are financing obligations that require future payment of money, services, or other assets.

financing are all forms of credit financing (arise from financing activities) long-term notes/bonds, short-term borrowings, leases, current portion of long term liabilities, interest payable.
can be either financing or operating in nature
operating are obligations that arise from operations accounts/notes payable from trade creditors, unearned revenue, advanced payment, taxes payable, postretirement obligations, wages payable, other accruals/operating expenses.

obligations whose settlement requires the use of current assets

Liabilities current
In practice, current liabilities are recorded at their maturity value, and not their present value, due to the short time period until their settlement.
classified as, current and non current
are obligations that mature in more than one year
non current
noncurrent liabilities can take various forms, and their assessment and measurement requires disclosure of all restrictions and covenants (interest rates, maturity dates, conversion privileges, call features, and subordination provisions, pledged collateral, sinking fund requirements, and revolving credit provisions).

and are usually senior to those of equity holders

Terms of indebtedness (maturity, interest rate, payment pattern, and amount).

Restrictions on deploying resources and pursuing business activities.

Ability and flexibility in pursuing further financing

Analyzing Liabilities
Obligations for working capital, debt to equity, and other financial figures

Dilutive conversion features that liabilities are subject to.

Prohibitions on disbursements such as dividends

is a contractual agreement between a lessor (owner) and a lessee (user),

that gives a lessee the right to use an asset,

owned by the lessor, for the term of the lease, and in return, the lessee makes rental payments, called minimum lease payments

Lease contracts can be complex, and they vary in provisions relating to the lease term,

the transfer of ownership,

bargain purchase option,

bargain renewal option,

guaranteed / unguaranteed residual value,

problems early termination

Lease that transfers substantially all the benefits and risks of ownership is accounted for as an asset acquisition and a liability incurrence by the lessee

Capital Lessor treats such a lease as a sale (sales type lease) and financing (direct financing) transaction

The decision to account for a lease as a capital or operating lease can significantly impact F/S. Both the leased asset and the lease obligation are recognized on the balance sheet.

Lessee (lessor) accounts for the minimum lease payment as a rental expense (revenue), and no asset or liability is recognized on the balance sheet.
Operating
Business activities are financed with either liabilities or equity, or both. Lessee is engaging in off-balance-sheet financing

Sellers use leasing to promote sales by providing financing to buyers. Interest income from leasing is often a major source of revenue to those sellers.

leases In turn, leasing often is a convenient means for a buyer to finance its asset purchases

adv Leasing can be a source of off-balance-sheet financing

100% financing at fixed rates

More flexible than debt agreement, and Less costly financing

Current Issue

type of liabilities you should concern about

Liabilities + Equities

understate liabilities by keeping lease financing “off the balance sheet”, positively impacts solvency ratios (such as debt to equity) that are often used in credit analysis.

understate assets so can inflate both “return on investment” and “asset turnover ratios”.

“delay recognition of expenses” in comparison to capital leases

analyzing leases Operating leases
“understate current liabilities” by keeping the current portion of the principal payment off the balance sheet

understate both “operating income and interest expense”, as operating leases include interest with the lease rental (an operating expense)

therefore, an analyst must make adjustments to F/S prior to analysis (convert all operating leases to capital leases or selective to reclassifying leases will be used only when the lessee’s classification appears inconsistent with the economic characteristics of the lease

Contingencies are potential gains and losses whose resolution depends on one or more future events.

arise from litigation, threat of expropriation, collectibility of receivables, claims arising from product warranties or defects, guarantees of performance, tax assessments, self-insured risks, and catastrophic losses of property

it must be probable that a liability incurred (it must be probable that a future event will confirm the loss) (51-99%)
conservatism
the amount of loss must be reasonably estimable. Examples: losses from uncollectible receivables and the obligations related to product warranties

Accuracy of underlying “estimates” scrutinize management estimates

contingencies
Note “disclosures of all loss (and gain) contingencies” (description of the contingent liability, degree of risk, amount of risk, and how treated in assessing risk exposure, charges, if any, against income)

Recognize “a bias” to not record or underestimate contingent liabilities

Analyzing contingencies
Beware of big-baths, loss reserves are contingencies

“Review fillings from authority” for details of loss reserves

Analyze deferred tax notes for undisclosed provision for future losses

purchase agreements & through-put agreements (where a company agrees to purchase output from or run a specified amount of goods through a processing facility)
refers to the non-recording of certain financing obligations.
take-or-pay arrangements (where a company guarantees to pay for a specified quantity of goods whether needed or not).

Scrutinize management communications and press releases

Off Balance Sheet Financing
Analyze notes about financing arrangements
Analysis
Recognize a bias to not disclose financing obligations

Review authority filings for details of financing arrangements

refers to claims of owners on the net assets of a company.

claims of owners are junior to creditors, meaning they are “residual claims” to all assets

although equity holders are exposed to max company risk, they are also have “opportunity to all residual returns” of a company

some form securities has hybird characteristic, such as convertible bonds

refers to owner (shareholder) financing of a company (viewed as reflecting the claims of owners on the net assets of the company).

treasury stock

capital stock preferred stock

common stock
Equities type
Cash dividend

R/E Stock dividend

Shareholders Equity
Property dividend

“Classifying and distinguishing” among major sources of equity financing.

Examining “rights for classes” of shareholders and their “priorities” in liquidation.

Analysis Evaluating “legal restrictions” for distribution of equity.

Reviewing contractual, legal, and other restrictions on “distribution of retained earnings”.

Assessing “terms and provisions” of convertible securities, stock options, and other arrangements involving potential issuance of shares.