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Lecture 28

COMMERCE 1AA3 Lecture Notes - Lecture 28: Accounts Payable, Promissory Note, Current Liability

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Emad Mohammad

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Debt financing has the advantage of financial leverage
o Owners can potentially increase the return on their investments when they
finance new projects with debt
o Wealth transfer: transactions that create value to shareholders at the expense
of creditors
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Three essential characteristics
o A present obligation that entails settlement by probable future transfer of use
of cash, goods or services (unearned revenue)
o Little or no discretion to avoid obligation
o Should result from past transactions
Current liabilities
o Will be settled within a year or an operating cycle
o Expected to be paid:
From existing current assets or through the creation of other current
Paid within the year or operating cycle
o Debts that do not meet both criteria are classified as long-term liabilities
Short -term debt expected to be refinanced will not be classified as a
current liability
o Two types:
Known amounts
Accounts payable, notes payable
Estimated amounts
Contingent liabilities
Accounts payable
o Owed when you buy goods and services on account
o No interest embedded in
o When you receive merchandises and sign on the invoice, that is accounts
Notes payable
o Written promises to pay a sum of money on a specified future date
o More explicit than accounts payable
o Arises from purchases, financing, or other transactions
o Can be either short term or long term
o May be interest bearing or non-interest bearing
Zero-interest bearing has interest embedded
o It is important to identify the dates on which to prepare journal entries
When there is cash involved
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