Question

E5-10 (L02,3) (Current Liabilities) Norma Smith is the controller of Baylor Corporation and is responsible for the preparation of the year-end financial statements. The following transactions occurred during the year.

(a) On December 20, 2017, a former employee filed a legal action against Baylor for \(100,000 for wrongful dismissal. Management believes the action to be frivolous and without merit. The likelihood of payment to the employee is remote.

(b) Bonuses to key employees based on net income for 2017 are estimated to be \)150,000.

(c) On December 1, 2017, the company borrowed \(600,000 at 8% per year. Interest is paid quarterly.

(d) Accounts receivable at December 31, 2017, is \)10,000,000. An aging analysis indicates that Baylor’s expense provision for doubtful accounts is estimated to be 3% of the receivables balance.

(e) On December 15, 2017, the company declared a \(2.00 per share dividend on the 40,000 shares of common stock outstanding, to be paid on January 5, 2018.

(f) During the year, customer advances of \)160,000 were received; $50,000 of this amount was earned by December 31, 2017.

Instructions For each item above, indicate the dollar amount to be reported as a current liability. If a liability is not reported, explain why.

Short answer

1. No.
2. Yes.
3. Yes.
4. No.
5. Yes.
6. Yes.

Step-by-step solution

Definition of Contingent Liability

If a particular event occurs, a business entity's liability is known as a contingent liability. Suchliability depends upon the probability of the happening of an event.

Liability Will Be Reported or Not

1. The liability, in this case, is remote. It means that there is less than a 50% chance that the company will incur liability. Therefore, it will not be reported on the balance sheet.
2. $150,000 will be reported as a current liability because the amount is estimated, and the event is probable to happen.
3. $12,000 will be reported in the current liability section as interest payable. It is calculated as: $\mathbf{(}\mathbf{600}\mathbf{,}\mathbf{000}\mathbf{\times }\mathbf{8}\mathbf{\%}\mathbf{\times }\frac{\mathbf{1}}{\mathbf{4}}\mathbf{)}$
4. $0 will be reported in the current liability section because allowance for the doubtful account is written in the current asset section by deducting it from accounts receivable.
5. $80,000 will be reported in the current liability division as dividend payable.
6. $110,000 will be reported as the customer advances in the current liability section of the balance sheet.