ST.

THOMAS MORE COLLEGE – CLARK

TMC Building, New York St.
Villa Sol Subdivision
Angeles City, Philippines
 A Professional Business School Tel. No. (045) 321 - 0727
 
 

Course Title: INTERMEDIATE ACCOUNTING 2

Course Code: AE16
Units: 3
Schedule: TUESDAY; 4:30-7:30pm
Instructor: RONNEL M. VINUYA, CPA
Email Address: rvinuya.cpa@gmail.com
Term: First Semester, AY 2020-2021
Consultation: By Appointment

Summary:

This course introduces the nature, functions, scope and limitations of the broad field of
accounting theory. It deals with the study of the theoretical accounting framework – objectives of
financial statements, accounting conventions, and generally accepted accounting principles (national
concepts and principles, as well as international accounting standards), the conditions under which they
may be appropriately applied, their impact or effect on the financial statements; and, the criticisms
commonly leveled against them. The course covers the detailed discussion, appreciation, and application
of accounting principles covering liabilities and equity accounts. Emphasis is given on the interpretation
and application of theories of accounting in relation to financial liabilities, current liabilities, provision
and contingent liability, bonds payable, note payable and debt restructure, leases, income taxes, employee
benefits, shareholders equity and retained earnings, share-based compensation, and book value and basic
earning per shares, including financial statement presentation and disclosure requirements. The related
internal control, ethical issues, and management of such liabilities and equity are also covered.

Learning Objectives:

At the end of the semester, the student shall have:

1. Identify and known the nature, valuation of liabilities and balance sheet presentation in the
financial statements;
2. Differentiate premiums warranty, gift certificates, refundable deposits, bonus, contingent assets
and liabilities and know the whole in the financial statement presentations;
3. Identified the transactions or events after reporting period;
4. Identify and account bonds payable acquisition, redemption, refinancing sale, conversion and
retirement and explained the accounting for bonds payable issued with share warrants and
conversion privilege;
5. Explain the nature, economic substance, and advantages of lease transactions and understand and
apply lease-accounting concepts to various lease arrangements;
6. Identify the current tax and noon current tax liability, known how to measure deferred tax
liability and assets and presented proper valuation of deferred tax liability and assets and balance
sheet presentation;
7. Identify nature and kinds of employee benefit post, funded or not funded, contributed or not
contributed multi plan or actuarial fund;
8. Discuss the characteristics of the corporate form of organization, its by- laws and article of
incorporation;
9. Explain the accounting procedures for issuance of par value and no-par value shares and describe
the accounting for treasury stock, treasury share subterfuge and donated capital;
10. Differentiate the accounting for right issues and stock warrants issued with other securities;
11. Explain the different types of preferred stock dividends and their effect on book value per share
and diluted per share;
12. Compute earnings per share in a simple capital structure and complex situations.

Mode of Delivery:

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ST. THOMAS MORE COLLEGE – CLARK
TMC Building, New York St.
Villa Sol Subdivision
Angeles City, Philippines
 A Professional Business School Tel. No. (045) 321 - 0727
  The delivery of lessons shall be in a form of blended learning that combines
  both formal
(traditional classroom) and non-formal (online courses) methodologies integrating technology to boost
learning (accelerole.com). The learners can be connected to the course content through the assistance of
their subject professors through synchronous and asynchronous manner.

References:
 Financial Reporting Theory and Practice Vol. 2 - Millan, Zeus Vernon B. 2020 edition
 FINANCIAL ACCOUNTING Vol. 2 - Valix, Conrado T., et.al 2020 Edition
 Intermediate Financial Accounting 20th edition - Kieso, Weygandt and Warfield

Website:
 www.accountingcoach.com
 www.icpa.ph
 www.acowtancy.com

Schedule:

WEEK TOPICS
1 Class Orientation

2 Current Liabilities, Provision and Contingent Liability

3 Bonds Payable

4 Effective Interest Method

5 Note Payable and Debt Restructure

6 Prelims

7 Operating Leases

8 Finance Leases

9 Accounting for Income Taxes

10 Post Employement Benefits

11 Midterms

12 Shareholders Equity and Retained Earnings

13 Share-Based Compensation
14 Book value and basic earnings per shares

15 Finals

Timetable:
Prelim Period August – October 2020
Midterm Period October – November 2020
Final Period November – December 2020

Assessment Criteria – Class Standing:

Component Weight
Quizzes 50%
Exercises/Assignments/Groupwork 40%
Attendance 10%
TOTAL 100%

Grading System:
This subject follows a Zero-based grading system to gauge the actual performance of the students
 Prelim Grade = [(Class Standing + Prelim Exam] / 2
 Midterm Grade = [(Class Standing + Midterm Exam] / 2

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ST. THOMAS MORE COLLEGE – CLARK
TMC Building, New York St.
Villa Sol Subdivision
Angeles City, Philippines
 A Professional Business School Tel. No. (045) 321 - 0727
   Final Grade = [Class Standing + Final Exam] / 2  

Semestral Grade = (PG + MG + FG) /3

Lesson 1
CURRENT LIABILITIES, PROVISION AND CONTINGENT LIABILITIES

I. Learning Objectives:

1. Definition and Measurement of liabilities

2. Know the recognition criteria for liabilities and their essential characteristics
3. Differentiate premiums warranty, gift certificates, refundable deposits, bonus
4. Identified contingent assets and liabilities and know the whole in the financial statement
presentations.

II. Outline/Discussion:

Definition and nature of Liabilities

PAS 1 prescribes the basis for presentation of general-purpose financial statements to improve
comparability both with the entity's financial statements of previous periods and with the financial
statements of other entities.

A liability is a present obligation arising from past event that is expected to be settled by an outflow of
economic benefits from an entity.

In other words, if there is no past event, then there is no liability and no provision should be recognized.

Past event can create 2 types of obligation:

 Legal obligation that arises from legislation, a contract or other legal act; or
 Constructive obligation that arises from some business practice or customs and created an
expectation in other parties to fulfill the obligation (in other words, people simply expect some
company to fulfill the obligation even if it’s not in the law or any contract).

Note: Essential characteristics of a liability:

1. Present obligation (Legal or Constructive)
2. Arising from past events 
3. Outflow of economic benefits

Recognition of liabilities

An item is recognized as a liability when:

1. It meets the definition of a liability;
2. It is probable that an outflow of resources embodying economic benefits will result from its
settlement; and
3. The settlement amount can be measured reliably.

Liability Classifications
When presenting liabilities on the balance sheet, they must be classified as either current liabilities or
long-term liabilities. A liability is classified as a current liability if it is expected to be settled within one
year. All other liabilities are classified as long-term. Accounts payable, accrued liabilities, and taxes
payable are usually classified as current liabilities. If a portion of a long-term debt is payable within the
next year, that portion is classified as a current liability. Most liabilities are classified as current liabilities.

CURRENT LIABILITIES
 An entity shall classify a liability as current when:
1. It expects to settle the liability in its normal operating cycle;
2. It holds the liability primarily for the purpose of trading;
3. The liability is due to be settled within 12 months after the reporting period; or

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ST. THOMAS MORE COLLEGE – CLARK
TMC Building, New York St.
Villa Sol Subdivision
Angeles City, Philippines
 A Professional Business School Tel. No. (045) 321 - 0727
  4. The entity does not have an unconditional right to defer settlement of the liability
  for at least 12
months after the reporting period.
 (PAS 1) All other liabilities are classified as noncurrent.

TRADE AND NON-TRADE PAYABLES

 Trade payables are obligations arising from purchases of inventory that are to be sold in the ordinary
course of business. Other payables are classified as non-trade.
 Trade payables are classified as current liabilities when they are expected to be settled within the
normal operating cycle or one year, whichever is longer.
 On the other hand, non-trade payables are classified as current liabilities only when they are
expected to be settled within one year.

FINANCIAL LIABILITIES
A financial liability is any liability that is a contractual obligation:
 to deliver cash or another financial asset to another entity; or
 to exchange financial assets or financial liabilities with another entity under conditions that are
potentially unfavorable to the entity; or
Examples of financial liabilities:
 Payables such as accounts, notes, loans, bonds payable and accrued expenses that are payable in cash.
 Finance lease obligations.
 Liabilities held for trading such as obligations to deliver financial assets borrowed by a “short seller”
(i.e. an entity that sells financial assets it has borrowed and does not yet own).
 Preference shares issued with mandatory redemption.
 Security deposits received that are to be returned to tenants at the end of lease term.
 Obligations to deliver a variable number of own shares worth a fixed amount of cash.
The following are not financial liabilities:
 Unearned revenues and warranty obligations that are to be settled by future delivery of goods or
services, rather than cash.
 Taxes, SSS premiums, Philhealth and other payables arising from statutory requirements and not
from contracts.
 Commodity contracts that either cannot be settled in cash or which are expected to be settled by
commodity exchange (e.g., coffee beans, gold bullion, oil, and the like). If a commodity contract is
expected to be cash settled, it will be included as financial liability on the part of the cash payor.
 Constructive obligations. These obligations do not arise from contracts.
Measurement of financial liabilities:
 Initial measurement – fair value minus transaction costs, except financial liabilities at FVPL whose
transaction costs are expensed immediately.
 Subsequent measurement – amortized cost (except financial liabilities that are classified as held for
trading and those that are designated; these are subsequently measured at fair value)
Measurement of Non-financial liabilities:
 Non-financial liabilities are initially measured at the best estimate of the amounts needed to settle
those obligations or the measurement basis required by other applicable standard.
Examples:
 Obligations arising from statutory requirements (e.g., income tax payable)
 Unearned or deferred revenues
 Warranty obligations
 Commodity contracts that either cannot be settled in cash or which are expected to be settled by
commodity exchange
Contingent liabilities:
A contingent liability is either:

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ST. THOMAS MORE COLLEGE – CLARK
TMC Building, New York St.
Villa Sol Subdivision
Angeles City, Philippines
 A Professional Business School Tel. No. (045) 321 - 0727
  A possible obligation (not present) from past event that will be confirmed by some future
  event; or
 A present obligation from past event, but either:
 The ouflow of economic benefits to satisfy this obligation is not probable (less than 50%), or
 The amount of obligation cannot be reliably measured (this is very rare, in fact).

For example, you might face a lawsuit, but your lawyers estimate the probability of losing the case at
30% – in this case, it’s not probable that you will have to incur any expenditures to settle the claim and
you should not book a provision. It’s typical contingent liability.

If you identify you have a contingent liability, you do NOT recognize it – no journal entry. You should
only make appropriate disclosures in the notes to the financial statements.

Contingent assets:
 A contingent asset is a possible asset arising from past events that will be confirmed by some future
events not fully under the entity’s control.
 Similarly as with contingent liabilities, you should not book anything in relation to contingent assets,
but you make appropriate disclosures.

Note:
PROVISION CONTINGENT LIABILITY

 A present obligation  A possible obligation

 Both probable and reliably measurable
 Hence, recognized as a regular liability in
the statement of financial position and income
statement (for related loss/expense)
 A present obligation which is either probable
or reliably measurable but not both
 Hence, disclosed in the notes to financial
statements and not recognized in the
statement of financial position

Likelihood of Occurrence Description

Probable The future event is more likely than not to occur,
meaning, the probability that the event will occur
is greater than the probability that it will not
occur
Reasonably possible The future event is less likely to occur
Remote The future event is least likely to occur

Level of Uncertainty Reliably FS PRESENTATION

Estimable Disclose NOTE
Accrue Ignore
(notes to FS)
Loss Contingencies: Treated as PROVISION
 Probable Yes  (Liability/Expenses)

 Probable No  Categorized as
 Possible Yes/No  CONTINGENT

 Remote Yes/No LIABILITIES

Gain Contingencies:
 Virtually certain Yes  Treated as an Asset/Income

 Virtually certain No  Categorized as

 Probable Yes/No  CONTINGENT
 Possible/Remote Yes/No  ASSETS

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ST. THOMAS MORE COLLEGE – CLARK
TMC Building, New York St.
Villa Sol Subdivision
Angeles City, Philippines
 A Professional Business School Tel. No. (045) 321 - 0727
 
 

Read pages ___________ and answer exercises in pages ____

III. Activity/Exercises:

Answer the following questions:

1. An entity intends to refinance a note payable due next year. The entity expects the note to be
refinanced for a period of five years. Under what circumstances can the entity report the note payable
as a noncurrent liability in the current year-end statement of financial position?
a. if the entity has the intent and ability to refinance before the current year-end
b. If the entity executed an agreement to refinance before the current year-end.
c. If the entity executed an agreement to refinance prior to the issue if the financial statement
d. If the entity has the intent and ability to refinance before the issue of the financial statements.

2. Which of the following is not acceptable treatment for the presentation of current liabilities?
a. Listing current liabilities in order of maturity.
b. Listing current liabilities according to amount.
c. Offsetting current liabilities against assets that are to be applied to their liquidation
d. Showing current liabilities in order of liquidating preference.

3. Which of the following is a financial liability?

a. Deferred revenue
b. A warranty obligation
c. A constructive obligation

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ST. THOMAS MORE COLLEGE – CLARK
TMC Building, New York St.
Villa Sol Subdivision
Angeles City, Philippines
 A Professional Business School Tel. No. (045) 321 - 0727
  d. An obligation to deliver own shares worth a fixed amount of cash.  

4. Which of the following is not classified as a financial instrument?

a. Convertible bond.
b. Foreign currency contract.
c. Warranty provision
d. Loan receivable.

5. Under PAS 37, a “provision” is recognized

a. When there is a legal obligation arising from a past event, the probability of the outflow of
resource is less than probable, and a reliable estimate can be made
b. When there is constructive obligation as a result of past event, the outflow of resource is
probable, and reliable estimate can be made of the amount of the obligation.
c. When there is a possible obligation arising from past event
d. When management decides that it is essential that a provision be made

6. An entity operates a chemical plant and has a published policy of making good any damage caused to
the environment. Which of the following would give rise to a provision?
a. It is likely that a chemical spill which would result to pay penalty will occur next year.
b. Research suggest that there is a possibility that the entity’s action may cause damage to
surrounding wildlife
c. The government has a plan for a law requiring all environmental damage to be rectified
d. A chemical spill from a chemical plant has caused harm to the surrounding wildlife.

7. For which of the following should a provision be recognized?

a. Future operating losses
b. Obligations under insurance contracts
c. Reductions in fair value of financial instruments
d. Obligations for plant decommissioning costs.

PROVISIONS, CONTINGENCIES AND DEBT REFINANCING

PROBLEM NO. 1
Your audit client, Makaso Company, is involved in the situation described below. Makaso’s accounting
year ends on December 31, 2012, and its financial statements are authorized for issue on March 20, 2013.

1. On November 1, 2012, 69 passengers on Makaso’s Airline Flight no. HHWW 143 were injured upon
landing when the plane skidded off the runway. Personal injury suits for damages totaling
P10,000,000 were filed on January 12, 2013, against the airline by 21 injured passengers. The airline
carries no insurance. Legal counsel has studied each suit and advised Makaso that it can reasonably
expect to pay 70% of the damages claimed. During the past decade, the company has experienced at
least one accident per year and incurred average damages of P4,100,000.

2. Makaso is involved in a lawsuit resulting from a dispute with a customer. On January 28, 2013,
judgement was rendered against Makaso in the amount of P20 million. Makaso plans to appeal the
judgement and is unable to predict its outcome though management believes that it will not have a
material adverse effect on the company.

3. On April 25, 2013, the Bureau of Internal Revenue is in the process of examining Makaso’s tax
returns for 2010 and 2011, but has not proposed a deficiency assessment. Management feels an
assessment is reasonable possible, and if an assessment is made, an unfavorable settlement of up to
P5 million is reasonable possible.

4. On November 1, 2012, a lawsuit was filed by a disgruntled customer who discover a safety hazard in
one of Makaso’s best-selling products. Makaso’s lawyers feel it is probable that the company will be
liable for P500,000.

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ST. THOMAS MORE COLLEGE – CLARK
TMC Building, New York St.
Villa Sol Subdivision
Angeles City, Philippines
 A Professional Business School Tel. No. (045) 321 - 0727
On
  December 5, 2012, Mautang initiated a lawsuit seeking P1 million in damages   from a patent
infringement.

REQUIRED:
A. Determine the appropriate means of reporting to each situation. Prepare any necessary journal entries
on December 31, 2012.
B. What amount of current liability should be shown on Makaso’s statement of financial position on
December 31, 2012?

PROBLEM NO. 2

At December 31, 2012, Koro Company’s liabilities include the following:

1. P10,000,000 of 10% notes are due on March 31, 2017. The financing agreement contains a covenant
that requires Koro to maintain current assets at least equal to 200% of its current liabilities. As of
December 31, 2012, Koro has breached this loan covenant. On February 10, 2013, before Koro’s
financial statements are authorized for issue, Koro obtained a period of grace from BPNBI Bank until
January 31, 2014, having convinced the bank that the company’s normal 3 to 1 ratio of current assets
to current liabilities will be reestablished during 2013.
2. P15,000,000 of non-cancelable 12% bonds were issued at face value on September 30, 1991. The
bonds mature on August 31, 2013. Koro expects to have sufficient cash balance to redeem the bonds
at maturity.
3. P20,000,000 of 10% bonds were issued at face value on June 30, 1993. The bonds mature on June 30,
2022, but bondholders have the option to call (demand payment on) the bonds on June 30, 2013.
However, the call option is not expected to be exercised, given prevailing market conditions.
What portion of Koro Company’s debt should be reported as a current and non-current liability?

IV. References:
 Financial Reporting Theory and Practice Vol. 2 - Millan, Zeus Vernon B. 2020 edition
 FINANCIAL ACCOUNTING Vol. 2 - Valix, Conrado T., et.al 2020 Edition
 Intermediate Financial Accounting 20th edition - Kieso, Weygandt and Warfield

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