Intermediate Accounting, Volume 2, 11th Canadian Edition - Course Module PDF\'s - (Comprehensive PDF) PDF

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School of Business & Economics Units PDF ACCT 3211 Intermediate Financial Accounting 2

The course materials in ACCT 3211 have been provided to you for your private study and educational use only. TRU grants you a limited and revocable license to access and make personal use (including permission to print one copy) of Units PDF. These materials may not be further distributed.

Table of Contents Module 1: Non-Financial and Current Liabilities ................................................... M1-1 Module 2: Long-Term Financial Liabilities .............................................................. M2-1 Module 3: Shareholders' Equity.................................................................................. M3-1 Module 4: Complex Financial Instruments and Earnings per Share ................... M4-1 Module 5: Income Taxes ............................................................................................... M5-1 Module 6: Pensions and Other Post-Employment Benefits .................................. M6-1 Module 7: Leases ............................................................................................................ M7-1 Module 8: Accounting Changes and Error Analysis ............................................... M8-1 Module 9: Statement of Cash Flows ........................................................................... M9-1 Module 10: Other Measurement and Disclosure Issues ...................................... M10-1

Copyright & Credits Copyright © 2016 (Revised), 2008 Thompson Rivers University. All rights reserved. The content of this course material is the property of Thompson Rivers University (TRU) and is protected by copyright law worldwide. This material may be used by students enrolled at TRU for personal study purposes only. No part of this work may be forwarded or reproduced in any form by any means without permission in writing from the Intellectual Property Office, Thompson Rivers University, [email protected]. TRU seeks to ensure that any course content that is owned by others has been appropriately cleared for use in this course. Anyone wishing to make additional use of such third party material must obtain clearance from the copyright holder.

Course Development Team Course Writer:

George Fisher, CGA, MBA.

Course Revision (2016):

Rob Anderson, MBA, CPA, CGA

Thompson Rivers University 900 McGill Road Kamloops, BC V2C 0C8

TRU Open Learning

ACCT 3211: Intermediate Financial Accounting 2

M1-1

Module 1: Non-Financial and Current Liabilities Overview This first module covers the basic principles of accounting, measurement, and reporting for current liabilities and non-financial liabilities. This module also explains approaches to the recognition of contingencies and uncertain commitments. From the financial reporting perspective, liabilities arise from past transactions or events which may result in a transfer of assets or provision of services. In a classified balance sheet, liabilities are categorized as either current liabilities or long-term liabilities. Current liabilities are obligations that are payable within one year or within the firm’s operating cycle, whichever is longer.

Learning Objectives By the time you finish your work on this module, you should be able to: •

Define liabilities, distinguish between financial and non-financial liabilities, and measure liabilities.

•

Identify and account for major types of non-financial and current liabilities.

•

Explain and account for contingencies and uncertain commitments, and identify the related reporting requirements.

•

Identify how non-financial and current liabilities are presented and analyzed.

Topics There are two topics in this module: Topic 1: Current Liabilities: Recognition and Measurement Topic 2: Non-Financial Liabilities: Recognition and Measurement

Topic 1: Current Liabilities: Recognition and Measurement It is important to distinguish between financial and non-financial liabilities, since some standards apply specifically to financial liabilities. Financial liabilities are normally payable in cash or other financial assets. Some of the major financial liabilities covered in this module are: •

Bank indebtedness and credit

•

Accounts payable

TRU Open Learning

M1-2

Module 1: Non-Financial and Current Liabilities

•

Notes payable

•

Current maturities of long-term debt

•

Dividends payable

•

Rents and royalties payable

•

Customer advances and deposits

•

Taxes payable

•

Employee related liabilities

Topic 2: Non-Financial Liabilities: Recognition and Measurement Non-financial liabilities usually are not payable in cash and, therefore, are measured differently. Following are examples of non-financial liabilities: •

Decommissioning and restoration obligations

•

Unearned revenues

•

Product guarantees and customer programs

•

Contingencies and commitments

•

Financial guarantees

Activity 1-1: Non-Financial and Current Liabilities Reading Please read Chapter 13, “Non-Financial and Current Liabilities.”

Activity 1-2: Practice Questions Read and answer each part of the exercise or problem prior to looking at the answer provided under Practice Questions Solutions on your course Home Page.

Exercises: E13-1, E13-15, E13-19, E13-21, E13-29

Problems: P13-3

Assignment There is no assignment for Module 1. Please move on to Module 2.

TRU Open Learning

ACCT 3211: Intermediate Financial Accounting 2

M2-1

Module 2: Long-Term Financial Liabilities Overview Module 2 examines the measurement, valuation, recording, and reporting of longterm liabilities. Financial liabilities play a crucial role in global capital market since companies need financing for growth, and one of the most effective ways to obtain capital is by issuing long-term debt. A company classifies an obligation as long-term if it is not expected to be repaid within one year or the current operating cycle, whichever is longer. The most common examples of long-term liabilities are bonds payable, long-term notes payable, lease obligations, pension obligations, and deferred income taxes. In Chapter 14 we examine the measurement, valuation, recording, and reporting requirements for bonds payable and long-term notes payable, including derecognition and troubled debt restructuring.

Learning Objectives By the time you finish your work on this module, you should be able to: •

Describe and apply accounting procedures for bonds including sale, interest accrual, and repayment using the effective interest method.

•

Account for long-term notes payable.

•

Account for derecognition of long-term debt and troubled debt restructuring.

Topics There are three topics in this module: •

Topic 1: Bonds Payable

•

Topic 2: Notes Payable

•

Topic 3: Troubled Debt Restructuring

Topic 1: Bonds Payable Long-term debt consists of obligations that do not have to be repaid in their entirety in the next 12 months. Long-term creditors do not normally have a say in the management of the company, nor do they participate in the profits. Rather, they are only entitled to receive the payments stipulated in the loan contract, normally consisting of regular interest payments and return of the principal amount.

TRU Open Learning

M2-2

Module 2: Long-Term Financial Liabilities

The most common form of corporate debt is a bond. A bond issue, in effect, breaks down a large debt (large corporations often borrow hundreds of millions of dollars at a time) into manageable parts—usually $1,000 or $5,000 units. For example, a company may find it easier to sell $1,000 bonds to many lenders. The specific promises made to bondholders are outlined in a document called a Bond Indenture. Most corporate bonds are debenture bonds. No specific assets are pledged as security for debenture bonds. Secured bonds, on the other hand, are backed by a lien on specified assets—e.g., mortgage bonds are secured by a claim on real estate. Other types of bonds include convertible, registered, redeemable, callable, and zero-interest. Different types of bonds are issued to attract capital from various investors and risk takers.

Measurement and Valuation of Bonds Payable Long-term debt is measured at fair value on initial recognition, including transaction costs. Subsequently, the instruments are measured at amortized cost or, in certain limited situations, fair value under the fair value option. Bonds contain two sets of cash flows: •

A series of interest payments that are based on the interest rate stated in the bond indenture (the coupon rate). Since the payments are of equal value and are received at regular intervals, these cash flows represent an ordinary annuity.

•

A single lump-sum payment when the bond matures. To determine the value of the bonds on the issue date, we need to calculate the present value of both the interest payments and the repayment of the face amount. These cash flows are discounted at the market rate of interest (also known as the effective rate of interest or the discount rate). The market rate of interest is the return demanded by lenders that factors in the risk of default, the security pledged, and the length of time to maturity.

The basic set of accounting entries for bonds is a topic you learned in your introductory financial accounting course. If you need a reminder on topics such as premiums, discounts, and the effective interest method, please review your introductory accounting textbook. You should be able to calculate the selling price of a bond using your financial calculator.

Bond Pricing: Issuing Bonds between Interest Dates When bonds are issued (sold) on a date other than an interest date, the purchaser, by convention, still receives the full interest payment at the next payment date. The purchaser is required, however, to compensate the seller for the portion of the

TRU Open Learning

ACCT 3211: Intermediate Financial Accounting 2

M2-3

interest payment that they are not entitled to. The purchaser does this by paying the issuer the agreed-upon purchase price plus an amount equal to the interest earned on the bonds since the last interest payment date. For example, assume a 10-year bond with a face amount of $300,000 is issued. The bond issue has a stated rate of 9% payable semi-annually. The bond issue is dated January 1, 2016. If the bonds were issued at par on March 1, 2016, the issuer would make the following journal entry: Cash

304,500 Bonds Payable

300,000

Bond Interest Expense *($300,000 x .09 x 2/12)

4,500*

The July 1, 2016 journal entry for the semi-annual interest payment would be: Interest Expense

13,500

Cash

13,500

Net bond interest expense for the six-month period is $9,000 ($13,500 – $4,500), which represents the interest expense for the four-month period the bonds were actually outstanding ($300,000 x .09 x 4/12). Premiums and discounts are amortized over the period of time that the bonds are actually outstanding. This means that premiums and discounts are amortized from their date of sale, not the original date of the bonds. For the preceding example, if there was a premium or discount, it would be amortized over 118 months (10 years x 12 months – 2 months), rather than 120 months or 10 years. Since the bonds were not outstanding for January and February, any premium or discount could not be amortized over those two months.

Extinguishment of Debt (Derecognition of Debt) Having looked at how we account for the issuance of bonds, we should now consider what entries are required to record their retirement (repayment). Bonds are redeemed either at maturity or prior to maturity. The latter type of debt extinguishment is sometimes called reacquisition of debt. Simply put, reacquisition involves buying back the debt, either by exercising a call feature or through an openmarket purchase.

TRU Open Learning

M2-4

Module 2: Long-Term Financial Liabilities

Topic 2: Notes Payable The difference between current notes payable and long-term notes payable is the time left until the obligation has to be settled. Accounting practices for notes and bonds are very similar, since both are valued and recorded at the present value of the future cash flows. Discounts or premiums on notes are amortized over the term of the obligation using the effective rate method. Even though the legal form of a note is different from a bond, the economic substance is the same, since they both represent substantially the same treatment from an accounting perspective. When debt securities are issued, such as bonds and notes payable with zero interest or for a non-monetary consideration, the measurement must reflect the underlying substance of the transaction. Therefore, reasonable interest rates must be imputed and the fair value of the non-monetary consideration should be used to value the transactions.

Topic 3: Troubled Debt Restructuring Troubled debt restructuring occurs when a creditor grants a concession to the debtor that it would not otherwise consider due to the debtor’s financial difficulties. Restructuring could be through settlement of the debt at less than its carrying amount, or continuation of the debt with a modification of terms. If the debt is settled, all accounts related to the debt are derecognized from the debtor’s books, and the debtor will recognize a gain or loss (usually a gain due to the concessions given by the creditor). The present value of revised cash flows is measured using current market interest rate. The debtor will transfer non-cash assets, issue shares, and/or issue new debt to another creditor to repay the existing debt. If concessions are given and a continuation is granted, they will be in the form of reduction of the stated interest rate, extension of the maturity date, and/or a reduction of the debt’s face amount. Under a continuation of debt with nonsubstantial modification of terms: A. No gain/loss is recognized since the old debt is not derecognized. B. A new effective interest rate must be calculated for the new debt to amortize the carrying value of the existing debt to the face/maturity value of the new debt. However, in a continuation with modified terms, substantial modifications will be treated as a settlement. The modification of terms is “substantial” if either: A. PV of new cash flow terms is at least 10% different from PV of remaining cash flows under old debt, in which case the entity uses the original effective

TRU Open Learning

ACCT 3211: Intermediate Financial Accounting 2

M2-5

interest rate for discounting both sets of cash flows for consistency and comparability. B. The old debt is legally discharged and there is a new creditor.

Activity 2-1: Long-Term Financial Liabilities Reading Please read Chapter 14, “Long-Term Financial Liabilities.”

Activity 2-2: Practice Questions Read and answer each part of the exercise or problem prior to looking at the answer provided under Practice Questions Solutions on your course Home Page.

Exercises: E14-7 (do not use tables), E14-9 (do not use tables), E14-11, E14-17, E14-23, E14-25 (do not use tables)

Problems: P14-5, P14-7

Assignment 1: Liabilities (8%) Introduction You are now ready to complete Assignment 1. Before you begin, please review the Assignment Guidelines to ensure that you follow the correct procedure for submitting your assignments. When you have completed the assignment, submit it to your Open Learning Faculty Member and begin the next module. Please contact your Open Learning Faculty Member if you have any questions regarding the assignment. Please ensure your journal entries are in the proper format, as noted in the Assignment Guidelines. This assignment is worth 8% of your course grade.

Instructions Complete the assignment questions listed below. All questions requiring time value of money calculations should be done using a financial calculator. Allowable exam room materials include a non-programmable financial calculator. Neither tables nor a computer are allowed.

TRU Open Learning

M2-6

Module 2: Long-Term Financial Liabilities

Assignment 1

Questions

Subject

Q1

Please see below. Contingency

15

Q2

Exercise 13-22

Warranty

15

Q3

Problem 13-1

Multiple liabilities

20

Q4

Exercise 14-10

Equipment for a note

15

Q5

Problem 14-6

Bond with redemption

20

Q6

Problem 14-18

Troubled debt restructure

15

Total

Marks

100

Question 1 Diver Corp. follows IFRS. Below are independent situations: A. During 2017, a factory worker was injured. The accident was partly the worker’s fault, and partly Diver’s fault. The employee has sued Diver Corp. for $600,000. The corporation’s legal counsel believes it is possible that Diver Corp. will lose the lawsuit. If they lose, the estimated loss is $150,000 to $400,000. B. During 2017, Diver was sued for $2,500,000. The plaintiff is alleging breach of contract, and Diver’s legal counsel believes an unfavourable outcome is more likely than not. A reliable measurement of the award to the plaintiff is between $600,000 and $1,800,000. C. During 2017, Diver sued another company. The corporation’s legal counsel believes it is likely that Diver will be awarded damages of $900,000. Instructions: Discuss the proper accounting treatment, including any required disclosures, for each situation. Provide the rationale for your answers.

TRU Open Learning

ACCT 3211: Intermediate Financial Accounting 2

M3-1

Module 3: Shareholders' Equity Overview In Module 3, we turn our attention from liabilities, which represent the creditors’ interests in the assets of a corporation, to the shareholders’ residual interest in those assets. The discussions distinguish between the two basic sources of shareholders’ equity: 1. Invested capital (share capital) 2. Earned capital (retained earnings) We explore the expansion of corporate capital through the issuances, reacquisition, and retirement of shares. Shareholders’ equity is made up of four major components: •

Share capital: common and/or preferred shares

•

Contributed surplus

•

Retained earnings

•

Accumulated other comprehensive income

Learning Objectives By the time you finish your work on this module, you should be able to: •

Record the issuance, reacquisition, and retirement of shares.

•

Account for transactions that involve contributed surplus and retained earnings.

•

Account for the various types of dividend transactions.

•

Explain the factors that give rise to contributed surplus and accumulated other comprehensive income.