Accounting I-IV

Question 1

What is the overall objective of financial statements?

Answer 1

Restate reported earnings by eliminating non-recurring or transitory items

Question 2

Income Statement Organization

Answer 2

Operating items
+ Non-operating items
+ Items unrelated to current operations
Comprehensive items (likely to reverse)

Question 3

Business Restructuring Charges (Included in Operating Items)

Answer 3

Companies incur restructuring charges when they change the way they conduct business, for example, by closing plants and refocusing on a smaller geographical area

Question 4

Restructuring charges are typically made up of…

Answer 4

asset write-offs, severance (layoff costs), and plant closure and relocation costs

Question 5

Restructureing expense recognition and the payment of restructuring costs (write-off of assets) may…

Answer 5

be in different periods

Question 6

Non-operating income and expenses include

Answer 6

1. gains and losses on sales of PPE
2. gains and losses on investments in securities (whether realized-from a sale, or not)
3. impairment losses (write-downs of long-lived assets)

Question 7

When should you recognize impairment losses?

Answer 7

Required when the asset’s carrying amount exceeds the undiscounted future cash flows from the asset

Question 8

How large an impairment loss should you recognize?

Answer 8

The loss is calculated as the difference between the asset’s carrying cost and its fair value. “Fair value” is the market price, if available, or the discounted present value of future cash flows from the asset

Question 9

Discontinued Operations

Answer 9

Recorded when a company decides to exit an area of business with clearly distinguisable operations and cash flows. For example, an operating segment, reporting unit, subsidiary, or group of assets.

Question 10

All income for the discontinued business is reported…

Answer 10

separately once management decides to exit the businesses. Appears on an after-tax basis on the income statement

Question 11

What is the balance sheet treatment for discontinued operations?

Answer 11

The assets and liabilities of the discontinued operations are classified separately on the balance sheet as “held for sale.”

Question 12

What are the possible tax rates you could use?

Answer 12

1. The specific taxes on the adjusted item
2. The statutory tax rate (21%)
3. The average tax rate on all the company’s income
   (Companies explain their taxes in the tax foot note to the financial statements)

Question 13

Why was Pfizer’s tax rate only 5.9% in 2018?

Answer 13

Tax breaks on operations in Ireland, Puerto Rico, and Singapore lowered the tax rates

Question 14

When should you use the specific taxes on the adjusted item?

Answer 14

Best choice if the tax effects are disclosed

Question 15

When should you use the statutory tax rate (21%)?

Answer 15

Next best alternative to the specific tax rates on an adjusted item

Question 16

When should you use the average tax rate on all the company’s income?

Answer 16

Generally a poor choice; ignores reasons why a company’s overall tax rate is high or low

Question 17

Insights on sales revenue from financial analysis:

Answer 17

1. Examine disclosures about revenue recognition in notes to the financial statements
2. Explain changes in revenue recognition policies

Question 18

Sales revenues as indicators of operating income:

Answer 18

1. Explain changes in receivables collection patterns: comparisions of sales revenue with accounts receivable may provide an indication that revenues may not be collected
2. Compare sales revenues with changes in inventory: increasing inventory may predict slowing sales

Question 19

The reliability and plausibility of sales revenues:

Answer 19

1. Comparisions of sales with company’s assets (asset turnover) and with inventories may show whether the reported revenues are credible
2. Sales revenue recognition policies may comply with accounting rules but misstate the company’s performance (for example, Apple’s revenue deferral)

Question 20

Why do many companies use LIFO?

Answer 20

Because it reduces their taxable income (the most recent inventory costs are included in COGS first - if prices are rising then the resulting LIFO income is lower than FIFO income)

Question 21

Differences in inventory methods (LIFO vs FIFO) can…

Answer 21

reduce the comparability of financial statements

Question 22

Inventory assumptions affect:

Answer 22

1. Income estimates
2. ROE and ROA calculations
3. Inventory turnover and days’ sales in inventory estimates

Question 23

Why might some companies’ LIFO reserves be small?

Answer 23

Big price differences of inventory (ex: oil prices fluctuate frequently)
Limits on retail LIFO (products change)

Question 24

What is the overall objective in analyzing leased assets?

Answer 24

1. Measure the firm’s PPE to make measures such fixed asset turnover more meaningful and comparable
2. Companies acquire PPE to use by purchase and leasing. Differences in this mix could mae comparisons across companies difficult

Question 25

How do companies gain access to PPE for thier use?

Answer 25

1. Purchase 2. Lease 3. Rental

Question 26

Purchase

Answer 26

Ownership rights. Record an asset and depreciation expense.

Question 27

Lease

Answer 27

Has characteristics of both purchase and rental

Question 28

Rental

Answer 28

No ownership rights, therefore, no balance sheet records.

Question 29

Finance Leases

Answer 29

Resembles a purchase becuase of any of the following: 1. Transfers of ownership by end of lease term 2. Bargain purchase option 3. Use asset over 75% or more of its useful life 4. PV of rentals >=90% of FMV 5. Specialized asset with no alternative use

Question 30

Operating Leases

Answer 30

Resembles a rental: Non of hte finance lease criteria are met

Question 31

Why do companies use leases?

Answer 31

1. Convenient form of financing a purchase for many buyers 2. Tax Considerations: Structure the lease so that the tax benefits of depreciation go to the party best able to use them 3. Operational flexibility - ease of changing locations or other assets

Question 32

Who uses leases?

Answer 32

Widely used, but common among 1. Retail firms 2. Airlines 3. Railroad companies

Question 33

What is the accounting treatment of finance and operating leases?

Answer 33

Both are recorded on the balance sheet even though operating leases resemble rentals - companies must record right-of-use asset and related liability for operating leases

Question 34

What is the accounting treatment for leases with terms of 12 months or less?

Answer 34

They do not have to be capitalized (this is an exception to the general rule)