Question 1

Only contingencies that are probable and can be estimated are recorded as a liability and an expense.

Accepted Answer

This statement is true according to the accounting principle of conservatism. Only probable and estimable contingencies are recognized as a liability and expense to avoid overestimating assets and understating liabilities.

Question 2

A restaurant has been sued because a customer claims to have found a bug in her chili. The company's lawyers believe there is only a remote possibility that the lawsuit will result in an actual liability. Which of the following actions should be taken by the company's management?
A) The situation should be described in a note to the financial statements.
B) The possible liability should not be shown in the financial statements.
C) The liability should be estimated and recorded as an expense.
D) Management should consider resigning.

Accepted Answer

The possible liability is only remote and therefore not probable, so it should not be shown in the financial statements. Recording an expense or describing the situation in a note would be inappropriate as there is no actual liability. Resigning is not a reasonable or appropriate option in this scenario.

Question 3

A certain contingent liability was evaluated at year-end, and considered to have a reasonable possibility of becoming an actual liability. If the accountant decided not to report it on the balance sheet or in the notes to the financial statements, this could be considered a violation of generally accepted accounting principles.

Accepted Answer

According to GAAP, if a contingent liability has a reasonable possibility of becoming an actual liability, it should be disclosed in the financial statements either on the balance sheet or in the notes. Failure to do so could be considered a violation of GAAP.

Question 4

The times-interest-earned ratio is also called the short interest ratio.

Accepted Answer

The times-interest-earned ratio is also known as the interest coverage ratio. The short interest ratio refers to the number of shares sold short in the market relative to the total number of shares outstanding.

Question 5

The times-interest- earned ratios of Benin Inc. are 20.56 and 7.35 for the years 2013 and 2014, respectively. Which of the following can be the possible reason for such a change?
A) Benin Inc. incurred less debt specifically in its revolving line of credit.
B) Benin Inc. incurred more debt specifically in its revolving line of credit.
C) Benin Inc. paid less interest in its revolving line of credit.
D) Benin Inc.'s debt-paying ability increased.

Accepted Answer

The times-interest-earned ratio measures a company's ability to meet its interest payments. A higher ratio indicates that the company has more earnings to cover its interest expenses. In this case, the ratio decreased from 2013 to 2014, which means that the company had less income available to cover its interest expenses. One possible reason for this is that the company incurred more debt specifically in its revolving line of credit, which increased its interest expenses and lowered the ratio.

Question 6

A certain contingent liability was evaluated at year-end; the company felt it was probable that it would become an actual liability, and the amount could be reasonably estimated. If the accountant decided not to report it on the balance sheet or in the notes to the financial statement, what effect would it have on the financial reporting of the company?
A) There would be no effect.
B) The liabilities on the balance sheet would be understated.
C) The information about the transaction would be inadequately disclosed in the notes.
D) The net income of the company would be understated.

Accepted Answer

If the accountant decided not to report the contingent liability on the balance sheet or in the notes, the liabilities on the balance sheet would be understated. This would misrepresent the financial position of the company and potentially mislead users relying on the financial statements. It would not affect net income as the liability is not yet realized.

Question 7

Which of the following is an example of an estimated probable contingency?
A) FICA tax payable
B) Income tax payable
C) Warranty payable
D) Accounts payable

Accepted Answer

A warranty payable is an estimated probable contingency because it is a liability that a company expects to have to pay in the future due to their product warranties. The exact amount of the liability may not be known, but it is estimated based on historical experience and other factors. The other answer choices are not contingent liabilities and represent actual amounts owed by the company.

Question 8

A certain contingent liability was evaluated at year-end, and considered to have a remote possibility of becoming an actual liability. If the accountant decided not to report it on the balance sheet or in the notes to the financial statements, this could be considered a violation of generally accepted accounting principles.

Accepted Answer

The answer of A certain contingent liability was evaluated at...

Question 9

A company has been sued for product failures allegedly resulting in injuries to the individuals bringing the lawsuit. The company's lawyers believe it is more than remote, but less than probable, that the lawsuit will result in an actual liability. Which of the following actions should be taken by the company's management?
A) The liability should be estimated and recorded as an expense.
B) The situation should be described in a note to the financial statements.
C) The possible liability should be ignored.
D) Management should consider resigning.

Accepted Answer

The situation should be described in a note to the financial statements. The company's lawyers believe that it is more than remote, but less than probable, that the lawsuit will result in an actual liability, which means that it is a possible contingency. According to GAAP, possible contingencies should be disclosed in the notes to the financial statements. Therefore, the best choice for the company's management would be to disclose the situation as a possible contingency in the financial statements.

Question 10

Which of the following statements about the times-interest-earned ratio is true?
A) A lower ratio indicates a higher debt paying ability.
B) Debt reduction leads to an increase in interest expense.
C) The times-interest-earned ratio is also called the interest-coverage ratio.
D) The times-interest-earned ratio is calculated by dividing gross income by interest expense.

Accepted Answer

The times-interest-earned ratio is also called the interest-coverage ratio. Option A is incorrect because a higher times-interest-earned ratio indicates a higher debt paying ability. Option B is incorrect because debt reduction would lead to a decrease in interest expense, not an increase. Option D is incorrect because the times-interest-earned ratio is calculated by dividing earnings before interest and taxes (EBIT) by interest expense, not gross income.

Question 11

The times-interest-earned ratios of four companies are given below: $$\begin{array} { | l | r | } 
\hline \text { Forge Corp. } & 8.9 \
\hline \text { Fellow Inc. } & 9.2 \
\hline \text { Stacy Corp. } & 6.7 \
\hline \text { Bennett Inc. } & 13.5 \
\hline
\end{array}$$ Which of the above companies have the highest debt-paying ability?
A) Forge Corp.
B) Fellow Inc.
C) Stacy Corp.
D) Bennett Inc.

Accepted Answer

The higher the times-interest-earned ratio, the greater the company's ability to meet its interest payments on debt. Therefore, Bennett Inc. with a ratio of 13.5 has the highest debt-paying ability among the listed companies.

Question 12

A certain contingent liability was evaluated at year-end; the company felt it was probable that it would become an actual liability, and the amount could be reasonably estimated. If the accountant decided to report it on the balance sheet, this could be considered a violation of generally accepted accounting principles.

Accepted Answer

If a contingent liability is probable and the amount can be reasonably estimated, then it should be reported on the balance sheet as a liability under generally accepted accounting principles. Therefore, reporting it on the balance sheet would not be a violation of GAAP.

Question 13

A certain contingent liability was evaluated at year-end, and considered to have a reasonable possibility of becoming an actual liability. If the accountant decided not to report it in the notes to the financial statement, what effect would this have on the financial reporting of the company?
A) There would be no effect.
B) The liabilities on the balance sheet would be understated.
C) The information about the transaction would be inadequately disclosed in the notes.
D) The net income of the company would be understated.

Accepted Answer

The answer of A certain contingent liability was evaluated at...

Question 14

A high interest-coverage ratio indicates a business's difficulty in paying interest expense.

Accepted Answer

A high interest-coverage ratio actually indicates a business's ability to cover its interest expenses with its earnings. A low interest-coverage ratio indicates a difficulty in paying interest expenses.

Question 15

Which of the following is the proper treatment for a liability that exists, but the exact amount of which is not known? Assume the probability of loss is probable and the amount of the loss can be estimated.
A) The liability should be doubled following conservatism.
B) The amount of the liability should be estimated and recorded.
C) The liability should be ignored.
D) The liability should be reported in the notes to the financial statements.

Accepted Answer

According to the accounting principle of "conservatism," a liability should be recorded if there is a "probable" chance of it occurring, and the amount of the loss can be estimated. Therefore, the proper treatment for a liability that exists, but the exact amount of which is not known, is to estimate the amount of the liability and record it in the financial statements. Doubling the liability, ignoring it, or reporting it only in the notes would not accurately reflect the financial situation of the company.

Question 16

Investors use the times-interest-earned ratio to evaluate a business's ability to pay interest expense.

Accepted Answer

The times-interest-earned ratio is a financial ratio used to evaluate a business's ability to pay interest expense. It measures the company's earnings before interest and taxes (EBIT) relative to its interest expense. A higher ratio indicates that a company is more capable of paying its interest expense, while a lower ratio may indicate financial risks.

Question 17

Which of the following is true of a contingent liability?
A) It is a potential liability that depends on a future event.
B) It is an actual liability that is difficult to estimate.
C) It is an actual liability that depends on a past event.
D) It is a liability resulting from a lawsuit settled in court.

Accepted Answer

A contingent liability is a potential liability that depends on a future event. It may or may not become an actual liability depending on the outcome of that future event.

Question 18

The times-interest-earned ratio is calculated as:
A) earnings before interest and tax divided by interest expense.
B) profit before tax divided by interest expense.
C) net income divided by interest expense.
D) income tax expense plus interest expense divided by interest expense.

Accepted Answer

The times-interest-earned ratio is a measure of a company's ability to cover its interest expenses from its earnings before interest and tax (EBIT). Therefore, choice A is the correct one as it involves the EBIT and interest expense in its formula. The other choices either do not include EBIT or include irrelevant variables like income tax expense.

Question 19

The information related to interest expense of Stereo Music is given below: $$\begin{array} { | l | r | } 
\hline \text { Net income } & \$ 255,000 \
\hline \text { Income tax expense } & 102,000 \
\hline \text { Interest expense } & 65,000 \
\hline
\end{array}$$ Based on the above data, which of the following is the interest coverage ratio?
A) 4.14 times
B) 3.92 times
C) 6.49 times
D) 4.92 times

Accepted Answer

The answer of The information related to interest expense of...

Question 20

A certain contingent liability was evaluated at year-end, and considered to have a remote possibility of becoming an actual liability. If the accountant decided not to report it on the balance sheet or in the notes to the financial statement, what effect would this have on the financial reporting of the company?
A) There would be no effect.
B) The liabilities on the balance sheet would be understated.
C) The information about the transaction would be inadequately disclosed in the notes.
D) The net income of the company would be understated.

Accepted Answer

If the accountant decided not to report the contingent liability with remote possibility of becoming an actual liability, it would have no effect on the financial reporting of the company. This is because contingent liabilities with remote possibility of becoming an actual liability are not required to be reported on the balance sheet or in the notes as per generally accepted accounting principles (GAAP). Therefore, the financial statements would still comply with GAAP, and there would be no impact on the financial performance or position of the company.

Quiz 11: Current Liabilities and Payroll

Only contingencies that are probable and can be estimated are recorded as a liability and an expense.

A restaurant has been sued because a customer claims to have found a bug in her chili. The company's lawyers believe there is only a remote possibility that the lawsuit will result in an actual liability. Which of the following actions should be taken by the company's management?

The times-interest-earned ratio is also called the short interest ratio.

The times-interest- earned ratios of Benin Inc. are 20.56 and 7.35 for the years 2013 and 2014, respectively. Which of the following can be the possible reason for such a change?

Which of the following is an example of an estimated probable contingency?

Which of the following statements about the times-interest-earned ratio is true?

A certain contingent liability was evaluated at year-end, and considered to have a reasonable possibility of becoming an actual liability. If the accountant decided not to report it in the notes to the financial statement, what effect would this have on the financial reporting of the company?

A high interest-coverage ratio indicates a business's difficulty in paying interest expense.

Which of the following is the proper treatment for a liability that exists, but the exact amount of which is not known? Assume the probability of loss is probable and the amount of the loss can be estimated.

Investors use the times-interest-earned ratio to evaluate a business's ability to pay interest expense.

Which of the following is true of a contingent liability?

The times-interest-earned ratio is calculated as: