Balance sheet - liabilities

Question 1

Liabilities

Answer 1

Liabilities and Equity represent the company’s sources of funds (how it pays for assets).
Liabilities represent the company’s obligations to others that will be met through the use of cash, goods, or services: To qualify as a liability:
• An obligation must be measurable and its occurrence probable
• The transactions from which these obligations arise have taken place.

Divided into 2 categories:
• Current liabilities: Due within 1 year (Reported in order of maturity, by amount, or in the event of liquidation)
• Long-term liabilities: Not due within a year

Question 2

Accounts Payable

Answer 2

A company’s obligations to suppliers for services and products already purchased from them, but which have not been paid. In other words, accounts payable represent the company’s unpaid bills to its suppliers for services obtained on credit from them.

Question 3

Accrued Expenses

Answer 3

Expenses like employee compensation that the company has incurred, but for which it has not yet paid. Typical expenses that accrue include a variety of things like wages, insurance, rents, taxes, dividends, litigation costs that have already been incurred but not yet paid.

Question 4

Deferred (unearned) revenue

Answer 4

Revenue received for services not yet provided by the company. This is a sizeable liability for software companies, as well as companies that sell long term memberships like magazine subscriptions and gift certificates. Deferred revenue is a current liability if the revenue is expected to be recognized within the year, otherwise, it is a long term liability.

Question 5

Short term Debt

Answer 5

Debt due within 12 months. There are two types of debt obligations that appear as ‘current liabilities’
• Short-term debt: owed by the company that are due within 1 year
• Current portion of long-term debt: Portion of long-term debt which is due within 1 year

Question 6

Long-Term Debt

Answer 6

Debt whose maturity exceeds 12 months.

Question 7

Capital leases

Answer 7

Capital leases represent long-term liabilities defined as contractual agreements, allowing a company to lease PP&E for a certain period of time in exchange for regular payments. Common leases involve retail and office space.vThere are two ways that US GAAP and IFRS allows leases to be accounted for:
• Capital leases: Initially recognized as a liability on the B/S with the corresponding asset as PP&E. During every subsequent period in the lease:
o Interest expense is calculated on the capital lease and recognized on the IS.
o Amortization expense from the PP&E is recognized on the I/S
• Operating leases: No asset or liability recognized, and lease payments are simply expensed on the I/S (also called off-balance sheet leasing)
Since most companies prefer to keep leases off the books (leases are viewed as debt by investors and lenders) FASB has stated that if a lease meets any one of the conditions below, it must be treated as a capital lease:
• Title to a leased PP&E is expected to be transferred to a lessee at the end of the lease.
• A lessee can purchase the leased property at below fair market value during the lease (“bargain purchase”)
• The lease exceeds 75% of the asset’s estimated economic life.
• The present value of the minimum lease payments is 90% or greater of the leased asset’s fair value.