1.
Operating Cycle
The operating cycle is the time between the acquisition of assets for processing and their realization in cash or
cash equivalents.
• If an entity’s operating cycle is longer than 12 months, it uses the operating cycle (not 12 months) to
classify assets and liabilities.
• Liabilities settled within the operating cycle are classified as current, even if settlement occurs after 12
months.
Example:
A construction company with an 18-month operating cycle classifies trade payables settled in 14 months as
current.
Scenario: BuildRight Construction has an 18-month operating cycle. On Dec 31, 2025, it has:
• Trade accounts payable for project materials amounting to ₱3,600,000, expected to be paid in 14 months
(Feb 2027) as aligned with project billing milestones.
• Other payables for office supplies of ₱250,000, due in 45 days.
Guide questions (discussion):
• Which payables are current and why, even if paid after 12 months?
• How does the operating cycle concept override the “12-month rule”?
2. Classification of Liabilities (PAS 1)
A liability is classified as current if any of the following apply:
• Expected to be settled in the normal operating cycle
• Due to be settled within 12 months after the reporting date
• Held primarily for trading
• The entity does not have an unconditional right to defer settlement for at least 12 months
All other liabilities are noncurrent.
Key principle:
Classification depends on rights and obligations existing at the reporting date, not future intentions.
Scenario: ABC Corp. has these obligations at Dec 31, 2025:
• A ₱2,000,000 note payable due May 31, 2026
• A ₱8,000,000 loan due 2029 (no covenant issues)
• A ₱500,000 derivative liability classified as held for trading
• A ₱1,200,000 provision expected to be settled in 2027
Guide questions:
• Which are current, which are noncurrent, and what PAS 1 criteria drive each classification?
• Why is “held for trading” automatically current?
3. Breach of Covenant
When a covenant is breached at the reporting date, the liability becomes current because the lender can demand
repayment immediately, unless:
• A waiver is obtained before the financial statements are authorized for issue, and
• The waiver is valid for at least 12 months after the reporting date
Grace Period vs Waiver
• Grace period: Must exist at the reporting date and extend ≥ 12 months to keep noncurrent classification
• Waiver: May be obtained after year-end but before FS issuance and can still support noncurrent
classification
Scenario: DEF Co. has a ₱12,000,000 loan due 2029. A covenant requires a debt-to-equity ≤ 2.0. At Dec 31,
2025, DEF’s ratio is 2.6 (breach), making the loan callable on demand.
Independent events:
• Case A (Grace period): On Dec 20, 2025, the bank grants a 6-month grace period to cure the breach;
bank cannot demand payment during this time.
• Case B (Waiver): On Jan 20, 2026 (before FS issuance), the bank grants a waiver valid for 12 months
from Dec 31, 2025.
Guide questions:
• How does classification differ in Case A vs Case B at Dec 31, 2025?
• Why does timing (reporting date vs before FS issuance) matter?
4. Roll-Over (Refinancing) of Liability
A short-term liability may be classified as noncurrent only if refinancing is:
• Completed on or before the reporting date, and
• Provides the entity the right to defer settlement for ≥ 12 months
If refinancing is completed after the reporting date, the liability remains current, even if done before FS issuance.
Scenario: GHI Co. has a ₱5,000,000 short-term loan due March 31, 2026.
Independent situations:
• Case 1: On Dec 28, 2025, GHI signed and completed a refinancing agreement extending maturity to
March 31, 2029.
• Case 2: GHI refinanced on Jan 25, 2026 (before FS issuance) extending maturity to 2029.
Guide questions:
• What is the correct classification at Dec 31, 2025 under each case?
• What does “right to defer settlement at the reporting date” mean in practice?
MCQ 1
A liability is classified as current if it is expected to be settled:
A. Only within 12 months
B. Only within the operating cycle
C. Within the operating cycle or within 12 months, or held for trading, or no right to defer
D. Only when demanded by lender
MCQ 2
A construction entity has an 18-month operating cycle. Trade payables due in 14 months are classified as:
A. Noncurrent
B. Current
C. Equity
D. Contingent liability
MCQ 3
Which liability is always current under PAS 1 regardless of settlement timing?
A. Bonds payable due in 10 years
B. Provision expected to be paid in 2 years
C. Derivative liability held for trading
D. Deferred tax liability
MCQ 4
A loan is due in 2029. A covenant is breached at year-end, making the loan callable on demand. Without any
waiver/grace period, the loan is:
A. Noncurrent
B. Current
C. Current only to the extent of 2026 installments
D. Offsetting asset
MCQ 5
A waiver obtained after year-end but before FS issuance, valid for at least 12 months after reporting date,
generally allows the loan to be classified as:
A. Current
B. Noncurrent
C. Current unless paid within 30 days
D. Equity
MCQ 6
A grace period affects classification only if the grace period:
A. Is granted any time before FS issuance
B. Exists at the reporting date and permits deferral for at least 12 months
C. Is verbally promised by lender
D. Is at least 3 months long
MCQ 7
A short-term loan due in 6 months may be classified as noncurrent at year-end if refinancing is:
A. Intended by management
B. Approved by the board after year-end
C. Completed on or before reporting date and provides right to defer >12 months
D. Completed anytime before audit completion
MCQ 8
A loan due March 31, 2026 was refinanced on Jan 25, 2026 extending to 2029. At Dec 31, 2025, the loan
should be classified as:
A. Noncurrent
B. Current
C. Noncurrent if disclosed
D. Current only for interest portion
MCQ 9
Which statement is TRUE about liability classification?
A. Classification depends on management intent at reporting date
B. Classification depends on rights that exist at the reporting date
C. Any refinancing after year-end makes the liability noncurrent
D. Covenant breach is ignored if later cured
MCQ 10
Deferred tax liabilities are generally classified as:
A. Current
B. Noncurrent
C. Held for trading
D. Operating cycle-based