FINANCIAL ACCOUNTING PART 3

PROVISIONS, CONTINGENT LIABILITIES AND OTHER LIABILITIES

NAME: __________________________________________________
SECTION: _______________________________________________
DATE:___________________________________________________
SCORE: ______/85 points
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INSTRUCTIONS: Write all your answers in a separate paper with your name,
section and date. Provide solutions to the problems in another sheet of
paper No erasures please. REMEMBER, there are 2 examinations:
HONESTY/INTEGRITY TEST and FINANCIAL ACCOUNTING TEST. “INTEGRITY is
doing the right thing, even when no one is watching.” Do not chat your
classmates or even on your own group messengers. Ask only your professor
if you have questions. I hope you pass these 2 examinations especially
the HONESTY/INTEGRITY TESTS. Good things happen for those who are honest.
Please pass the picture of your answers and solutions to your professor’s
messenger on or before 2:00PM. God bless my dear future CPAs!
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ITEM 1 -2 (each item is 2.5 points, total of 5 points)

San Jose Inc. is a manufacturer and retailer of household furniture.
Financial statements for the year ended December 31, 2016 discloses the
following debt obligations of the company at the end of its reporting
period. San Jose’s financial statements are authorized for issuance on
March 6, 2017.
• A P200,000 short term obligation due on March 1, 2017. Its maturity
could be extended to March 1, 2019, provided San Jose agrees to
provide additional collateral. On February 12, 2017 an agreement
is reached to extend the loan’s maturity to March 1, 2019.
• A short-term obligation of P4,200,000 in the form of notes payable
due February 5,2017. The company issued 80,000 ordinary shares for
P40 per share on January 25, 2017. The proceeds from the issuance
plus P1,000,000 cash were used to fully settle the debt on February
5, 2017.
• A long-term obligation of P1,500,000 due on December 1, 2026. On
November 10, 2016, San Jose breaches a covenant on its debt

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 obligation and the loan becomes payable on demand. An agreement is
reached to provide a waiver of the breach on January 11, 2017.
• A long-term obligation of P4,000,000. The loan is maturing over 8
years in the amount of P500,000 per year. The loan is dated
September 1, 2016 and the first maturity date is September 1, 2017.
• A debt obligation of P600,000 maturing on December 31, 2019. The
debt is callable on demand by the lender at any time.

1. What amount of current liabilities should be reported on the

December 31, 2016 statement of financial position?
2. What amount of non-current liabilities should be reported on the
December 31, 2016 statement of financial position?

ITEM 3-7 (each item is 2 points, total of 10 points)

STA. MARIA GORETTI CORP. a client requests that you compute the
appropriate balance of its estimated liability for product warranty
account for a statement as of June 30, 2016.
Sta. Maria Goretti Corp manufactures television components and sells
them with a 6-month warranty under which defective components will be
replaced without charge. On December 31, 2015, estimated liability for
product warranty had a balance of P620,000. By June 30, 2016, this
balance had been reduced to P120,400 by debits for estimated net cost
of components returned that had been sold in 2015.
The corporation started out in 2016 expecting 7% of the peso volume of
sales to be returned. However due to the introduction of the new models
during the year, this estimated percentage of returns was increased to
10% on May 1. It is assumed that no components sold during a given month
are returned in that month. Each component is stamped with a date at
time of sale so that the warranty may be properly administered. The
following table of percentage indicates the likely pattern of sales
returns during the 6-month period of the warranty, starting with the
month following the sale of components.
Month following sale Percentage of Total returns expected
First 30%
Second 20%

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Third 20%
Fourth through sixth-10% each month 30%

Gross sales of components were as follows for the first six months of
2016:
Month Amount Month Amount
January P4,200,000 April P3,250,000
February 4,700,000 May 2,400,000
March 3,900,000 June 1,900,000

The corporation’s warranty also covers the payment of freight costs on

defective components returned and on the new components sent out as
replacements. This freight cost runs approximately 5% of the sales price
of the components returned. The manufacturing cost of the components is
roughly 70% of the sales price, and the salvage value of returned
components averages 10% of their sales price. Returned components on
hand at December 31, 2015 were thus valued in inventory at 10% of their
original sales price.
3. Total estimated returns from the sales made during the first 6
months of 2016.
4. Total estimated returns subsequent to June 30, 2016
5. Estimated loss on component replacement (in percentage of sales
price)
6. Required Estimated Liability for Product Warranty balance at June
30, 2016
7. Required adjustment to liability account.

8.Which of the following statement is true in relation to recognition

of a provision?
I. No provision is recognized for costs that need to be incurred to
operate in the future.
II. A provision for the decommissioning of an oil installation or a
nuclear plant station shall be recognized to the extent that an entity
is obliged to rectify damage already caused.
a. I only
b. II only

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 c. Both I and II
d. Neither 1 nor II

9.Provisions shall be discounted if the effect of the time value of money

is material. Which of the following is incorrect regarding the discount
rate?
a. Reflects current market assessment of the time value of money
b. Reflects risk specific to the liability.
c. Does not reflect risks for which future cash flow estimates have been
adjusted.
d. Is a post-tax discount rate

10. An outflow of resources embodying economic benefits is regarded as

“probable” when
a. The probability that the event will occur is greater than the
probability that the event will not occur.
b. The probability that the event will not occur is greater than the
probability that the event will occur.
c. The probability that the event will occur is the same as the
probability that the event will not occur.
d. The probability that the event will occur is 90% likely.

11. Which of the following statements is incorrect concerning recognition

of a provision?
a. Provision shall be reviewed at the end of each reporting period and
adjusted to reflect the current best estimate.
b. A provision shall be used only for expenditures for which the
provision was originally recognized.
c. Provisions shall be recognized for future operating losses.
d. If the entity has an onerous contract, the present obligation under
the contract shall be recognized and measured as a provision.

12. 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

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d. Obligations for plant decommissioning costs.

13. Which of the following would not be considered a “provision”?

a. Warranty liability
b. Bad debt
c. Tax Payable
d. Note Payable

ITEM 14-18 (2 points each, total of 10 points)

SAN ISIDRO CO. is selling audio and video appliances. The company’s
fiscal year ends on March 31. The following information relates to the
obligations of the company as of March 31, 2020:
NOTES PAYABLE
San Isidro has signed several long-term notes with financial
institutions. The maturities of these notes are given below. The total
unpaid interest for all of these notes amounts to P408,000 on March 31,
2010.
Due date Amount
April 31, 2010 P 720,000
July 31, 2010 1,080,000
September 1, 2010 540,000
February 1, 2011 540,000
April 1, 2011-March 31, 2012 3,240,000
P 6,120,000
ESTIMATED WARRANTIES
San Isidro has a one-year product warranty on some selected items. The
estimated warranty liability on sales during the 2008-2009 fiscal year
and still outstanding as of March 31, 2009 amounted to P302,400. The
warranty costs on sales made from April 1, 2009 to March 31, 2010 are
estimated at P756,000. The actual warranty costs incurred during 2009-
2010 fiscal year are as follows:
Warranty claims honored on 2008-2009 sales P 302,400
Warranty claims honored on 2009-2010 sales 342,000
Total P 644,400

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TRADE PAYABLES
Accounts Payable for supplies, goods and services purchases on open
account amount to P672,000 as of March 31, 2010.

DIVIDENDS
On March 10, 2010 San Isidro Board of Directors declared a cash dividend
of P0.30 per ordinary share and a 10% ordinary share dividend. Both
dividends were to be distributed on April 5,2010 to shareholders on
record at the close of business on March 31, 2010. As of March 31, 2010,
San Isidro has 6,000,000, P2 par value, ordinary shares issued and
outstanding.

BONDS PAYABLE
San Isidro issued P6,000,000, 12% bonds on October 1, 2004 at 96. The
bonds will mature on October 1, 2014. Interest is paid semi-annually on
October 1 and April 1. San Isidro uses the straight-line method to
amortize bond discount.

Based on the foregoing information, determine the adjusted balances of

the following as of March 31, 2010:
14. Estimated warranty payable
15. Unamortized bond discount
16. Bond interest payable
17. Total current liabilities
18. Total non-current liabilities

19. Which of the following statements is incorrect concerning a

contingent asset?
a. A contingent asset is not recognized in the FS because this may result
to recognition of income that may never be realized.
b. When the realization of income is virtually certain, the related asset
is no longer contingent asset and its recognition is appropriate.
c. A contingent asset is only disclosed when the occurrence of the future
event is possible or remote.
d. The related gain arising from the contingent asset is recognized
usually when it is realized.

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20. An item that is NOT a contingent liability is
a. Premium offer to customers for labels or box tops
b. Accommodation endorsement on customer note
c. Additional compensation that maybe payable on a dispute now being
arbitrated
d. Pending lawsuit

21. When the occurrence of a contingent asset is probable and the amount
can be reliably measured, the contingent asset should be
a. Recognized in the statement of financial position and disclosed.
b. Classified as an appropriation of retained earnings
c. Disclosed but not recognized in the statement of financial position
d. Neither recognized in the statement of financial position nor
disclosed.

22. At year end, an entity was suing a competitor for patent

infringement. The award from the probable favorable outcome could be
reliably measured. The entity’s FS should report the expected award as
a. Receivable and revenue
b. Receivable and reduction of patent
c. Receivable and deferred revenue
d. Disclosure only

23. An expropriation of asset which is imminent and for which the amount
of loss ca be reasonably estimated should be
a. Accrued
b. Disclosed
c. Accrued and disclosed
d. Not accrued and not disclosed

24. An entity signed an agreement with another entity which requires

that if the latter does not meet certain contractual obligations, it
must forfeit a piece of land to the former. How should the former report
the land?
a. An investment property

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b. As a contingent current asset
c. In a note disclosure if the economic benefits are probable
d. As a contingent asset and other comprehensive income.

25. Contingent liabilities will or will not become actual liabilities

depending on
a. Whether they are probable and measurable
b. The degree of uncertainty
c. The present condition suggesting a liability
d. The outcome of a future event

26. Provisions are accrued because the likelihood of an unfavorable

outcome is
a. Virtually certain
b. Greater than 50%
c. At least 75%
d. Possible

27. Which of the following should be disclosed in the FS as a contingent

liability?
a. The entity has accepted liability prior to the year end for unfair
dismissal of an employee and is to pay damages.
b. The entity has received a letter from a supplier complaining about
an old unpaid invoice.
c. The entity is involved in a legal case which it may possibly lose.
d. The entity has not yet paid certain claims under product warranties.

28. Which of the following is NOT considered when evaluating whether to

record a liability for pending litigation?
a. Time period in which the underlying cause of action occurred
b. The type of litigation involved
c. The probability of an unfavorable outcome
d. The ability to make a reliable estimate of the amount of the loss.

29.Which of the following is required to be disclosed regarding risk and

uncertainties that exist?

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a. Factor causing an estimate to be sensitive
b. The potential impact of estimate when it is reasonably possible that
the estimate will change in the future.
c. The potential impact of estimate when it is remotely possible that
the estimate will change in the future.
d. A description of operations both within and outside of the home
country.

30.(2 points) Items related to Candelaria’s payroll as of December 31,

2010 are:
Accrued salaries and wages P 776,000
Payroll deductions for:
Income taxes withheld 56,000
SSS Contributions 64,000
Phil health contributions 16,000
Advances to employees 80,000

What is the current liability in Candelaria’s December 31, 2010 statement

of financial position?

31. (2 points) In May 2010, Candelaria became involved in a litigation.

The suit being contested, but Candelaria’s lawyer believes there is
probable that Candelaria may be held liable for damages estimated in the
range between P2,000,000 and P3,000,000 and no amount is a best estimate
of potential liability than any other amount.

What is the current liability in Candelaria’s December 31, 2010 statement

of financial position?

32.(2 points) Candelaria Company’s president gets an annual bonus of 10%

of net income after bonus and income tax. Assume the tax rate of 30% and
the correct income before bonus and tax is P9,600,000.

What is the current liability in Candelaria’s December 31, 2010 statement

of financial position?

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33. (2 points) Candelaria has a one-year product warranty on selected
items in its product line. The estimated warranty liability on sales
made during 2009, which was outstanding as of December 31, 2009 amounted
to P416,000. The warranty costs on sales made in 2010 are estimated at
P1,504,000. Actual warranty costs incurred during 2010 are as follows:
Warranty claims honored on 2009 sales P 416,000
Warranty claims honored on 2010 sales 992,000
Total warranty claims honored 1,408,000

What is the current liability in Candelaria’s December 31, 2010 statement

of financial position?

34. (2 points) To increase sales, Candelaria Co. inaugurated a

promotional campaign on June 30, 2010. Candelaria placed a coupon
redeemable for a premium in each package of product sold. Each premium
costs P100. A premium is offered to customers who send in 5 coupons and
a remittance of P30. The distribution cost per premium is P20. Candelaria
estimated that only 60% of the coupons issued will be redeemed. For the
six months ended December 31, 2010, the following is available:
Packages of product sold 160,000
Premiums purchased 16,000
Coupons redeemed 64,000

What is the current liability in Candelaria’s December 31, 2010

statement of financial position?

ITEMS 35-39 (2 points each, total of 10 points)

DOLORES MUSIC EMPORIUM carries a wide variety of music promotion

techniques-warranties and premiums-to attract customers.
Musical instrument and sound equipment are sold in a one-year warranty
for replacement of parts and labor. The estimated warranty cost, based
on past experience is 2% of sales.
The premium is offered on the recorded and sheet music. Customers receive
a coupon for each peso spent on recorded music or sheet music. Customers
may exchange 200 coupons and P20 for an AM/FM radio. Dolores pays P34

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for each radio and estimates that 60% of the coupons given to customers
will be redeemed.
Dolores’ total sales for 2010 were P57,600,000-P43,200,000 from musical
instrument and sound reproduction equipment and P14,400,000 from
recorded music and sheet music. Replacement parts and labor for warranty
work totaled P1,312,000 during 2010. A total of 52,000 AM/FM radio used
in the premium program were purchased during the year and there were
9,600,000 coupons redeemed in 2010.
The accrual method is used by Dolores to account for the warranty and
premium costs for financial reporting purposes. The balance in the
accounts related to warranties and premiums On January 1, 2010 were shown
below:
Inventory of Premium AM/FM radio P 319,600
Estimated Premium Claims Outstanding 358,400
Estimated Liability from warranties 1,088,000

Based on the above, determine the amounts that will be shown on the 2010
FS for the following:
35. Warranty Expense
36. Estimated liability from warranties
37. Premium expense
38. Inventory of AM/FM radio
39. Estimated liability for premiums

40.(2 points) Eastern Co. has several contingent liabilities on December

31, 2019. The auditor obtained the following brief description of each
liability.
In May 2019, Eastern Co. became involved in litigation
In December 2019, the court assessed a judgment for P1,600,000 against
Eastern Co.
The entity is appealing the amount of the judgment. The entity’s
attorneys believed it is probable that the assessment can be reduced on
appeal by 50%
In July 2019, Pasig City brought action against Easter Co. for polluting
Pasig River with its waste products.

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It is probable that Pasig City will be successful but the amount of
damages Eastern Co. might have to pay should not exceed P1,500,000.

What total amount should be accrued as provision on December 31, 2019?

41.(2 points) The bonus agreement of Christian Co provides that the

general manager shall receive an annual bonus of 10% of the net income
after bonus and tax. The income tax rate is 30%. The general manager
received P280,000 for the current year as bonus. What is income before
bonus and tax?

42.(2 points) Annete Video Co. sells 1- and 2-year subscriptions for the
video-of-the-month business.
Subscriptions are collected in advance and credited to sales.
An analysis of the recorded sales activity revealed the following:
2019 2020
Sales 420,000 500,000
Less cancellations 20,000 30,000
Net sales 400,000 470,000

Subscription expirations:
2019 120,000
2020 155,000 130,000
2021 125,000 200,000
2022 140,000
400,000 470,000
On December 31, 2020, what amount should be reported as unearned
subscription revenue?

ITEMS 43-46 (2 points each, total of 8 points)

LIAM CO. sells equipment service contracts that cover a 2 year period.
The sales price of each contract is P600.
The past experience is that, of the total pesos spent for repairs on
service contracts, 40% is incurred evenly during the first contract year
and 60% evenly during the second contract year.
The entity sold 1,000 contracts evenly throughout 2019.

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43. What amount should be reported as contract revenue for 2019?
44. What amount should be reported as deferred contract revenue on
December 31, 2019?
45. What amount should be reported as contract revenue for 2020?
46. What amount should be reported as contract revenue for 2021?

ITEMS 47-50 (2 points each, total of 8 points)

MINETTE Co. operates a customer loyalty program. The entity grants
loyalty points for goods purchased. The loyalty points can be used by
the customers in exchange for goods of the entity. The points have no
expiry date.
During 2019, the entity issued 50,000 award credits and expects that 80%
of these award credits shall be redeemed. The total stand-alone selling
price of the award credits granted is reliably measured at P1,000,000.
In 2019, the entity sold goods to customers for a total consideration
of P7,000,000 based on stand-alone selling price.
The award credits redeemed, and the total award credits expected to be
redeemed each year are as follows:
REDEEMED EXPECTED TO BE REDEEEMED
2019 15,000 80%
2020 7,950 85%
2021 2,550 85%
2022 15,000 90%

47. What is the revenue from points for 2019?

48. What is the revenue from points for 2020?
49. What is the revenue from points for 2021?
50. What is the revenue from points for 2022?

51. An entity is the plaintiff in a patent infringement case. The entity

has a high probability of a favorable outcome and can reasonably estimate
the amount of the settlement. What is the proper accounting treatment
of the patent infringement case?
a. No reporting is required at this time
b. A gain contingency for the minimum estimated amount of the settlement
c. Disclosure in the notes to FS

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d. A gain contingency for estimated probable settlement

52. Contingent assets are usually recognized when

a. Realized
b. Occurrence is reasonably possible, and the amount can be reliably
measured
c. Occurrence is probable, and the amount can be reliably measured.
d. The amount can be reliably measured.

53. Reporting in the FS is required for

a. Loss contingencies that are probable and can be reliably measured.
b. Gain contingencies that are probable and can be reliably measured.
c. Loss contingencies that are possible and can be reliably measured.
d. All loss contingencies

********************NOTHING FOLLOWS*************************

HDIPUNZALAN
10/31/2020

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