHEET
Currentliabilities:
Unearnedsubscriptionrevenue($2,400 $600)
$1,800
(10 min.) E 9-18A

INCOMESTATEMENT
Expenses:
Payroll expense.
$150,000
Payroll tax expense($150,000 .08)
12,000
BALANCESHEET
Currentliabilities:
Salarypayable
Payroll tax payable...
9-16
$7,500
700
(5-10 min.) E 9-19A

Req. 1
Accruedinterest,
Dec. 31, 2012
$85,000 .08 9/12
$85,000+ ($85,000 .08)
$5,100
Req. 2
Final payment
on April 1, 2013
= $91,800
Req. 3
Interestexpensefor:
2012 =
2013 =
$85,000 .08 9/12

$85,000 .08 3/12
=
=
Chapter 9
$5,100
$1,700
Liabilities
9-17
(10-15 min.) E 9-20A

Olsensbalancesheetat December31, 2013, reported:
Incometax payable.......................................................
$166,000*
Olsens2013incomestatementreported:
Incometax expense($900,000 .29)...............................
$261,000
Beginningincometax payable......................
Incometax expense(andpayable)for the year..............
$900,000 .29)...................................................................
Incometax paymentsduringthe year....................................
Endingincometax payable..................................................
$150,000
_____
*
+
9-18
261,000
(245,000)
$166,000
(10-20 min.) E 9-21A

Req. 1
Accounts payable are amounts owed to suppliers for products or services that have
beenpurchasedon account.
Accrued expenses are expenses that the companyhas incurred but not yet paid. They
are liabilitiesfor expensessuchas interestandincometaxes.
Employeecompensation and benefits are amounts owed to employeesfor salaries and
otherpayroll-relatedexpenses.
Current portion of long-term debt is next years payment on the companys long-term
debt.
Long-term debt is the amount of long-term notes and bonds payable that the company
expectsto pay after the comingyear.
Postretirement benefits are the companys liabilities for providing benefits mainly
healthcare to retirees.
The other liabilities are a catch-all group of liabilities that do not fit one of the more
specific categories.The other liabilitiesare long-term, as shownby the fact that they are
not listedamongthe currentliabilities.
Chapter 9
Liabilities
9-19
(continued) E 9-21A
Req. 2
Total assets= $3,714million,the sumof total liabilitiesand
stockholdersequity.
(in millions)
2012
Leverage
=
ratio
Debtratio
Total assets($3,714)
Total stockholdersequity($1,951)
Total liabilities($3,714 $1,951)*
= 1.90
= 0.47
For 2011,the leverageratio was2.26 andthe debt ratio was.56.

Boththe leverageratio and debt ratio improvedin 2012. Therefore,the company
improved.
____
*Or, $259+ $1,394+ $102+ $8 = $1,763
Req. 3
2012
Accounts
payable
turnover
Cost of goodssold
AverageAccounts
payable
$1,656
$146
= 11.3
*($110+ $182) / 2
Dayspayable
outstanding
365
Accts.payable
turnover
365
11.3
Current
ratio
Currentassets
Currentliabilities
$661
$259
9-20
= 32.3
= 2.55
2011
$1,790
$186 = 9.6
**($182+ $190)/ 2
365
9.6
$600
$394
= 38.0
= 1.52
Thecompanysability to coveraccountspayableand currentliabilitiesover the year

improved.
Chapter 9
Liabilities
9-21
(5-10 min.) E 9-22A

Req. 1
SmithSecuritySystemsshouldreport this situationin a note to the financialstatements.
Thenoteshouldconveyessentiallythe samemessagegivenin Note14.
Req. 2
Smithwouldreport:
INCOMESTATEMENT
Estimatedloss (or expense)
$3,000,000
BALANCESHEET
Estimatedliability
$3,000,000
Thenotedisclosurewouldbe similarto Requirement1.

Journal
DATE
2012
EstimatedLossfromDamageClaim
EstimatedLiabilityfromDamageClaim
9-22
DEBIT
CREDIT
3,000,000
3,000,000
(15-20 min.) E 9-23A

Banff Electronics
BalanceSheet(partial)
March31, 2012
Currentliabilities:
a. Estimatedwarrantypayable
[$35,000+ ($2,400,000 .04) $57,000]...............................
$ 74,000
b. Currentportionof long-termnote payable...............................
16,250
Interestpayable($65,000 .07 1/12).....................................
379
c. Unearnedsalesrevenue($100,000 $85,000)..........................
15,000
d. Employeewithheldincometax payable..................................
30,900
FICAtax payable($320,000 .0765).....................................
24,480
Total currentliabilities......................................................
$161,009
Long-termliabilities:
Notepayable($65,000 $16,250)............................................
Chapter 9
$ 48,750
Liabilities
9-23
(10-15 min.) E 9-24A

Req. 1
Journal
DATE
2012
a. Jan.
b. July
c. Dec.
9-24
DEBIT
31 Cash($8,000,000 0.96)............................
Discounton BondsPayable.......................
BondsPayable.....................................
To issuebondsat a discount.
7,680,000
320,000
31 InterestExpense......................................
Cash($8,000,000 .07 6/12)................
($320,000/ 10)..................................
To pay interestand amortizebonds.
312,000
31 InterestExpense......................................
InterestPayable
($8,000,000 .07 5/12)....................
($320,000/ 10 5/6)..........................
To accrueinterestand amortizebonds.
260,000
CREDIT
8,000,000
280,000
32,000
233,333
26,667
(10-15 min.) E 9-25A
1. Cashreceived= $100,000 1.05 =
$105,000
2. Principal
Interest($100,000 .07 20)..............
Total cashpaid
$100,000
140,000
$240,000
3. Total cashpaid
Less: Cashreceived....
Difference= Total interestexpense...
$240,000
(105,000)
$135,000
4. Annualinterestexpenseby the straight-line amortizationmethod:

$100,000 (1.05 1.00)
20
$100,000 .07
same
$7,000
Cashinterestpayment
$250
$ 6,750
Premiumamortization
20 years
Total interestexpenseover the life of the bonds
$135,000
Chapter 9
Liabilities
9-25
(15-20 min.) E 9-26A

Req. 1 (amortization table)
A
SEMIANNUAL
INTEREST
DATE
INTEREST
PAYMENT
(2 % OF
MATURITY
VALUE)
B
INTEREST
EXPENSE
(3%OF
PRECEDING
BOND
CARRYING
AMOUNT)
DISCOUNT
AMORTIZATION
(B A)
DISCOUNT
ACCOUNT
BALANCE
(PRECEDING
D C)
BONDCARRYING
AMOUNT
($4,000,000 D)
$297,550
$3,702,450
Dec. 31, 2012

June30, 2013
$100,000
$111,073
$ 11,073
286,477
3,713,524
Dec. 31, 2013
100,000
111,406
11,406
275,071
3,724,929
June30, 2014
100,000
111,748
11,748
263,323
3,736,677
Dec. 31, 2014
100,000
112,100
12,100
251,223
3,748,777
DEBIT
Req. 2
Journal
DATE
2012
Dec. 31 Cash
BondsPayable
2013
June 30 InterestExpense........................................
Cash....................................................
Discounton BondsPayable....................
To pay semiannualinterestand
amortizebonds.
2013
Dec. 31 InterestExpense........................................
Cash....................................................
Discounton BondsPayable....................
9-26
CREDIT
3,702,450
297,550
4,000,000
111,074
100,000
11,074
111,406
100,000
11,406
amortizebonds.
Chapter 9
Liabilities
9-27
(15-20 min.) E 9-27A

A
SEMIANNUAL
INTEREST
DATE
INTEREST
PAYMENT
(4%OF
MATURITY
VALUE)
B
INTEREST
EXPENSE
(4%OF
PRECEDING
BOND
CARRYING
AMOUNT)
PREMIUM
AMORTIZATION
(A B)
PREMIUM
ACCOUNT BONDCARRYING
BALANCE
AMOUNT
(PRECEDING ($4,000,000+ D)
D C)
June30, 2012
$395,800
$4,395,8001
4,391,632
Dec. 31, 2012
$180,000
$175,832
$4,168
391,632
June30, 2013
180,000
175,665
4,335
387,297
4,387,297
Dec. 31, 2013
180,000
175,492
4,508
382,789
4,382,789
June30, 2014
180,000
175,312
4,688
378,101
4,378,101
_____
$4,000,000 1.09895= $4,395,800
Req. 2 (journal entries)

Journal
DATE
2012
June 30 Cash($4,000,000 1.09895)..
BondsPayable.......
Premiumon BondsPayable
To issuebondsat a premium.
Dec.
31 InterestExpense..
Premiumon BondsPayable.
Cash..
To pay semiannualinterestand amortizebonds.
2013
9-28
DEBIT
CREDIT
4,395,800
4,000,000
395,800
175,832
4,168
180,000
June
30 InterestExpense.
Premiumon BondsPayable.......
Cash.
175,665
4,335
180,000
Chapter 9
Liabilities
9-29
(15-20 min.) E 9-28A
1
2
3
4
Date
Interest
Payment
Interest
Expense
Discount
Amortization
Discount
Balance
F
Bond
Carrying
Amount
$21,071
$278,929
5 Jan. 1, 2012
6 Dec. 31, 2012
$18,000
$19,525
$1,525
19,546
280,454
7 Dec. 31, 2013
18,000
19,632
1,632
17,914
282,086
8 Dec. 31, 2014
18,000
19,746
1,746
16,168
283,832
9 Dec. 31, 2015
18,000
19,868
1,868
14,300
285,700
10 Dec. 31, 2016
18,000
19,999
1,999
11 Dec. 31, 2017
18,000
20,139
2,139
10,162
289,838
12 Dec. 31, 2018
18,000
20,289
2,289
7,873
292,127
13 Dec. 31, 2019
18,000
20,449
2,449
5,424
294,576
14 Dec. 31, 2020
18,000
20,620
2,620
2,804
297,196
15 Dec. 31, 2021
18,000
20,804
2,804
300,000
12,301
Note: Computer-generatedsolutionsmaycontainslightroundingdifferences.
9-30
287,699
(15-20 min.) E 9-29A

Req. 1
The company has the right to occupy space and operate out of leased stores for
several years to come. In return, the company is obligated to make payments
amountingto over $2.6 billiondollarsto variouslandlords(lessors).
Req. 2
The rights and obligations discussed in Req. 1 are classified as operating leases and
are not reported on the balancesheet. Omitting them from the balance sheet improves
(lowers)the companysdebt and leverageratios.
Req. 3
In the future, the FASB and IASB are proposing to eliminate most operating leases. If
this rule change occurs, companies like Abercrombie and Fitch Co. will have to
capitalize leased property as assets and also record the related lease obligations as
liabilities.
Chapter 9
Liabilities
9-31
(20-25 min.) E 9-30A

Amounts in millions or billions
Company Company Company
B
N
V
Ratio
Current
ratio
Total currentassets
Total currentliabilities
B
Debt
=== =
ratio
Total liabilities*
Total assets**
5,321
2,217
144,720
72,000
= 1.89
= 2.40
= 2.01
$227+ $77
$429+ $81
2,217+ 2,277
5,321+ 592
= 0.60
= 0.76
Total assets
Leverage
=
=
ratio
Tot. stockholdersequity
72,000+ 111,177
144,720+ 65,828
= 0.87
$510
$206
5,913
1,419
= 2.48
TimesinterestOperatingincome
=
earned
Interestexpense
ratio
$429
$227
= 4.17
V
210,548
27,371
= 7.69
$295
$41
230
27
5,646
655
= 7.2 times
= 8.5 times
= 8.6 times
_____
Assets
Liabilities
9-32
$510
$304
5,913
4,494
210,548
183,177
Basedon theseratio values,CompanyN looksthe least risky.
Chapter 9
Liabilities
9-33
(15-20 min.) E 9-31A

Req. 1
PLANB
PLANA
ISSUE
BORROW
$600,000
$600,000
OF COMMON
STOCK
AT 6%
Net incomebeforeexpansion
$300,000
$300,000
Projectincomebeforeinterestand incometax
$500,000
$500,000
Lessinterestexpense($600,000 .06).
36,000
-0-
Projectincomebeforeincometax.
464,000
500,000
Less:incometax expense(25%)
(116,000)
(125,000)
Projectnet income.
348,000
375,000
Total companynet income
$648,000
$675,000
Earningsper shareincludingnewproject:
PlanA ($648,000/ 100,000shares)..................
PlanB ($675,000/ 225,000shares)........................
9-34
$6.48
$3.00
(continued) E 9-31A
Req. 2
MEMORANDUM
TO:
Boardof Directorsof PrimeNationFinancialServices
FROM:
StudentName
SUBJECT:
Financingplanto expandoperations
Plan A (borrowing) results in much higher earnings per share. Plan A also allows the
existing stockholdersto retain control of the companybecausethe companyissues no
new stock. But Plan A also creates more financial risk becauseborrowingobligates the
companyto pay the interest and the principal of the debt. I prefer Plan A, assumingthe
companyslevel of debt is not alreadytoo high.
Students can defend either plan based on their preferencesfor control of the business,
avoidanceof risk, andhigherearningsper share.
Chapter 9
Liabilities
9-35
(5-15 min.) E 9-32B

Req. 1
Journal
DATE
DEBIT
15,840
Cash..
9,000
CREDIT
15,840
9,000
Req. 2
INCOMESTATEMENT
Salesrevenue
Warrantyexpense
$176,000
15,840
BALANCESHEET
Currentliabilities
Estimatedwarrantypayable
($2,000+ $15,840 $9,000).....
$ 8,840
Req. 3
Estimated warranty payable, a current liability, will cause a companys current ratio to
decrease.
9-36
(10-15 min.) E 9-33B

Journal
DATE
2012
Oct.
Nov.
Dec.
DEBIT
1 Cash
UnearnedSubscriptionRevenue...
SalesTax Payable($2,100 .07)
2,247
15 SalesTax Payable...
Cash..
147
31 UnearnedSubscriptionRevenue
SubscriptionRevenue($2,100 3/12)..
525
CREDIT
2,100
147
157
525
BALANCESHEET
Currentliabilities:
Unearnedsubscriptionrevenue($2,100 $525)
$1,575
(10 min.) E 9-34B

INCOMESTATEMENT
Expenses:
Payroll expense.
$190,000
Payroll tax expense($190,000 .08)
15,200
BALANCESHEET
Currentliabilities:
Salarypayable
$ 8,000
Payroll tax payable...
750
Chapter 9
Liabilities
9-37
(5-10 min.) E 9-35B

Req. 1
Interestto
accrueat
Dec. 31, 2012
Final payment
on October1, 2013
$84,000 .07 3/12
$1,470
Req. 2
$84,000+ ($84,000 .07)
Req. 3
Interestexpensefor:
. =
2013 =
9-38
$84,000 .07 3/12

$84,000 .07 9/12
=
=
$1,470
$4,410
$89,880
(10-15 min.) E 9-36B

McKinleysbalancesheetat December31, 2013reported:
Incometax payable...
$436,000*
McKinleys2013incomestatementreported:
Incometax expense($1,600,000 .36)
$576,000
_____
*
Beginningincometax payable..
+ Incometax expense(andpayable)for the year
($1,600,000 .36)
Incometax paymentsduringthe year.
= Endingincometax payable
$210,000
576,000
(350,000)
$436,000
Chapter 9
Liabilities
9-39
(10-20 min.) E 9-37B

Req. 1
Accounts payable are amounts owed to suppliers for products or services that have
beenpurchasedon account.
Accrued expenses are expenses that the companyhas incurred but not paid. They are
liabilitiesfor expensessuchas interestand incometaxes.
Employeecompensation and benefits are amounts owed to employeesfor salaries and
otherpayroll-relatedexpenses.
Current portion of long-term debt is next years payment on the companys long-term
debt.
Long-term debt is the amount of long-term notes and bonds payable that the company
expectsto pay after the comingyear.
Postretirement benefits are the companys liabilities for providing benefits mainly
healthcare to retirees.
The other liabilities are a catch-all group of liabilities that do not fit one of the more
specific categories.The other liabilitiesare long-term, as shownby the fact that they are
not listedamongthe currentliabilities.
9-40
(continued) E 9-37B
Req. 2
Total assets= $4,050million,the sumof total liabilitiesand
stockholdersequity.
(in millions)
2012
Leverage
ratio
Debtratio
Total stockholdersequity($2,027)
Total liabilities($4,050 $2,027)*
= 2.0
= 0.50
For 2011,the leverageratio was2.23 andthe debt ratio was.55.

Boththe leverageratio and debt ratio improved. Therefore,the companyimproved.
____
*Or, $368+ $1,497+ $138+ $20 = $2,023
Req. 3
2012
Accounts
payable
turnover
Cost of goodssold
Averageaccounts
payable
$1,885
$159*
= 11.8
*($137+ $181) / 2
Dayspayable
outstanding
365
Accts.payable
turnover
365
11.8
Current
ratio
Currentassets
Currentliabilities
$643
$368
2011
$2,196
$188** = 11.6
**($181+ $195)/ 2
= 30.9
= 1.75
365
11.6
= 31.5
$610
$376
Chapter 9
= 1.62
Liabilities
9-41
Thecompanysability to coveraccountspayableand currentliabilitiesover the year

improved.
9-42
(5-10 min.) E 9-38B

Req. 1
Clark SecuritySystemsshouldreport this situationin a note to the financial statements.
Thenoteshouldconveyessentiallythe samemessagegivenin Note14.
Req. 2
Clarkwouldreport:
INCOMESTATEMENT
Estimatedloss (or expense)
$2,000,000
BALANCESHEET
Estimatedliability
$2,000,000
Thenotedisclosurewouldbe similarto Requirement1.
Journal
DATE
2012
EstimatedLossfromDamageClaim
EstimatedLiabilityfromDamageClaim
DEBIT
CREDIT
2,000,000
2,000,000
Chapter 9
Liabilities
9-43
(15-20 min.) E 9-39B

JasperElectronics
BalanceSheet(partial)
June30, 2012
Currentliabilities:
a. Estimatedwarrantypayable
[$36,000+ ($2,100,000 .06) $51,000]
$111,000
b. Currentportionof long-termnote payable...
11,250
Interestpayable($45,000 .07 1/12)
263
c. Unearnedsalesrevenue($130,000 $75,000).
55,000
d. Employeewithheldincometax payable.
30,300
FICAtax payable($300,000 .0765)
22,950
Total currentliabilities..
$230,763
Notepayable($45,000 $11,250)........
9-44
$ 33,750
(10-15 min.) E 9-40B

Req. 1
Journal
DATE
a. Jan. 31 Cash($9,000,000 0.93)

BondsPayable...
DEBIT
CREDIT
8,370,000
630,000
9,000,000
b. July 31 InterestExpense.......................................
Cash($9,000,000 .09 6/12).................
($630,000/ 20)...................................
436,500
c. Dec. 31 InterestExpense.......................................
InterestPayable
($9,000,000 .09 5/12).....................
($31,500 5/6)...................................
To accrueinterestandamortizebonds.
363,750
405,000
31,500
337,500
26,250
Chapter 9
Liabilities
9-45
(10-15 min.) E 9-41B
1. Cashreceived= $300,000 1.01 =
$303,000
2. Principal
$300,000
Interest($300,000 .06 20)..............
360,000
Total cashpaid
$660,000
3. Total cashpaid
$660,000
Less: Cashreceived...
(303,000)
Difference= Total interestexpense...
$357,000
4. Annualinterestexpenseby the straight-line amortizationmethod:

$300,000 (1.01 1.00)
20
$300,000 .06
same
$18,000
Cashinterestpayment
$150
$ 17,850
Premiumamortization
20 years
Total interestexpenseover the life of the bonds
9-46
$357,000
(15-20 min.) E 9-42B

A
SEMIANNUAL
INTEREST
DATE
INTEREST
PAYMENT
(6%OF
MATURITY
VALUE)
B
INTEREST
EXPENSE
(7%OF
PRECEDING
BOND
CARRYING
AMOUNT)
DISCOUNT
AMORTIZATION
(B A)
DISCOUNT
BALANCE
AMOUNT
(PRECEDING ($3,200,000 D)
D C)
Dec. 31, 2012

June30, 2013
$192,000
Dec. 31, 2013
192,000
June30, 2014
192,000
Dec. 31, 2014
192,000
$200,270
200,849
201,468
202,131
$339,000
$2,861,000
$8,270
330,730
2,869,270
8,849
321,881
2,878,119
9,468
312,413
2,887,587
302,282
2,897,718
10,131
Req. 2
Journal
DATE
2012
Dec. 31 Cash...........................................................
Discounton BondsPayable...........................
BondsPayable........................................
2013
June 30 InterestExpense..........................................
Cash.......................................................
Discounton BondsPayable......................
amortizebonds.
2013
Dec. 31 InterestExpense..........................................
Cash.......................................................
Discounton BondsPayable......................
DEBIT
CREDIT
2,861,000
339,000
3,200,000
200,270
192,000
8,270
200,849
192,000
8,849
Chapter 9
Liabilities
9-47
amortizebonds.
9-48
(15-20 min.) E 9-43B

A
SEMIANNUAL
INTEREST
DATE
INTEREST
PAYMENT
(4%OF
MATURITY
VALUE)
B
INTEREST
EXPENSE
(3-1/2%OF
PRECEDING
BOND
CARRYING
AMOUNT)
PREMIUM
AMORTIZATION
(A B)
PREMIUM
BALANCE
AMOUNT
(PRECEDING ($1,600,000+ D)
D C)
June30, 2012
$188,000
$1,788,000
Dec. 31, 2012
$64,000
$62,580
$1,420
186,580
1,786,580
June30, 2013
64,000
62,530
1,470
185,110
1,785,110
Dec. 31, 2013
64,000
62,479
1,521
183,589
1,783,589
June30, 2014
64,000
62,426
1,574
182,015
1,782,015
DEBIT
_____
$1,600,000 1.1175= $1,788,000
Req. 2 (journal entries)

Journal
DATE
2012
June 30 Cash($1,600,000 1.1175)..
BondsPayable
To issuebondsat a premium.
Dec.
31 InterestExpense.
Cash.
CREDIT
1,788,000
1,600,000
188,000
62,580
1,420
64,000
2013
Chapter 9
Liabilities
9-49
June
9-50
30 InterestExpense.
Premiumon BondsPayable....
Cash..
62,530
1,470
64,000
(15-20 min.) E 9-44B

A
Bond
2
3
Date
Interest
Interest
Discount
Discount
Carrying
Payment
Expense
Amortization
Balance
Amount
$33,120
$416,880
4
5 Jan. 1, 2012
6 Dec. 31, 2012
$22,500
$25,013
$2,513
30,607
419,393
7 Dec. 31, 2013
22,500
25,164
2,664
27,943
422,057
8 Dec. 31, 2014
22,500
25,323
2,823
25,120
424,880
9 Dec. 31, 2015
22,500
25,493
2,993
22,127
427,873
10 Dec. 31, 2016
22,500
25,672
3,172
11 Dec. 31, 2017
22,500
25,863
3,363
15,592
434,408
12 Dec. 31, 2018
22,500
26,064
3,564
12,028
437,972
13 Dec. 31, 2019
22,500
26,278
3,778
8,250
441,750
14 Dec. 31, 2020
22,500
26,505
4,005
4,245
445,755
15 Dec. 31, 2021
22,500
26,745
4,245
0*
450,000*
18,955
431,045
*Note: Computer-generatedsolutionsmaycontainslightroundingdifferences.
Chapter 9
Liabilities
9-51
(15-20 min.) E 9-45B

Req. 1
The company has the right to occupy space and operate out of leased stores for
several years to come. In return, the company is obligated to make payments
amountingto over $1 billion dollars to variouslandlords(lessors). A very small portion
of thesepaymentsmaybe offsetby receiptsfromsub-leasesto othertenants.
Req. 2
The rights and obligations discussed in Req. 1 are classified as operating leases and
are not reported on the balancesheet. Omitting them from the balance sheet improves
(lowers)the companysdebt and leverageratios.
Req. 3
In the future, the FASB and IASB are proposing to eliminate most operating leases. If
this rule change occurs, companies like Ann Taylor Stores Corporation will have to
capitalize leased property as assets and also record the related lease obligations as
liabilities.
9-52
(20-25 min.) E 9-46B

Amounts in millions or billions
Compan
y
Company
K
R
Company
Ratio
Current
Total currentassets
=
ratio
Debt
Total liabilities
=
ratio
Total assets
5,383
2,197
148,526
72,100
= 2.10
= 2.45
= 2.06
$207+ $107
$434+ $96
2,197+ 2,318
5,383+ 405
= 0.59
= 0.78
Total assets
Leverage
=
=
ratio
Tot. stockholdersequity
Timesinterest- Operatingincome
=
earned
Interestexpense
ratio
$434
$207
R
72,100+ 110,107
148,526+ 49,525
= 0.92
$530
$216
5,788
1,273
R
198,051
15,844
= 2.45
= 4.55
= 12.50
$292
$46
224
33
5,592
736
= 6.4 times
= 6.8 times
= 7.6 times
_____
Assets
$530
5,788
198,051
Chapter 9
Liabilities
9-53
Liabilities
$314
4,515
Basedon theseratio values,CompanyK looksthe least risky.
9-54
182,207
(15-20 min.) E 9-47B

Req. 1
PLANA
BORROW
$900,000
AT 10%
PLANB
ISSUE
$900,000
OF COMMON
STOCK
Net incomebeforeexpansion..
$600,000
$600,000
Projectincomebeforeinterestand incometax..
$800,000
$800,000
Less:interestexpense($900,000 .10)
(90,000)
-0-
Projectincomebeforeincometax.
710,000
800,000
Less:incometax expense(40%)
(284,000)
(320,000)
Projectnet income..
426,000
480,000
Total companynet income.
$1,026,000
$1,080,000
Earningsper shareincludingnewproject:
PlanA ($1,026,000/ 200,000shares)
$5.13
PlanB ($1,080,000/ 450,000shares)...
$2.40
Chapter 9
Liabilities
9-55
(continued) E 9-47B
Req. 2
MEMORANDUM
TO:
Boardof Directorsof UnitedNationFinancialServices
FROM:
SUBJECT:
StudentName
Financingplanto expandoperations
Plan A (borrowing) results in much higher earnings per share. Plan A also allows the
existing stockholdersto retain control of the companybecausethe companyissues no
new stock. But Plan A also creates more financial risk becauseborrowingobligates the
companyto pay the interest and the principal of the debt. I prefer Plan A, assumingthe
companyslevel of debt is not alreadytoo high.
Students can defend either plan based on their preferencesfor control of the business,
avoidanceof risk, andhigherearningsper share.
9-56
Quiz
Q9-48
Q9-49
Q9-50
Q9-51
Q9-52
Q9-53
Q9-54
Q9-55
Q9-56
Q9-57
Q9-58
Q9-59
Q9-60
Q9-61
[($650,000+ $850,000) .07] $5,200 $42,500= $57,300
($400,000 .13) + [($400,000 $388,000)/ 10] = $53,200
InterestExpense..
($12,000/ 10 9/12)
InterestPayable($400,000 .13 9/12)...
39,900
InterestPayable..................
InterestExpense..
($12,000/ 10 3/12).
Cash($400,000 .13)...........
39,000
13,300
Q9-62
Q9-63
Q9-64
Q9-65
Q9-66
900
39,000
300
52,000
($295,000 x .07) = $20,650)
Chapter 9
Liabilities
9-57
9-58
Problems
(15-20 min.) P 9-67A

a. Salestax payable($150,000 .06)..................
$9,000
b. Notepayable,short-term..................
$81,000
Interestpayable($81,000 .04 4/12)..................
1,080
c. Unearnedservicerevenue($3,000 4/6)..................
$1, 000
d. Estimatedwarrantypayable
($11,300+ $32,000 $34,500)................. ...
$8,800
e. Portionof long-termnotepayabledue
withinone year.................. .
$20,000
Interestpayable($100,000 .06).................. ..
6,000
Chapter 9
Liabilities
9-59
(30-40 min.) P 9-68A

Journal
DATE
DEBIT
2012
Mar.
3 Inventory.............................................................
NotePayable,Short-term...................................
50,000
May
31 Cash...................................................................
NotePayable,Short-term...................................
NotePayable,Long-term...................................
85,000
3 NotePayable,Short-term.......................................
InterestExpense($50,000 .08 6/12)
Cash...............................................................
50,000
2,000
31 WarrantyExpense($196,000 .025)........................
EstimatedWarrantyPayable..............................
4,900
31 InterestExpense($85,000 .08 7/12)

InterestPayable...............................................
2013
May 31 NotePayable,Short-term.......................................
InterestPayable...................................................
InterestExpense($85,000 .08 5/12)
Cash...............................................................
3,967
Sept.
Dec.
9-60
CREDIT
50,000
17,000
68,000
52,000
4,900
3,967
17,000
3,967
2,833
23,800
(20-25 min.) P 9-69A

Req. 1
Journal
DATE
2012
a. May 31 Cash($7,000,000 1/2)......
BondsPayable.
To issuebondsat par.
b. Nov. 30 InterestExpense......
Cash($3,500,000 .09 6/12).
To pay intereston bonds.
c. Dec. 31 InterestExpense
($3,500,000 .09 1/12)..
InterestPayable......
To accrueinterest.
2013
d. May 31 InterestPayable.
InterestExpense
($3,500,000 .09 5/12)..
Cash($3,500,000 .09 6/12)..
DEBIT
CREDIT
3,500,000
3,500,000
157,500
157,500
26,250
26,250
26,250
131,250
157,500
Req. 2 (reporting the liabilities on the balance sheet at

December 31, 2012)
Currentliabilities:
Interestpayable.....................................................
$ 26,250
Bondspayable......................................................
$3,500,000
Chapter 9
Liabilities
9-61
9-62
30-40 min.) P 9-70A

Req. 1
The 6% bondsissuedwhenthe market interest rate is 5% will be priced at a premium.
They are relativelyattractivein this market, so investorswill pay a price abovepar value
to acquirethem.
Req. 2
The 6% bondsissuedwhen the market interest rate is 7% will be priced at a discount.
Theyare relativelyunattractivein this market,so investorswill pay less thanpar valueto
acquirethem.
Chapter 9
Liabilities
9-63
(continued) P 9-70A
Req. 3
Journal
DATE
2012
a. Feb. 28 Cash($900,000 .96)......................................
Discounton BondsPayable.............................
BondsPayable...........................................
b. Aug.
c. Dec.
DEBIT
CREDIT
864,000
36,000
900,000
31 InterestExpense.............................................
Cash($900,000 .06 6/12).........................
($36,000/ 20)...........................................
28,800
InterestPayable($27,000 4/6)....................
($1,800 4/6)...........................................
19,200
2013
d. Feb. 28 InterestPayable(fromDec. 31).
InterestExpense.............................................
Cash($900,000 .06 6/12).........................
($1,800 2/6)...........................................
27,000
1,800
18,000
1,200
18,000
9,600
27,000
600

December 31, 2012)
Currentliabilities:
Interestpayable.
9-64
$ 18,000
Bondspayable...
Less: Discounton bondspayable
($36,000 $1,800- $1,200)..
$900,000
(33,000)
Chapter 9
867,000
Liabilities
9-65
(30-40 min.) P 9-71A

Req. 1
Journal
DATE
2012
Jan. 1 Cash($4,000,000 .95)......................................
Discounton BondsPayable...............................
BondsPayable...
July
DEBIT
3,800,000
200,000
4,000,000
1 InterestExpense..............................................
Cash($4,000,000 .06 6/12)........................
($200,000/ 20)...........................................
130,000
Dec. 31 InterestExpense..............................................
InterestPayable
($4,000,000 .06 6/12)..............................
Discounton BondsPayable..............
To accrueinterestand amortizebonds.
2013
Jan. 1 InterestPayable...............................................
Cash...........................................................
To pay interest.
2022
Jan. 1 BondsPayable.................................................
Cash...........................................................
To pay bondsat maturity.
130,000
9-66
CREDIT
120,000
10,000
120,000
10,000
120,000
120,000
4,000,000
4,000,000
(continued) P 9-71A
Req. 2
Carrying amount at December 31, 2012.
Bondspayable,net
($4,000,000 $200,000+ $10,000+ $10,000)
$3,820,000
Req. 3
a. Interestexpense
= $130,000
b. Cashinterestpaid
= $120,000
Interestexpenseexceedscashinterestpaid becausethe companyissuedthe bondsat a

discountand must pay back the full face value of the bondsat maturity. Amortizationof
the bond discount causes the interest expense on the bonds to exceed the amount of
cashinterestpaid.
Chapter 9
Liabilities
9-67
(30-45 min.) P 9-72A

Req. 1
a. Maturityvalueis $5,000,000
b. Annualcashinterestpaymentis $300,000
($5,000,000 .06)
c. Carryingamountis $4,479,360

A
ANNUAL
INTEREST
DATE
B
C
INTEREST
EXPENSE
INTEREST
(8% OF
PAYMENT PRECEDING
(6% OF
BOND
DISCOUNT
MATURITY CARRYING AMORTIZATION
VALUE)
AMOUNT)
(B A)
Dec. 31, Yr. 1
DISCOUNT
ACCOUNT
BOND
BALANCE
CARRYING
(PRECEDIN
AMOUNT
G
($5,000,000D)
D C)
$520,640
$4,479,360
Dec. 31, Yr. 2
$300,000
$358,349
$58,349
462,291
4,537,709
Dec. 31, Yr. 3
300,000
363,017
63,017
399,274
4,600,726
Dec. 31, Yr. 4
300,000
368,058
68,058
331,216
4,668,784
Interestexpensefor the year endedDecember31, Year 4, is $368,058.
Req. 3 (reporting the liabilities at December 31, Year 4)

Currentliabilities:
Currentinstallmentof notespayable..
9-68
$ 55,000
Bondspayable...
$5,000,000
Less:Discounton bondspayable.
(331,216)
Notespayable
4,668,784
275,000
Chapter 9
Liabilities
9-69
(40-50 min.) P 9-73A

A
SEMIANNUAL
INTEREST
DATE
INTEREST
PAYMENT
(5.5%OF
MATURITY
VALUE)
B
INTEREST
EXPENSE
(6%OF
PRECEDING
BOND
CARRYING
AMOUNT)
DISCOUNT
AMORTIZATION
(B A)
12-31-12
DISCOUNT
BALANCE
AMOUNT
(PRECEDING ($4,000,000 D)
D C)
$229,400
$3,770,600*
6-30-13
$220,000
$226,236
$6,236
223,164
3,776,836
12-31-13
220,000
226,610
6,610
216,554
3,783,446
6-30-14
220,000
227,007
7,007
209,547
3,790,453
12-31-14
220,000
227,427
7,427
202,120
3,797,880
_____
*$4,000,000 .94265= $3,770,600
9-70
(continued) P 9-73A
Req. 2
Journal
DATE
DEBIT
2012
a. Dec. 31 Cash($4,000,000 .94265)...........................
Discounton BondsPayable.........................
ConvertibleBondsPayable......................
2013
b. June 30 InterestExpense.........................................
Cash.....................................................
Discounton BondsPayable.....................
CREDIT
3,770,600
229,400
4,000,000
226,236
220,000
6,236
c. Dec. 31 InterestExpense.........................................
Cash.....................................................
Discounton BondsPayable.....................
2014
d. July 1 ConvertibleBondsPayable..........................
($209,547 2/5)...................................
CommonStock(90,000 $1)....................
Paid-in Capital in Excessof
Par Common..................................
To recordconversionof bonds.
226,610
220,000
6,610
1,600,000
83,819
90,000
1,426,181
Req. 3 (balance sheet presentation of bonds payable at

December 31, 2014)
Convertiblebondspayable
($4,000,000 $1,600,000).....................................
Less:Discounton bondspayable
($202,120 3/5*).................................................
$2,400,000
(121,272)
Chapter 9
2,278,728
Liabilities
9-71
_____
*3/5 of the bondsare outstanding,so 3/5 of the discount
remains.
9-72
(20-30 min.) P 9-74A

Req. 1
TO:
FROM:
Managementof TonySportingGoods
StudentName
SUBJECT: Advantagesanddisadvantagesof borrowing

versusissuingstockto raisecashfor expansion
Raising money by borrowing has at least two advantages over issuing commonstock.
Borrowing does not change the present ownership of the business. It enables the
present owners to keep their proportionate interests in the business and to carry out
their plans without interference from a new group of stockholders. Under normal
conditions, borrowingresults in a higher earningsper share of commonstock, because
the interestexpenseon the debt is tax-deductible.Andhigherearningsper shareusually
lead to higherstockpricesfor companyowners.
The main disadvantage of borrowing is that the debt increases the financial risk of the
company. The principal and the related interest expense must be paid whether the
company is earning a profit or not. If times get sufficiently bad, the debt burden could
threatenthe ability of the businessto continueas a goingconcern.
The main advantageof issuingstock is that ownersavoid the burdenof makinginterest
and principal paymentson the debt. Issuingstock createsno liability to pay anythingto
the owners. If the directors consider it necessary, they can refuse to pay dividends in
orderto conservecash.Therefore,it is safer to issuestock.
Chapter 9
Liabilities
9-73
(continued) P 9-74A
One disadvantage of issuing stock is dilution of the ownership interests of existing

stockholders if the purchasers of new stock are outsiders. The new stockholders may
havedifferentideasabouthowto managethe businessand that mayposedifficultiesfor
the original stockholder group. Another disadvantage of issuing stock is that earnings
per share are usually lower because of (1) the greater number of shares of stock
outstanding,and(2) the non-tax-deductibilityof dividendspaid on the stock.
There is insufficient information available upon which to make a decision. Tonys
managementmust preparebudgetswhichindicatethe impactof the newstoresin terms
of net incomeand cash flow. Managementmust also estimatethe cost of borrowingthe
funds.
9-74
(20-30 min.) P 9-75A

Req. 1
BrightonFoods,Inc.
Partial BalanceSheet
December31, 2012
Property,plant, and
equipment:
Equipment...................
Currentliabilities:*
$744,000
Accumulated
depreciation..............
Mortgagenote
payable,current....................
(166,000)
578,000
$ 92,000
Bondspayable,
currentportion.....................
500,000
Interestpayable......................
75,000
Total currentliabilities................
667,000
Mortgagenote
payable................................
$ 318,000
Bondspayable.$200,000
Discounton
bondspayable. (25,000)*
175,000
Pensionliability......................
30,000**
Total long-termliabilities............
523,000
Notes:
* The orderof listingcurrentliabilitiesand long-termliabilitiesis optional. However, Discount on
BondsPayableshouldcomeimmediatelyafter Bonds Payable. Also, it is customaryto report Interest
Payable after the related liability accounts, Mortgage Note Payable and Bonds Payable, Current
Portion.
** Computationof pensionliability:
Accumulatedpensionbenefit obligation.............
Less:Pensionplanassets, at marketvalue............
Pensionliability to be reportedon the balancesheet...
$450,000
(420,000)
$ 30,000
Chapter 9
Liabilities
9-75
(continued) P 9-75A
Req. 2
a.
b.
Carryingamountof bondspayable:
Currentportion.
Long-termportion($200,000 $25,000).
Carryingamount..
$ 500,000
175,000
$675,000
Interest payableis the amountof interest that Brightonowesat year end. Interest
expenseis the companyscost of borrowingfor the full year.
Req. 3
Times-interest-earnedratio
=
=
Operatingincome
Interestexpense
$370,000
$229,000
1.62 times
Req. 4
Leverage
ratio
Debtratio
=
=
Total assets($4,500,000)
Total stockholdersequity($3,310,000)
Total liabilities[$1,190,000= $667,000+ $523,000]
= 1.36
= 0.26
The companys debt ratio and leverage ratios are low, and operating income covers
interest paymentsby 1.62 times. With this limited information, the companyappearsto
be low risk from a leverage point of view. Additional information from prior years and
competitorswouldalso be helpful.
9-76
(continued) P 9-75A
Req. 5
Leverage
ratio
Debtratio
=
=
Total liabilities($4,190,000)
= 2.26
= 0.56
Theleverageratio and debt ratio wouldincrease. The companywouldstill be

consideredhealthy(averagerisk) froma leveragepoint of view.
Chapter 9
Liabilities
9-77
(15-20 min.) P 9-76B

a. Salestax payable($130,000 .07)...................................................
$9,100
b. Notepayable,short-term...............................................................
$80,000
Interestpayable($80,000 .06 4/12).............................................
1,600
c. Unearnedservicerevenue($3,000 2/6)..........................................
$1,000
d. Estimatedwarrantypayable
($11,800+ $34,000 $34,800)....................................................
$11,000
e. Portionof long-termnotepayabledue
withinone year........................................................................
$30,000
Interestpayable($90,000 .06)......................................................
9-78
5,400
(30-40 min.) P 9-77B

Journal
DATE
DEBIT
CREDIT
2012
Mar. 3 Inventory
NotePayable,Short-term.
70,000
May
31 Cash.
NotePayable,Short-term.
NotePayable,Long-term..
70,000
3 NotePayable,Short-term...
InterestExpense($70,000 .06 6/12)..
Cash...
70,000
2,100
31 WarrantyExpense($194,000 .02).
EstimatedWarrantyPayable...
3,880
Sept.
Dec.
Dec.
70,000
14,000
56,000
72,100
3,880
31 InterestExpense
($70,000 .05 7/12)..
InterestPayable..
2,042
2013
May 31 NotePayable,Short-term..
InterestPayable
InterestExpense($70,000 0.05 5/12)
Cash[$14,000+ ($70,000 .05)] ...
14,000
2,042
1,458
2,042
17,500
Chapter 9
Liabilities
9-79
(20-25 min.) P 9-78B

Req. 1
Journal
DATE
2012
a. May
b. Nov.
c. Dec.
2013
d. May
DEBIT
31 Cash......................................................
BondsPayable....................................
To issuebondsat par.
4,000,000
4,000,000
30 InterestExpense..........
Cash($4,000,000 .06 6/12)..
120,000
120,000
31 InterestExpense
($4,000,000 .06 1/12)............................
InterestPayable..................................
To accrueinterest.
20,000
20,000
31 InterestPayable.......................................
InterestExpense
($4,000,000 .06 5/12)............................
Cash..
20,000
100,000
120,000

December 31, 2012)
Currentliabilities:
Interestpayable.
Bondspayable...
$4,000,000
9-80
CREDIT
20,000
(30-40 min.) P 9-79B
Req. 1
The 10%notesissuedwhenthe market interest rate is 9% will be pricedat a premium.
They are relativelyattractivein this market, so investorswill pay a price abovepar value
to acquirethem.
Req. 2
The 10%notesissuedwhenthe marketinterestrate is 11%will be pricedat a discount.
Theyare relativelyunattractivein this market,so investorswill pay less thanpar valueto
acquirethem.
Chapter 9
Liabilities
9-81
(continued) P 9-79B
Req. 3
Journal
DATE
DEBIT
2012
a. Feb. 28 Cash($1,200,000 0.96)
BondsPayable
To issuebondspayableat a discount.
CREDIT
1,152,000
48,000
1,200,000
b. Aug. 31 InterestExpense..
Discounton BondsPayable($48,000/ 10)
Cash($1,200,000 .05 6/12).
To pay interestandamortizebondspayable.
64,800
c. Dec. 31 InterestExpense..
Discounton BondsPayable($4,800 4/6)
InterestPayable($60,000 4/6)..
To accrueinterestand amortizebondspayable.
2022
d. Feb. 28 InterestPayable(fromDec. 31)
InterestExpense..
Discounton BondsPayable($4,800 2/6)
Cash($1,200,000 .10 6/12)
To pay interestandamortizebondspayable.
43,200
Req. 4
4,800
60,000
3,200
40,000
40,000
21,600
1,600
60,000
(reporting the liabilities on the balance sheet at

December 31, 2012)
Currentliabilities:
Interestpayable...................................................
$ 40,000
Bondspayable.....................................................
9-82
$1,200,000
($48,000 $4,800 $3,200)..................................
(40,000)
Chapter 9
1,160,000
Liabilities
9-83
(30-40 min.) P 9-80B

Req. 1
Journal
DATE
2012
Jan. 1 Cash($3,000,000 .94)........................................
Discounton BondsPayable..................................
BondsPayable................................................
DEBIT
2,820,000
180,000
3,000,000
July 1 InterestExpense.................................................
Cash($3,000,000 .08 6/12)...........................
($180,000/ 20)..............................................
129,000
Dec. 31 InterestExpense.................................................
InterestPayable($3,000,000 .08 6/12)
($180,000/ 20)
2013
Jan. 1 InterestPayable.
Cash
To pay interest.
2022
Jan. 1 BondsPayable
Cash.
To pay off bondsat maturity.
129,000
9-84
CREDIT
120,000
9,000
120,000
9,000
120,000
120,000
3,000,000
3,000,000
(continued) P 9-80B
Req. 2
Carrying amount at December 31, 2012:
Bondspayable,net
($3,000,000 $180,000+ $9,000+ $9,000)= $2,838,000
Req. 3
a. Interestexpense
= $129,000
b. Cashinterestpaid
= $120,000
Interestexpenseexceedscashinterestpaid becausethe companyissuedthe bondsat a

discountand must pay back the full face value of the bondsat maturity. Amortizationof
the bonds causes the interest expense on the bonds to exceed the amount of cash
interestpaid.
Chapter 9
Liabilities
9-85
(30-45 min.) P 9-81B

Req. 1
a.
Maturityvalueis $4,000,000.
b.
Annualcashinterestpaymentis $200,000($4,000,000 .05).
c.
Carryingamountis $3,568,850.

A
ANNUAL
INTEREST
DATE
INTEREST
PAYMENT
(5%OF
MATURITY
VALUE)
B
INTEREST
EXPENSE
(7%OF
PRECEDING
BOND
CARRYING
AMOUNT)
DISCOUNT
AMORTIZATION
(B A)
DISCOUNT
ACCOUNT
BALANCE
(PRECEDING
D C)
BONDCARRYING
AMOUNT
($4,000,000 D)
$431,150
$3,568,850
Dec. 31, Yr. 1

Dec. 31, Yr. 2
$200,000
$249,820
$49,820
381,331
3,618,670
Dec. 31, Yr. 3
200,000
253,307
53,307
328,024
3,671,976
Dec. 31, Yr.4
200,000
257,038
57,038
270,985
3,729,015
Interestexpensefor the year endedDecember31, Year 4 is $257,038.
Req. 3 (reporting the liabilities at December 31, Year 4)

Currentliabilities:
Currentportionof notespayable............................
$ 40,000
Bondspayable.....................................................
Less:Discounton bondspayable..
9-86
$4,000,000
(270,985)
3,729,015
Notespayable
($360,000 $60,000)...........................................
200,000
Chapter 9
Liabilities
9-87
(40-50 min.) P 9-82B

A
SEMIANNUAL
INTEREST
DATE
B
INTEREST
EXPENSE
(3%OF
PRECEDING
BOND
CARRYING
AMOUNT)
INTEREST
PAYMENT
(2-1/2%OF
MATURITY
VALUE)
DISCOUNT
AMORTIZATION
(B A)
12-31-12
6-30-13
DISCOUNT
BALANCE
AMOUNT
(PRECEDING ($5,000,000- D)
D C)
$372,000
$125,000
$138,840
$13,840
$4,628,000*
358,160
4,641,840
12-31-13
125,000
139,255
14,255
343,905
4,656,095
6-30-14
125,000
139,683
14,683
329,222
4,670,778
12-31-14
125,000
140,123
15,123
314,099
4,685,901
_____
*$5,000,000 .9256= $4,628,000
9-88
(continued) P 9-82B
Req. 2
Journal
DATE
DEBIT
CREDIT
2012
a. Dec.
31 Cash($5,000,000 .9256).................................
ConvertibleBondsPayable...........................
4,628,000
372,00
5,000,000
2013
b. June 30 InterestExpense.............................................
Cash.........................................................
Discounton BondsPayable.........................
c. Dec.
2014
d. July
138,840
125,000
13,840
Cash..........................................................
Discounton BondsPayable..........................
139,255
1 ConvertibleBondsPayable...............................
($329,222 2/5).........................................
CommonStock(90,000 $1).........................
Paid-in Capital in Excessof
Par Common........................................
2,000,000
125,000
14,255
131,689
90,000
1,778,311
To recordconversionof bonds.
Req. 3 (balance sheet presentation of bonds payable at

December 31, 2014)
Convertiblebondspayable
($5,000,000 $2,000,000)............................................
$3,000,000
Chapter 9
Liabilities
9-89
($314,099 3/5)*..
_____
*3/5 of the bondsare outstanding,so 3/5 of the discountremains.
9-90
(188,459)
$2,811,541
(15-30 min.) P 9-83B

TO:
FROM:
Managementof MarcosSportingGoods
StudentName
SUBJECT: Advantagesanddisadvantagesof borrowing

versusissuingstockto raisecashfor expansion
Raising money by borrowing has at least two advantages over issuing commonstock.
Borrowing does not change the present ownership of the business. It enables the
present owners to keep their proportionate interests in the business and to carry out
their plans without interference from a new group of stockholders. Under normal
conditions, borrowingresults in a higher earningsper share of commonstock, because
the interestexpenseon the debt is tax-deductible.Andhigherearningsper shareusually
lead to higherstockpricesfor companyowners.
The main disadvantage of borrowing is that the debt increases the financial risk of the
company. The principal and the related interest expense must be paid whether the
company is earning a profit or not. If times get sufficiently bad, the debt burden could
threatenthe ability of the businessto continueas a goingconcern.
The main advantageof issuingstock is that ownersavoid the burdenof makinginterest

and principal paymentson the debt. Issuingstock createsno liability to pay anythingto
the owners. If the directors consider it necessary, they can refuse to pay dividends in
orderto conservecash.Therefore,it is safer to issuestock.
Chapter 9
Liabilities
9-91
(continued) P 9-83B
One disadvantage of issuing stock is dilution of the ownership interests of existing
stockholders if the purchasers of new stock are outsiders. The new stockholders may
havedifferentideasabouthowto managethe businessand that mayposedifficultiesfor
the original stockholder group. Another disadvantage of issuing stock is that earnings
per share are usually lower because of (1) the greater number of shares of stock
outstanding,and(2) the non-tax-deductibilityof dividendspaid on the stock.
There is insufficient information available upon which to make a decision. Marcos
managementmust preparebudgetswhichindicatethe impactof the newstoresin terms
of net incomeand cash flow. Managementmust also estimatethe cost of borrowingthe
funds.
9-92
(20-30 min.) P 9-84B

Req. 1
BraintreeFoods,Inc.
Partial BalanceSheet
December31, 2012
Property,plant, and
equipment:
Equipment.
Currentliabilities:*
$745,000
Accumulated
depreciation
Bondspayable,
currentportion..
(162,000)
583,000
$ 420,000
Mortgagenotepayable,
currentportion.
97,000
Interestpayable
74,000
Total currentliabilities...
591,000
Mortgagenote
payable
$ 314,000
Bondspayable$1,680,000
Less:Discounton
bondspayable.. (22,000)*
1,658,000
Pensionliability
45,000**
Total long-termliabilities...
2,017,000
_____
Notes:
* Theorderof listinglong-termliabilitiesis optional.However,Discounton
Bonds Payable
shouldcomeimmediatelyafter BondsPayable.Also,it is
customary to report Interest
Payableafter the relatedliability accounts.
** Computationof pensionliability:
Accumulatedpensionbenefit obligation..
$470,000
Less:Pensionplanassets,at marketvalue.
(425,000)
Pensionliability to be reportedon the balancesheet......
$ 45,000
Chapter 9
Liabilities
9-93
9-94
(continued) P 9-87B
Req. 2
a.
b.
Carryingamountof bondspayable:
Currentportion.....................................................................
Long-termportion................................................................
Carryingamount...................................................................
$ 420,000
1,658,000
$2,078,000
Interest payable is the amount of interest that Braintree owes at year-end. Interest
expenseis the companyscost of borrowingfor the full year.
Req. 3
Times-interest-earnedratio
=
=
Operatingincome
Interestexpense
$390,000
$227,000
1.72 times
Req. 4
Leverage
ratio
Debtratio
=
=
Total liabilities[$2,608,000= $591,000+ $2,017,000]
= 2.63
= 0.62
Thecompanysdebt ratio andleverageratiosare average,and operatingincomecovers

interestpaymentsby 1.72 times. Withthis limitedinformation,the companyappearsto
be averagerisk froma leveragepoint of view. Additionalinformationfromprior years
and competitorswouldalso be helpful.
Chapter 9
Liabilities
9-95
(continued) P 9-84B
Req. 5
Leverage
ratio
Debtratio
Total liabilities($5,608,000)
= 4.52
= 0.78
Theleverageratio and debt ratio wouldincrease. The companywouldbe considered

higherrisk froma leveragepoint of view.
9-96
ChallengeExercisesandProblem
(10-15 min.) E 9-85
Currentratio
Total currentassets
$324,500- X
$173,800- X
2.00
Let X = amount of current liabilities to pay in order to achieve a current ratio of 2.25.
Marquis Marketing Services should pay off $23,100* of current liabilities. Then the
currentratio will be:
$324,500 $23,100*
$173,800 $23,100*
$301,400
$150,700
2.00
_____
*Computation:
$324,500 X
$173,800 X
2.00
$324,500 X
2.00 ($173,800 X)
$347,600 2.00X $324,500
$23,100
Req. 2
Leverage
ratio
Debtratio
=
=
Total liabilities($421,300)
= 4.52
= .30
Theleverageratio and debt ratio are low. The debt positionis low. Otherhelpful
informationwouldbe the leverageand debt ratiosfromprior yearsand comparative
ratiosfromcompetitors.
Chapter 9
Liabilities
9-97
(20-25 min.) E 9-86

Req. 1
BondsPayable,5 %................................................
BondsPayable,13%........................................
Cash ..........................................................
Gainon Retirementof BondsPayable................
Millions
160
80
17
63
Req. 2 (Dollar amounts in millions)
Annualinterestexpense..
Old Bonds
NewBonds
$160 .0525
= $8.40
$80 .13
= $10.40
Req. 3
Possiblereasonsfor the debt refinancing:
1. To decreaseannual interest expense: NO, becauseannual interest expenseon the
old bondsis less ($2,000,000)thaninterestexpenseon the newbonds.
2. To increase net income: YES, because the gain on retirement of bonds payable
added$63 millionto net income.
3. To decreasethe leverageratio: YES, as follows:
(Dollar amounts in millions)
Leverage
Total assets
=
ratio
Total stockholders
equity
Before
After
Refinancing
Refinancing
$503
$503 $17
=
$144
$144+ $63
= 3.49
= 2.35
4. To decreasethe debt ratio: YES,as follows:

(Dollar amounts in millions)
9-98
BeforeRefinancing
After Refinancing
Debt
ratio
Total liabilities
Total assets
$359
$503
= 0.71
$359 $160+ $80

$503 $17
= 0.57
Chapter 9
Liabilities
9-99
(20-30 min.) P 9-87

Req. 1
a.
Currentratio
Current
ratio
b.
2010
$21,579
$18,508
Currentassets
Currentliabilities
= 1.17
Debtratio
2010
Debt
ratio
2009
$17,551
1.28
$13,721
Total
liabilities
Total assets
2009
$72,921- $31,317
$72,921
=.571
$48,671 $25,346
$48,671
Req. 2
a.
Currentratio
Current
ratio
b.
Currentassets
Currentliabilities
$21,579
$18,508+ $1,590
= 1.07
Debtratio
Debt
ratio
Total liabilities
Total assets
$41,604+ $1,590- $1,590
Currentassets
Currentliabilities
$21,579
$18,508+ $205
= .571
$72,921
Req. 3
Current
ratio
b.
9-100
Debtratio
= 1.15
=.479
Debt
ratio
Total liabilities
Total assets
$41,604+ $965
$72,921
= .584
DecisionCases
(15-20 min.) DecisionCase1
Req. 1
As
Reported
Debtratio
Returnon
Assets
(ROA)
Total liabilities
=
Total assets
Net income
Total assets
$54,033
$65,503
0.82
$979
$65,503
1.5%
$65,503
$11,470
5.71
Req.2
Leverage
ratio
Returnon
Equity(ROE)
Total assets
Total
stockholders
equity
ROAx Leverageratio
1.5%x 5.71 = 8.5%
The ROE is greater than the ROA becausethe leverageratio is extremely high which
magnifies the ROA. The debt ratio is also extremely high and indicates that 82% of
Chapter 9
Liabilities
9-101
the assets were financed with debt. The high leverage ratio and debt ratio should
havemadeinvestorsquestionthe soundnessof Enron.
(continued)DecisionCase1
Req. 3
After Includingthe
Special-PurposeEntities
Debtratio
Total liabilities
=
Total assets
$54,033+ $6,900
$65,503 + $500*
= 0.92
*The SPEs originally reported assets of $7,000 million when those assets were only worth $500 but
actuallyhadliabilitiesof $6,900.
Returnon
Assets
Net income
Total assets
$979+ $0*
$100,789+ $500
= .1%
*TheSPEsincomewasnearlywipedout dueto the restatementmeaningthat the SPEdid not earna

net incomebut did haveassetswith a marketvalueof $500.
Times-interestearnedratio
Operating
Income
Interest
expense
Req. 4
9-102
As
After Includingthe
Reported
Special-PurposeEntities
$1,953
$838
$1,953+ ($300)
$838+ ($6,900 .10)
2.3 times
= 1.1 times
It appears that Enron excluded the special-purpose-entities (SPEs) from its financial
statementsin order to hide their debt fromEnronsinvestorsand creditors.The purpose
was to understate Enrons liabilities. We would view Enron as much more risky after
including the SPEs in Enrons financial statements. So did their banks, which is why
theystoppedlendingmoneyto them,causingthemto haveto file for bankruptcy.
(30-40 min.) DecisionCase2
Req. 1 (Analysis of financing plans)
Net incomebeforeexpansion
PLANA
PLANB
BORROW
AT 6%
ISSUE
COMMON
STOCK
PLANC
ISSUE$3.75
NONVOTING
PREFERRED
STOCK
$3,500,000
$3,500,000
$3,500,000
$1,500,000
$1,500,000
$1,500,000
300,000
-0-
-0-
1,200,000
1,500,000
1,500,000
Lessincometax expense(35%)
420,000
525,000
525,000
Projectnet income
780,000
975,000
975,000
-0-
-0-
375,000
to commonstockholders
780,000
975,000
600,000
Total companynet income
$4,280,000
$4,475,000
$4,100,000
Projectincomebeforeinterest
and incometax
Lessinterestexpense
($5,000,000 .06)
Projectincomebeforeincometax
Lesspreferreddividends
(100,000 $3.75)
Additionalnet incomeavailable
Earningsper shareincludingnew
project:
Chapter 9
Liabilities
9-103
PlanA
($4,280,000/ 1,000,000shares)
PlanB
($4,475,000/ 1,100,000shares)
PlanC
($4,100,000/ 1,000,000shares)
9-104
4.28
4.07
4.10
(continued) DecisionCase2
Req. 2 (Recommendation)
Thebest choiceappearsto be PlanA borrowingat 6% because:
(1) Borrowingallowsthe familyto maintaincontrolof the
business;
(2) EPSis higherunderborrowingthanunderissuingpreferred stock (which would

also maintainfamilycontrol); and
(3) EPSunderborrowingis higherthan it wouldbe if commonstockwereissued.Also,
cash flow under Plan A (borrowing) may be almost as good as under Plan B
(issuingcommonstock)after consideringstockholdersdemandsfor dividends.
Chapter 9
Liabilities
9-105
EthicalIssue1
Req. 1
A company would prefer not to disclose its contingent liabilities because they cast a
shadowon the businessand createa negativeimpression.
Req. 2 and 3
The potential parties and economic consequences of the decision not to disclose
contingentliabilitiesare:
1. The bank and its shareholders: With misleading information, they might extend
additional funds to the borrower assuming a better ability to pay back the funds than
actually exists. A contingent liability creates risk for a company. If the contingent
liability is not reported, the bank may view the companyas low-risk. This may lead the
bank to loan moneyat low interest rates and with easy paymentterms. With knowledge
of the contingent liability, the bank might not have made the loan at all. Or the bank
might have required a higher interest rate or more stringent payment terms. Making
loanson too-easytermsrobsthe banksownersof their money.
2. The companyseekingthe loan: Mightbecomeoverextendedin its borrowingand risk

default on debt in the future.
Req. 3 Legal and ethical consequences
9-106
Banks have legal requirements to keep certain ratios of assets and liabilities on their
booksor risk default. Failureof a companyto report
(continued)EthicalIssue1
its contingentliabilities to a bank requestingthis disclosurecould subject the company
to a lawsuitlater on.
Froman ethical standpoint, reporting a contingent liability requires a delicate balancing

act. Ethics require that outsiders interests be protected. The company must disclose
enoughinformationto give outsidersa reasonablebasis for makinginformeddecisions
about the company. At the same time, the company should avoid giving away secrets
that could damageits ownersinvestmentin the business.This dilemmais clear whena
defendant fears losing an important lawsuit. Fortunately for accountants, most
companies settle out of court those lawsuits that they expect to lose. In such cases,
thereare no contingentliabilitiesto disclose.
Req. 4
As discussedin the chapter, changesare being discussedbetweenthe FASBand IASB

about a new standard for reporting contingencies. It is likely that, in the future, more
losses resulting from lawsuits and other contingenciesare likely to be disclosed in the
bodyand the footnotesof financialstatements.
Chapter 9
Liabilities
9-107
EthicalIssue2
1. The ethical issueis whetherto structurethis leaseto avoid its havingto be disclosed
as a capital lease. The companywill do that if it is possible. It appearsthat Gockerand
Moranhavesomeflexibility in settingthe life of the lease(4-6 years). If they set the term
of the lease at 4 years, it will be only 66 2/3 percent of the economiclife of the asset (6
years). Thus, the leasewill fail all of the mechanicaltests for the leaseto be treatedas a
capital lease, and by default, it will be treated as an operating lease, and Gocker can
avoidcapitalizingthe assetand includingthe liability on her financialstatements. If they
set the term of the lease at 5 or 6 years, it will exceed 75% of the economic life of the
asset, and thusthe leasewill haveto be capitalized.
2. The stakeholdersare Gocker, the lessee;Morgan,the lessor; and Last NationalBank,

Gockerspresentcreditor. The potentialconsequencesto the stakeholdersare:
a. economic: If the leaseis structuredas a capital lease, Gockerwill violate
its
long-term loan covenant with Last National Bank. As a result, the bank might demand
immediate payment of their loan. This may damage Gockers credit rating and create
difficultygettingfuturebankloans. Alternatively,Last NationalBankmaywaivethe loan
covenantin exchangefor a higherinterest rate or morestringentrepaymentterms. This
too could cause Gocker financial difficulties. Morgan is not affected economically,
becauseMorganwill receive its paymentson the leasedproperty regardlessof how the
transactionis disclosed.
9-108
b. legal: If we assume that GAAP substitutes for legal requirements, if Gocker is

careful to structurethe lease termsso that it avoidsthe requirementsfor a capital lease,
thereshouldbe no problemstatingthat the leaseagreementcomplieswith GAAP.
c. ethical: The substanceof a capital leaseis one that transfersthe risks and rewards
of ownershipto the lessee. If in fact, the substanceof the termsof this leasedo that, the
equipmentshouldbe capitalizedby the lesseeregardlessof the formof the lease terms.
To use mechanical rules to avoid recognizing assets and liabilities hardly seems like a
truthfulwayto do business. Nevertheless,U.S. GAAPpresentlyallowit!
3. Studentresponseswill vary on this question. Somewill say that, if the rules allowit,
then why not engineer the transaction in such as way as to benefit Gocker by keeping
the asset, and the lease obligation, off the books. After all, this is perfectly legal, and
perfectly in accordance with existing U.S. GAAP (FAS 13). In the view of the authors,
Gocker should evaluate whether, in fact, she obtains the rights and rewards associated
with ownership of the machine. If so, she could so structure the lease that it fits the
economic substance of the transaction, which is what should also be disclosed in the
financial statements. If it turns out that the equipment and the related lease obligation
will have to be addedto assets and liabilities in the balancesheet, thus causingGocker
to default on the loan covenant, she should attempt to obtain a waiver of the covenant.
This option is going to prove costly for Gocker, so shes to have to be convinced that
she did the right thingin orderto be motivatedto followthis courseof action.
Chapter 9
Liabilities
9-109
4. The FASBand IASBare workingon a proposednew lease standardthat removesthe

mechanicalcriteria for lease capitalizationdiscussedin the chapter in favor of the more
theoretically and substantively correct, but also more subjective, risks and rewards
approach. As a result, more companies will be faced with making the judgment as to
whether their lease agreementsactually transfer risks and rewardsto lessees. This will
not remove the temptation to deliberately twist the facts. Under a principles based
standard, there will exist the opportunity for strategic non-compliance(that is, simply
decide that risks and rewards are not transferred and thus achieve the same result as
the financial engineering allowed by current GAAP. More judgment requires better
ethics. Whatdo you thinkwill happen?(Studentresponseswill vary on this question).
9-110
Focuson Financials: Amazon.com,Inc.

(20 min.)
Req. 1
Amazon.com, Inc.s accounts payable increased from $5,605 million in 2009 to $8,051
million in 2010, an increase of about 43.6 percent. Accordingly, Account Payable
Turnoveris:
OperatingExpenses
$32,798
Avg. Accts.Pay.
($8,051+$5,605)/2
4.80
It takes Amazon.com,Inc. an average of (365/4.80) 76 days to pay its accounts payable.

Thislengthoverall is fairly longgiventhat typical credit termsare closerto 30 days.
Req. 2
Provisionfor incometaxes
Incometaxespaid
$352
million
75
million
These amounts differ because tax and accounting rules differ resulting in a different
incometax on the incomestatement(provisionfor incometaxes) than on the tax return
(incometax paid).
Req. 3
Refer to Note 5LongTerm Debt. Based on this information, the companyslong term
debt (after current maturities) increased from $109 in 2009 to $184 in 2010. From this
Chapter 9
Liabilities
9-111
increase, you can tell that Amazon.com. Inc. borrowed more than they paid off during
2010.
(continued)Amazon
Req. 4
Referto Note6CommitmentsandContingencies.
The footnotesdisclosecommitmentsof $3,799million. Someof thesecommitmentswill
already be reported as liabilities, such as obligations for debt principal and interest,
capital leases, and financing leases. However, the commitments for operating leases
wouldnot be reportedin liabilities.
The footnotes also include a discussion of various legal proceedings against Amazon.
These legal proceedings are of the nature of disclosed loss contingencies, as
discussed in the chapter, therefore, are not included in the financial statements. The
criteria for disclosureof these contingentliabilities is that it is reasonablypossible that
the companywill havean obligationfromthe lawsuitcompanyin the future.
Req. 5
Ratio
Debtratio
2010
2009
$10,372+ $1,561= 63.5%

$18,797
$7,364+ $1,192= 61.9%

$13,813
Timesinterest
earned
$1,406
$39
Currentratio
$13,747
9-112
= 36.1 times
$1,129
$34
$9,797
= 33.2 times
$10,372 = 1.33
$7,364 = 1.33
(continued)Amazon
Amazon.com,Inc.s leverageincreasedslightly during 2010, as reflectedin the increase

of its debt to total asset ratios from2009to 2010. Becauseof strongearnings,the times
interest earned (operating income/interest expense) ratios improved. The current ratio
has remainedrelativelystable.
Cash provided by operating activities on the Consolidated Statements of Cash Flows

increasedfrom$3,293millionin 2009to $3,495in 2010. On this basis, Amazon.com,Inc.
appears to be experiencinggrowth. They appear to be positionedwell for more growth,
profitabilityand improvedliquidityand leveragepositionsin the future.
Chapter 9
Liabilities
9-113
Focuson Financials: RadioShack,Corp.

(20 min.)
Req. 1
CurrentMaturitiesof Long-TermDebttheamountof principalthat is payable
withinone year.
AccountsPayabletheamountowedfor productsor servicespurchasedon
account.
AccruedExpensestheamountof expensesincurredbut not yet paid.
IncomeTaxesPayabletheamountof incometax incurredbut not yet paid.
Req. 2
Payroll andBonuses an accrualfor wagesfor pay earnedby employeesbut not
yet paid to employees.
Insurance an accrualfor insuranceexpenseincurredbut not yet paid.
SalesandPayroll Taxes liability for amountowedto the governmentfor sales
and payroll taxes.
Rent an accrualfor rent expenseincurredbut not yet paid.
Advertising an accrualfor advertisingexpenseincurredbut not yet paid.
Gift CardDeferredRevenue liability for the amountof goodsand servicesowed
to customerswhohavegift cardbalances.
9-114
Other all otherliabilitiesthat will be paid with currentassetsthat do not meet

the definitionsof the categoriesabove.
(continued)RadioShackCorp.
Req. 3
AP
Turnover
COGS
Avg. Accts.Pay.
$2,462.1
($272.4+$262.9)/2
Daysin AP
365
AP Turnover
365
9.20
39.7
Current
Ratio
Currentassets
Currentliabilities
$1,778.7
$908.1
1.96
QuickRatio
Cash+ ST Inv. + Rec.

CurrentLiabilities
$569.4+$377.5+$108.1
$908.1
1.16
Daysin AR
365
(Sales/Avg.AR)
365
($4,472.7/$350)
28.6
Average
AR
Beg. AR+End. AR
2
($377.5+$322.5)
2
$350
Inv.
Turnover
COGS
Avg. Inventory
$2,462.1
(($723.7+$670.6)/2)
3.53
Daysin Inv.
365
InventoryTurnover
365
3.53
103
9.20
The companyis currently able to pay its accounts within an average of about 40
dayswhichis slightlylongerthanoptimal.
The companyhas a strongCurrent Ratio close to 2 and a QuickRatio still greater
than 1 meaning that it has the current assets necessary to pay for its current
liabilities.
Chapter 9
Liabilities
9-115
The inventoryturnoverratio is quite disturbingin that RadioShackis only turning

over its inventoryevery 103 days on average. This meansthat RadioShackmust
wait at least 103 daysafter purchasinginventoryto sell it.
(continued)RadioShackCorp.
It takesRadioShackalmost92 days(103 +28.6 39.7) to turn inventorypurchases

backinto cashvia salesand collections. A comparisonto previousyearswould
indicateif this is trendingfavorableor unfavorable.
Overall, it wouldappearthat RadioShack,Corp. has the ability to pay its liabilities.
Req. 4
Five-year 2.5%unsecuredconvertiblenotes($375million)
Ten-year 7.375%unsecurednotes($307million)
The related interest is recorded in interest expenseon the IncomeStatement. The tenyear notes are classified as current because they are due in 2011. The remaining fiveyear notesare due in 2013.
Req. 5
Refer to Note 13Commitments and Contingencies. RadioShack leases most of its
facilities and disclosesthese commitmentsin Note 13. The leases are operatingleases
and thereforeno liability is reportedon the balancesheet.
9-116
In this same note, RadioShack disclosed facts about litigation. Since RadioShack
considers the outcome of this lawsuit to be uncertain, the contingent liability is
disclosedin the notesto the financialstatementsratherthanaccrued.
GroupProjects
Studentresponseswill vary.
Chapter 9
Liabilities
9-117

Finanical Accounting 9th Edition Solutions Ch9

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Finanical Accounting 9th Edition Solutions Ch9

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Chapter 9

30 InterestExpense($11,000 .12 9/12)..

Balance Sheet on April 30, 2013:

Income Statement, April 30, 2013:

Financial Accounting 9/e Solutions Manual

(5-10 min.) S 9-2

Accounts payable turnover:

Days payable outstanding:

(10 min.) S 9-3

Financial Accounting 9/e Solutions Manual

revenueduringthe periodof the sale, regardlessof whenthe companypaysfor warranty

(5-10 min.) S 9-5

Financial Accounting 9/e Solutions Manual

(5-10 min.) S 9-6

(5-10 min.) S 9-8

Financial Accounting 9/e Solutions Manual

(10-15 min.) S 9-9

Mar. 31, 2012

Sept. 30, 2012

Mar. 31, 2013

Sept. 30, 2013

(10 min.) S 9-10

Req. 3InterestexpenseSeptember30, 2012is $20,286.

Req. 2Payback$3,000,000at maturity,July 1, 2022.

Financial Accounting 9/e Solutions Manual

(10-15 min.) S 9-12

$10,557 $180,663- $71,247

(10-15 min.) S 9-13

Total companynet income...............................

Financial Accounting 9/e Solutions Manual

(5-10 min.) S 9-14

$100.0/ $40.0 = 2.5

Thismeansthat Evensonhas $2.50of assetsfor everydollar of

$60.0/ $100.0 = .60

Thismeansthat Evensonhas $.60 in liabilities(debt)for everydollar of

Evensonsdebt ratio is aboutaverageandcancoverits existinginterest

(10 min.) S 9-15

Financial Accounting 9/e Solutions Manual

(10-15 min.) E 9-17A

(10 min.) E 9-18A

Payroll tax expense($150,000 .08)

Financial Accounting 9/e Solutions Manual

(5-10 min.) E 9-19A

$85,000 .08 9/12

$85,000+ ($85,000 .08)

$85,000 .08 9/12

(10-15 min.) E 9-20A

Financial Accounting 9/e Solutions Manual

(10-20 min.) E 9-21A

For 2011,the leverageratio was2.26 andthe debt ratio was.56.

Financial Accounting 9/e Solutions Manual

Thecompanysability to coveraccountspayableand currentliabilitiesover the year

(5-10 min.) E 9-22A

Thenotedisclosurewouldbe similarto Requirement1.

Financial Accounting 9/e Solutions Manual

(15-20 min.) E 9-23A

b. Currentportionof long-termnote payable...............................

Interestpayable($65,000 .07 1/12).....................................

FICAtax payable($320,000 .0765).....................................

(10-15 min.) E 9-24A

Financial Accounting 9/e Solutions Manual

(10-15 min.) E 9-25A

1. Cashreceived= $100,000 1.05 =