Problem 1. For each of the following situations, indicate the liability amount, if any, that is reported on the balance sheet of Company X at December 31, 2007.
(a) Company X owes $110,000 at year-end 2007 for its inventory purchases.
(b) Company X agreed to purchase a $28,000 drill press in January 2008. (c) Company X provides a profit-sharing bonus for its executives equal to 5% of reported pre-tax annual income. The estimated pretax income for 2007 is $600,000. Bonuses are not paid until January the following year.
Problem 2. The following independent situations represent various types of liabilities. Analyze each situation and indicate/explain which of the following is the proper accounting treatment for the company: (i) record a liability on the balance sheet, (ii) disclose the liability in a financial statement footnote, or (iii) neither record nor disclose any liability.
(a) A stockholder has filed a lawsuit against Company A. Company A's attorneys have reviewd the facts of the case. Their review revealed that similar lawsuits have never resulted in a cash award and it is highly unlikely that this lawsuit will either.
(b) Company B signed a 60-day, 10% note when it purchased items from another company.
(c) The Environmental Protection Agency notifies Company C that a state where it has a plant is filing a lawsuit for ground water pollution against Company A and another company that has a plant adjacent to Company A's plant. Test results have not identified the exact source of the pollution. Company A's manufacturing process often produces by-products that can pollute ground watter.
(d) Company D manufactured and sold products to a retailer that sold the later products to consumers. Company D will replace the product if it is found to be defective within 90 days of the sale to the consumer. Historically, 1.2% of the products are returned for replacement.