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Flashcards in Financial Statements Deck (92):
1

Balance Sheet Classifications

Account Type

  1. Property, Plant & Equipment, Intangibles
  2. Receivables
  3. Inventory
  4. Investments in Marketable Securities
  5. Liabilities
  6. Owners' Equity

  1. PPE - Historical Cost and Depreciated/Amortized Historical Cost
  2. Rec. - Net Realizable Value
  3. Inv. - Lower of Cost or Market
  4. IMS - Market Value
  5. Liab. - Present Value
  6. OE - Historical Value of Cash Inflows and Residual Valuation

2

Which of the following should be included in general and administrative expenses?

  • Interest
  • Advertising 

NEITHER expense is normally included in general and administrative expenses because interest and advertising are expenses that result from very specific activities and are frequently material in amount. They should be separately identified.

 

3

A multi-step Income Statement is prepared:

  1. By all corporations.
  2. By a company whose main activity is sales.
  3. Because it is required by FASB.
  4. Because it is more meaningful presentation of revenue and expenses.

Because it is more meaningful presentation of revenue and expenses.

A multi-step Income Statement is not required but is prepared because it is a more meaningful presentation of revenue and expenses. In a multi-step Income Statement, gross profit (margin), operating profit (margin), and pretax income from continuing operations are determined. The focus is on the determination of operating profit rather than simply income from continuing operations.

4

The following costs were incurred by Griff Co., a manufacturer, during 2004:

  • Accounting and legal fees $25,000 
  • Freight-in $175,000
  • Freight-out $160,000
  • Officers' salaries $150,000
  • Insurance $85,000
  • Sales representatives' salaries $215,000

What amount of these costs should be reported as general and administrative expenses for 2004?

  1. $260,000
  2. $550,000
  3. $635,000
  4. $810,000

 

$260,000

The only costs included in general and administrative costs are:

  • Accounting and legal $25,000
  • Officers' salaries $150,000
  • Insurance $85,000

Total G&A cost = $260,000

5

In a Multi-step Income Statement:

  1. Total expenses are subtracted from total revenues.
  2. Gross profit (margin) is shown as a separate item.
  3. Cost of sales and operating expense are subtracted from total revenues.
  4. Other income is added to revenue from sales.

Gross profit (margin) is shown as a separate item.

In a multi-step Income Statement, gross profit (margin), operating profit (margin), and pretax income from continuing operations are determined. The focus is on the determination of operating profit rather than simply income from continuing operations. Gross profit (margin) is shown as a separate item.

6

Historical cost is a measurement base currently used in financial accounting. Which of the following measurement bases is(are) also currently used in financial accounting?

  • Current Market value
  • Discounted cash flow
  • Replacement cost

All Three...

Current market value or "quoted market price" is used as a measurement base, for example, in the case of precious metals having a fixed selling price with no substantial cost of marketing. Discounted cash flow is used as a measurement base for assets capitalized under long-term leases. Replacement cost is used as a measurement base for inventories when the replacement cost has fallen below historical cost.

Five different attributes are used to measure assets and liabilities in present practice.  These are discussed below in an excerpt from SFAC 5.

  1. Historical cost (historical proceeds).  Property, plant, and equipment and most inventories are reported at their historical cost, which is the amount of cash, or its equivalent, paid to acquire an asset, commonly adjusted after acquisition for amortization or other allocations.  Liabilities that involve obligations to provide goods or services to customers are generally reported at historical proceeds, which is the amount of cash, or its equivalent, received when the obligation was incurred and may be adjusted after acquisition for amortization or other allocations.
     
  2. Current cost.  Some inventories are reported at their current (replacement) cost, which is the amount of cash, or its equivalent, that would have to be paid if the same or an equivalent asset were acquired currently.
     
  3. Current market value.  Some investments in marketable securities are reported at their current market value, which is the amount of cash or its equivalent, that could be obtained by selling an asset in orderly liquidation. Current market value is also generally used for assets expected to be sold at prices lower than previous carrying amounts. Some liabilities that involve marketable commodities and securities, for example, the obligations of writers of options or sellers of common shares who do not own the underlying commodities or securities, are reported at current market value.  Current market value is now referred to as fair value.
     
  4. Net realizable (settlement) value.  Short-term receivables and some inventories are reported at their net realizable value, which is the nondiscounted amount of cash, or its equivalent, into which an asset is expected to be converted in due course of business less direct costs, if any, necessary to make that conversion. Liabilities that involve known or estimated amounts of money payable at unknown future dates, for example, trade payables or warranty obligations, generally are reported at their net settlement value, which is the nondiscounted amount of cash, or its equivalent, expected to be paid to liquidate an obligation in the due course of business, including direct costs, if any, necessary to make that payment.
     
  5. Present (or discounted) value of future cash flows.  Long-term receivables are reported at their present or discounted value (discounted at the implicit or historical rate), which is the present value of future cash inflows into which an asset is expected to be converted in due course of business less present values of cash outflows necessary to obtain those inflows.  Long-term payables are similarly reported at their present or discounted value (discounted at the implicit or historical rate), which is the present or discounted value of future cash outflows expected to be required to satisfy the liability in due course of business.  Assets that are impaired, such as fixed and intangible assets, are valued at the present value of the future cash flows expected to be derived from the assets.

7

When preparing a draft of its year 2 balance sheet, Mont, Inc. reported net assets totaling $875,000.  Included in the asset section of the balance sheet were the following:

  • Treasury stock of Mont, Inc. at cost $24,000
  • Idle machinery $11,200
  • Cash surrender value of life insurance on corporate executives $13,700

At what amount should Mont’s net assets be reported in the December 31, year 2 balance sheet?

  1. $851,000
  2. $850,100
  3. $842,600
  4. $834,500

$851,000

Idle machinery ($11,200) and cash surrender value of life insurance ($13,700) are both assets. The only item listed which should not be included in the asset section of the balance sheet is the treasury stock ($24,000). Although the treasury stock account has a debit balance, it is not an asset; instead, it is reported as a contra equity account. Therefore, the $24,000 must be excluded from the asset section, reducing the net asset amount to $851,000 ($875,000 − $24,000).

8

The premium on a 3-year insurance policy expiring on December 31, year 3, was paid in total on January 1, year 1.  Assuming that the original payment was recorded as a prepaid asset, how would total assets and stockholders’ equity be affected during year 3?

  1. Total assets would decrease and stockholders’ equity would increase.
  2. Both total assets and stockholders’ equity would decrease.
  3. Both total assets and stockholders’ equity would increase.
  4. Neither total assets nor stockholders’ equity would change.

Both total assets and stockholders’ equity would decrease.

This answer is correct because when the premium on the 3-year insurance policy was paid in total on January 1, year 1, a prepaid asset was recorded. At the end of each of the next 3 years, one-third of the premium must be amortized to expense using the following journal entry:

Insurance expense xxx 

 Prepaid insurance (asset) xxx

The effect of this amortization is to increase expenses (a decrease in stockholders’ equity) and decrease prepaid assets.

9

Wind Co. incurred organization costs of $6,000 at the beginning of its first year of operations.  How should Wind treat the organization costs in its financial statements in accordance with GAAP?

  1. Never amortized.
  2. Amortized over sixty months.
  3. Amortized over forty years.
  4. Expensed immediately

Expensed immediately

Start-up costs and organization costs should be expensed as incurred.

Reporting on the Costs of Start-up Activities 

ASC Topic 720 provides guidance on financial reporting of start-up costs, including organization costs.  It requires such costs to be expensed as incurred.  Start-up costs are defined as onetime activities related to opening a new facility or new class of customer, initiating a new process in an existing facility, or some new operation. In practice, these are referred to as preopening costs, preoperating costs, and organization costs.  Routine ongoing efforts to improve existing quality of products, services, or facilities, are not start-up costs.

10

Which of the following is a component of other comprehensive income?

  1. Minimum accrual of vacation pay.
  2. Cumulative currency-translation adjustments.
  3. Changes in market value of inventory.
  4. Unrealized gain or loss on trading securities.

Cumulative currency-translation adjustments.

Comprehensive income reflects all changes from owner and nonowner sources. The other comprehensive income items are:

  1. unrealized G/L on AFS securities,
  2. unrealized G/L on pension costs,
  3. foreign currency translation adjustments, and
  4. unrealized G/L on certain derivative transactions.

11

What is the purpose of reporting comprehensive income?

  1. To summarize all changes in equity from nonowner sources.
  2. To reconcile the difference between net income and cash flows provided from operating activities.
  3. To provide a consolidation of the income of the firm's segments.
  4. To provide information for each segment of the business.

To summarize all changes in equity from nonowner sources.

The purpose of comprehensive income is to show all changes to equity, including changes that currently are not a required part of net income. Comprehensive income reflects all changes from owner and nonowner sources. The other comprehensive income items are: unrealized G/L on AFS securities, unrealized G/L on pension costs, foreign currency translation adjustments, and unrealized G/L on certain derivative transactions.

12

The accumulated other comprehensive income (AOCI) beginning balance for the current year was $6,000 dr. Net income for the period is $21,000. During the year the following two other comprehensive income items were recognized:

  • foreign currency translation loss, $2,000
  • and unrealized gain on securities available for sale, $9,000.

What amount is reported for comprehensive income (CI) for the year, and what is the ending AOCI balance?

  1. CI = 7,000, AOCI =  1,000 credit
  2. CI = 28,000, AOCI = 1,000 credit
  3. CI = 21,000, AOCI = 7,000 credit
  4. CI = 28,000, AOCI = 6,000 debit

CI = 28,000, AOCI = 1,000 credit

CI ($28,000) is the sum of income ($21,000) and other comprehensive income (-$2,000 + $9,000 = $7,000). AOCI is the running OE account, which is increased or decreased by other comprehensive income for the period. Ending AOCI = $6,000 dr. - $7,000 other comprehensive income (positive) = $1,000 cr. AOCI began the year with a new loss of $6,000 (debit balance), but the $7,000 positive other comprehensive income for the year turned the beginning dr. balance of AOCI into a net credit of $1,000.

13

Burns Corp. had the following items:

  • Sales revenue $45,000
  • Loss on early extinguishment of bonds $36,000
  • Realized gain on sale of available-for-sale securities $28,000
  • Unrealized holding loss on available-for-sale securities $17,000
  • Loss on write-down of inventory $3,100

Which of the following amounts would the statement of comprehensive income report as other comprehensive income or loss?

  1. $11,000 other comprehensive income.
  2. $16,900 other comprehensive income.
  3. $17,000 other comprehensive loss.
  4. $28,100 other comprehensive loss.

$17,000 other comprehensive loss.

Other comprehensive income is comprised of unrealized gains/losses on available-for-sale securities, minimum pension liability adjustment, foreign currency translation adjustment, and unrealized gains/losses on cash flow hedges. The only other comprehensive income item listed is the $17,000 unrealized gains/losses on available-for-sale securities

14

The Statement of Changes in Equity:

  1. Is one of the required financial statements under U.S. GAAP
  2. Includes accounts such as the retained earnings and common share accounts but not other comprehensive income items.
  3. Is used only if a corporation frequently issues common shares
  4. Reconciles all of the beginning and ending balances in the equity accounts.

Reconciles all of the beginning and ending balances in the equity accounts.

The Statement of Changes in Equity reconciles all of the beginning and ending balances in the equity accounts. The statement shows the opening balance then details all changes in the accounts, ending with the closing balance.

15

The Statement of Changes in Equity shows an increase in the common stock account of $2,000 and an increase in the additional paid-in capital account of $10,000. If the common stock has a par value of $2, and the only transactions affecting these accounts were these issues of common stock, what was the average issue price of the common stock during the year?

  1. $2
  2. $5
  3. $10
  4. $12

$12

If the par value of the stock is $2, and the increase in the common stock account is $2,000, then $2,000/$2 = 1,000 shares issued. The average issue price is the sum of the par value ($2) and the additional paid-in capital ($10,000/1,000 shares, or $10), which totals $12.

16

Assume the fair value option for financial assets and liabilities is not elected.  Which of the following would not be an item classified separately under other comprehensive income?

  1. Foreign currency items.
  2. Adjustments to record funded status of pension plans.
  3. Unrealized gains (losses) on available-for-sale securities.
  4. Gains (losses) on sale of treasury stock.

Gains (losses) on sale of treasury stock.

Other comprehensive income items should be classified based on their nature. Therefore, there should be separate classifications for foreign currency items, pension liability adjustments, and unrealized gains and losses on certain investments in debt and equity securities. Gains (losses) on the sale of treasury stock result from a transaction with owners in their capacity as owners and are not included in comprehensive income.

17

Which of the following statements is correct regarding reporting comprehensive income?

  1. Accumulated other comprehensive income is reported in the stockholders’ equity section of the balance sheet.
  2. A separate statement of comprehensive income is required.
  3. Comprehensive income must include all changes in stockholders’ equity for the period.
  4. Comprehensive income is reported in the year-end statements but not in the interim statements.

Accumulated other comprehensive income is reported in the stockholders’ equity section of the balance sheet.

The other comprehensive income section does not include changes in all stockholders’ equity accounts. It merely includes those items that are included in comprehensive income.

Comprehensive income is the sum of net earnings (loss) and other comprehensive income.  It requires disclosure of changes during a period of the following components of other comprehensive income: unrealized gains and losses on available-for-sale investments and foreign currency items, reclassification adjustments, gains and losses on the effective portion of cash flow hedges, and any adjustments necessary to recognize the funding status of pension plans or other postemployment benefits.

This standard allows the management of an enterprise two choices for presenting other comprehensive income. These are as follows:

  1. At the bottom of the income statement, continue from net income to arrive at a comprehensive income.
  2. In a separate statement that may start with net income, (illustrated below) and that directly follows the statement of income. 

18

Which of the following should be disclosed in a summary of significant accounting policies?

  • I.Management’s intention to maintain or vary the dividend payout ratio.
  • II.Criteria for determining which investments are treated as cash equivalents.
  • III.Composition of the sales order backlog by segment.
  1. I only.
  2. I and III.
  3. II only.
  4. II and III.

II.Criteria for determining which investments are treated as cash equivalents ONLY.

Disclosure of accounting policies should identify and describe the accounting principles followed by the reporting entity and the methods of applying those principles that materially affect the determination of financial position, cash flow, or results of operations. However, financial statement disclosure of accounting policies should not duplicate details presented elsewhere as part of the financial statements.

In this problem, both (I) management’s intention to vary the dividend payout ratio and (III) the composition of the sales order backlog by segment are not required to be disclosed under Generally Accepted Accounting Principles. As such, these should not be disclosed in a summary of significant accounting policies. An enterprise shall disclose its policy for determining which items are treated as cash equivalents. Thus, the criteria for determining which investments are treated as cash equivalents (II) should be disclosed in a summary of significant accounting policies.

19

Which of the following facts concerning plant assets should be disclosed in the summary of significant accounting policies?

  • Composition
  • Depreciation expense amount

  • Composition - NO
  • Depreciation expense amount - NO

Accounting policies footnote should not duplicate information reported elsewhere in the FS.

ASC Topic 235 states that disclosure of accounting policies should identify and describe the accounting principles and the methods of applying them. Information and details presented elsewhere as a part of the financial statements should not be repeated. Thus, the depreciation expense amount should not be disclosed in the summary of significant accounting policies. ASC Topic 235-10-50-5 specifically states that composition of plant assets should not be presented.

20

Financial statements shall include disclosures of material transactions between related parties except

  1. Nonmonetary exchanges by affiliates.
  2. Sales of inventory by a subsidiary to its parent.
  3. Expense allowances for executives which exceed normal business practice.
  4. A company’s agreement to act as surety for a loan to its chief executive officer.

Sales of inventory by a subsidiary to its parent.

ASC Topic 850 requires disclosure of any material related-party transactions except

  1. Compensation agreements, expense allowances, and similar items in the ordinary course of business.
  2. Transactions which are eliminated in the preparation of consolidated or combined financial statements.

Since sales of inventory between subsidiary and parent are eliminated in preparing consolidated financial statements, such sales need not be disclosed as a related-party transaction.

21

According to the FASB’s conceptual framework, comprehensive income includes which of the following? 

  • Operating income
  • Investments by owners

  • Operating income - YES
  • Investments by owners - NO

Per SFAC 6, comprehensive income consists not only of its basic components (revenues, expenses, gains, and losses) but also the various intermediate components or measures that result from combining the basic components (e.g., income from continuing operations). SFAC 6 further states that over the life of an entity comprehensive income equals the net of its cash receipts and cash outlays, excluding cash invested by owners or distributed to owners. Note that under ASC Topic 220 this statement would not hold because corrections of errors and certain changes in accounting principles are still reported in retained earnings. Thus, ASC Topic 220 does not fully implement comprehensive income as defined in SFAC 6.

Close

Revenues, expenses, gains, and losses are used to compute earnings. Earnings is the extent to which revenues and gains associated with cash-to-cash cycles substantially completed during the period exceed expenses and losses directly or indirectly associated with those cycles. Earnings adjusted for cumulative accounting adjustments and other nonowner changes in equity (such as foreign currency translation adjustments) is comprehensive income. Per SFAC 5, comprehensive income would reflect all changes in the equity of an entity during a period, except investments by owners and distributions to owners.

22

How should an unusual event not meeting the current criteria for an extraordinary item be disclosed in the financial statements?

  1. Shown as a separate item in operating revenues or expenses and supplemented by a footnote if deemed appropriate.
  2. Shown in operating revenues or expenses but not shown as a separate item.
  3. Shown after ordinary net earnings but before extraordinary items.
  4. Shown after extraordinary items net of income tax but before net earnings.

Shown as a separate item in operating revenues or expenses and supplemented by a footnote if deemed appropriate.

Items unusual in nature or infrequent in occurrence are to be disclosed separately in the operating section of the income statement and also may be supplemented by a footnote. Note that such items should not be shown net of income taxes.

Definition - An unusual or infrequent event considered to be material that does not qualify as extraordinary

Placement on income statement or retained earnings statement - Placed as part of income from continuing operations after normal recurring revenues and expenses

23

If a company issues both a balance sheet and an income statement with comparative figures from last year, a statement of cash flows

  1. Is no longer necessary, but may be issued at the company’s option.
  2. Should not be issued.
  3. Should be issued for each period for which an income statement is presented.
  4. Should be issued for the current year only.

Should be issued for each period for which an income statement is presented.

When a balance sheet, income statement, and statement of retained earnings are issued, a statement of cash flows must be presented for each period for which an income statement is presented.

24

Accumulated other comprehensive income is reported in which of the following financial statements?

  1. The income statement.
  2. The statement of comprehensive income.
  3. The statement of cash flows.
  4. The statement of financial position.

The statement of financial position.

Accumulated other comprehensive income is a permanent account and is reported in the statement of financial position. Changes in the account are reported in the statement of comprehensive income.

25

When there is a change in the reporting entity, how should the change be reported in the financial statements?

  1. Prospectively, including note disclosures.
  2. Retrospectively, including note disclosures, and application to all prior period financial statements presented.
  3. Currently, including note disclosures.
  4. Note disclosures only.

Retrospectively, including note disclosures, and application to all prior period financial statements presented.

Changes in reporting entities are required to be accounting for retrospectively similar to changes in accounting principle.

26

Users of prospective financial information can include

  •  I.General users with whom the responsible party is not negotiating directly.
  •  II.The responsible party.
  •  III.Third parties with whom the responsible party is negotiating directly.
  1. I, II, and III.
  2. II and III.
  3. II.
  4. None of the statements.

I, II, and III.

Prospective financial information can be used by general users with whom the responsible party is not negotiating directly, the responsible party, and third parties with whom the responsible party is negotiating directly.

Prospective Financial Information 
Definitions:

  • Prospective financial information--any financial information about the future
  • Responsible party--person(s), usually management, who are responsible for assumptions underlying the information
  • Users of prospective financial information:
    • General--use of FS by parties with whom responsible party is not negotiating directly
    • Limited use--use of prospective financial information by the responsible party only or by responsible party and third parties with whom responsible party is negotiating directly

27

According to ASC Topic 250, the cumulative effect of changing to a new accounting principle should be included in net income of

  • Future periods
  • The period of change

  • Future periods - NO
  • The period of change - NO

A change in accounting principle is accounted for through retrospective application to all prior periods, unless it is impracticable to do so.

An entity may change accounting principles only if the change is required by a newly issued accounting pronouncement, or if the entity can justify the use of the alternative accounting principle because it is preferable.  A change in accounting principle is accounted for through retrospective application of the new accounting principle to all prior periods, unless it is impracticable to do so.  Retrospective changes require the following:

  1. The cumulative effects of the change are presented in the carrying amounts of assets and liabilities as of the beginning of the first period presented.
  2. An offsetting adjustment is made to the opening balance of retained earnings for that period (the beginning of the first period presented).
  3. Financial statements for each individual prior period presented are adjusted to reflect the period-specific effects of applying the new accounting principle.

Only the direct effects of the change are recognized.

28

SEC’s regulation S-X describes

  1. The form and content of financial statements to be filed with the SEC.
  2. The requirements for information and forms required by other regulations.
  3. The reporting requirements for asset-backed securities.
  4. A mandate that publicly traded companies disclose material information to all investors simultaneously.

The form and content of financial statements to be filed with the SEC.

  1. Regulation S-X describes the form and content of financial statements filed with the SEC
  2. Regulation S-K describes the requirements for information and forms required by Regulation S-X.
  3. Regulation AB describes reporting requirements for asset-backed securities.
  4. Regulation Fair Disclosure (FD) mandates that publicly traded companies disclose material information to all investors simultaneously.

29

When computing information on a historical cost-constant dollar basis, which of the following is classified as nonmonetary?

  1. Accumulated depreciation of equipment.
  2. Advances to unconsolidated subsidiaries.
  3. Allowance for doubtful accounts.
  4. Unamortized premium on bonds payable.

Accumulated depreciation of equipment.

ASC Topic 255, nonmonetary items include assets and liabilities whose amounts may change over time in terms of a monetary unit (e.g., the U.S. dollar). Examples of nonmonetary assets and liabilities included inventory, property, plant, equipment, and obligations under warranties. Accumulated depreciation is a nonmonetary item because it relates to equipment.

The holding of a nonmonetary asset such as land during a period of inflation need not result in a loss of purchasing power because the value of that land can “flow” with the price level (hence, the need for restatement).  However, if a monetary asset such as cash is held during a period of inflation with no interest, purchasing power is lost because the cash will be able to purchase less goods and services at year-end than at the beginning of the year.  This type of loss is simply called a “purchasing power loss.” Holding a monetary liability has the opposite effect.  Therefore, if a firm’s balance sheet included more monetary liabilities than monetary assets throughout a given year, a purchasing power gain would result, since the firm could pay its liabilities using cash which is “worth less” than the cash they borrowed.

30

The fair value option election applies to all of the following items except for

  1. Pensions.
  2. Long-term notes payable.
  3. Warranties that can be settled by paying a third party.
  4. Held-to-maturity investments.

Pensions.

ASC Topic 825 provides that the fair value option does not apply to pensions.

31

In single period statements, which of the following should be reflected as an adjustment to the opening balance of retained earnings?

  1. Effect of a failure to provide for uncollectible accounts in the previous period.
  2. Effect of a decrease in the estimated useful life of depreciable equipment.
  3. Results from the disposal of a discontinued segment.
  4. Cumulative effect of a change from an accelerated method to straight-line depreciation.

Effect of a failure to provide for uncollectible accounts in the previous period.

The correction of an error in the financial statements of a prior period which is discovered after issuance should be reported as a prior period adjustment to the opening balance of retained earnings. Such errors are described in and include oversights or misuse of facts that existed at the time the financial statements were prepared. Failure to provide for uncollectible accounts would be such an error.

32

The following conditions or events are to be examined to evaluate an entity's ability to continue as a going concern:

  1. Current financial condition, conditional obligations due, and funds for investing activities.
  2. Past financial condition, unconditional obligations due, and funds for investing activities.
  3. Current financial condition, conditional and unconditional obligations due, and funds necessary to maintain operations.
  4. Past financial condition, conditional obligations due, and funds necessary to maintain operations.

Current financial condition, conditional and unconditional obligations due, and funds necessary to maintain operations.

Conditions or events to examine when evaluating an entity's ability to continue as a going concern include the entity's current financial condition, conditional and unconditional obligations dues, and funds necessary to maintain operations.

33

Which of the following must be included in a company’s summary of significant accounting policies in the notes to the financial statements?

  1. Description of current year equity transactions.
  2. Summary of long-term debt outstanding.
  3. Schedule of fixed assets.
  4. Revenue recognition policies.

Revenue recognition policies.

According to ASC Topic 235, revenue recognition policies are included in the summary of significant accounting policies in the notes to the financial statements.

34

Envoy Co. manufactures and sells household products.  Envoy experienced losses associated with its small appliance group.  Operations and cash flows for this group can be clearly distinguished from the rest of Envoy’s operations.  Envoy plans to sell the small appliance group with its operations. This represents a strategic shift. What is the earliest point at which Envoy should report the small appliance group as a discontinued operation?

  1. When Envoy classifies it as held-for-sale.
  2. When Envoy receives an offer for the segment.
  3. When Envoy first sells any of the assets of the segment.
  4. When Envoy sells the majority of the assets of the segment.

When Envoy classifies it as held-for-sale.

The earliest point at which Envoy should report the small appliance group as a discontinued operation is when Envoy classifies it as held-for-sale.

Many of the assets disposed of as discontinued operations are long-lived assets.  Such assets are subject to the requirements of ASC Topic 205. Accordingly, the component is classified as discontinued operations in the first period that it meets the criteria as being “held for sale”:

 

 a.Management commits to a plan of disposal

 b.The assets are available for sale

 c.An active program to locate a buyer have been initiated

 d.The sale is probable

 e.The asset is being actively marketed for sale at a fair price

 f.It is unlikely that the disposal plan will significantly change


To be reported as discontinued operations, the disposal must represent a strategic shift that has (or will have) a major effect on an entity's operations and financial results. ASC Topic 205 also requires (1) the operations and cash flows of the component have been (or will be) eliminated from the ongoing operations of the entity as a result of the disposal, and (2) the entity will not have any significant involvement in the operations of the component after disposal.

35

Watson Company acquired available-for-sale securities at a cost of $150,000 in year 1. At December 31, year 1, the securities had a market value of $172,000. In year 2, Watson sold all of its available-for-sale securities for $185,000. Watson does not elect the fair value option for reporting its available-for-sale securities. As a result of the information presented, what amount of gain should be reported in Watson’s net income for year 1 and year 2? Ignore income taxes.

  • Income statement for year 1
  • Income statement for year 2

  • Income statement for year 1 - $0
  • Income statement for year 2 - $35,000

The amount of gain reported in Watson’s net income would be $0 for year 1 and $35,000 for year 2. The gain reported in net income for year 2 is the excess of the selling price of $185,000 over the cost of $150,000. The unrealized gain of $22,000 ($172,000 less $150,000) for year 1 is reported as a component of other comprehensive income in year 1. Since the securities were available-for-sale, unrealized gains and losses prior to their sale are not reported in net income. This is why there was $0 reported for the gain in year 1.

36

In Dart Co.’s year 2 single-step income statement, as prepared by Dart’s controller, the section titled “Revenues” consisted of the following:

  • Sales $250,000
  • Purchase discounts $3,000
  • Recovery of accounts written off $10,000
  • Total revenues $263,000

In its year 2 single-step income statement, what amount should Dart report as total revenues?

  1. $250,000
  2. $253,000
  3. $260,000
  4. $263,000

$250,000

Total revenues recognized on an income statement are calculated as sales less sales returns and allowances, sales discounts, and estimated allowance for returns. The purchase discounts account is a contra account to purchases, and is not used in the calculation of net sales. Recovery of accounts written off requires an entry to reinstate the account receivable, and a second entry to record the payment. It does not affect total revenues. Therefore, total revenue is equal to the sales amount of $250,000.

37

According to ASC 820, the market that maximizes the price received for the asset is the

  1. Most advantageous market.
  2. Most relevant market.
  3. Independent market.
  4. Principal market.

Most advantageous market.

  • The principal market is a market in which the greatest volume and level of activity occurs. 
  • The most advantageous market maximizes price received for the asset or minimizes the amount paid to transfer the liability.

38

The correction of an error in the financial statements of a prior period should be reflected, net of applicable income taxes, in the current

  1. Income statement after income from continuing operations and before extraordinary items.
  2. Income statement after income from continuing operations and after extraordinary items.
  3. Retained earnings statement as an adjustment of the opening balance.
  4. Retained earnings statement after net income but before dividends.

Retained earnings statement as an adjustment of the opening balance.

The correction of an error in the financial statements of a prior period is a prior period adjustment which is to be shown net of tax as an adjustment to the beginning balance of retained earnings.

ASC Topic 250 defines accounting errors as errors in recognition, measurement, presentation, or disclosure in the financial statements.  An error can occur from mathematical mistakes, mistakes in applying GAAP, or oversight of facts that existed when the financial statements were prepared.  A change in accounting principle from non-GAAP to GAAP is also a correction of an error.

An error in the financial statements is treated as a prior period adjustment by restating the prior period financial statements. The cumulative effect of the error is reflected in the carrying value of assets and liabilities at the beginning of the first period presented, with an offsetting adjustment to the opening balance in retained earnings for that period.  Financial statements for each period presented are then adjusted to reflect the correction of the period-specific effects of the error.

A footnote should disclose that the previously issued financial statements were restated, along with a description of the error.  In addition, the line item effects of the error and any per share amounts must also be disclosed for each period presented. Footnote disclosures must also indicate the cumulative effect of the change on retained earnings or other components of equity or net assets at the beginning of the earliest period presented.

The entity should also disclose the gross effects and net effects of applicable income taxes on the net income of the prior period, as well as the effects on retained earnings and net income for each of the periods presented. The amount of income tax applicable to each prior period adjustment must also be disclosed.  Once the correction of the error is disclosed, the financial statements of subsequent years do not need to repeat the disclosures.

39

Which of the following items does not require fair value measurement for reporting on the balance sheet?

  1. Asset impairments.
  2. Treasury stock.
  3. Business combinations.
  4. Goodwill.

Treasury stock.

ASC Topic 820 provides rules for measuring the fair value of balance sheet items such as asset impairments, business combinations, and goodwill.

Fair value measurements.  Fair value measurements are required for certain assets and liabilities (investments, derivatives, asset impairments, asset retirement obligations, goodwill, business combinations, troubled debt restructuring).  Applying the fair value measurement approach involves the following six steps:

  1. Identify the asset or liability to be measured.
  2. Determine the principal or most advantageous market.
  3. Determine the valuation premise.
  4. Determine the appropriate valuation technique (market, income, or cost approach).
  5. Obtain inputs for valuation (Level 1, Level 2, or Level 3).
  6. Calculate the fair value of the asset.

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (at exit price) under current market conditions.  An orderly transaction is a transaction that allows for normal marketing activities that are usual and customary. In other words, it is not a forced transaction or sale.

40

Substantial doubt about an entity's ability to continue as a going concern:

  1. Must be evaluated by management on an interim and annual basis.
  2. Is an evaluation for auditors to make, not management.
  3. Is an optional evaluation for management.
  4. Must be evaluated by management on an annual basis only.

Must be evaluated by management on an interim and annual basis.

Substantial doubt about an entity's ability to continue as a going concern must be evaluated by management on an interim and annual basis.

41

In single period statements, which of the following should be reflected as an adjustment to the opening balance of retained earnings?

  1. Effect of a failure to provide for uncollectible accounts in the previous period.
  2. Effect of a decrease in the estimated useful life of depreciable equipment.
  3. Results from the disposal of a discontinued segment.
  4. Cumulative effect of a change from an accelerated method to straight-line depreciation.

Effect of a failure to provide for uncollectible accounts in the previous period.

The correction of an error in the financial statements of a prior period which is discovered after issuance should be reported as a prior period adjustment to the opening balance of retained earnings. Such errors are described in and include oversights or misuse of facts that existed at the time the financial statements were prepared. Failure to provide for uncollectible accounts would be such an error.

Emphasis is on Error vs. Estimate

42

Assume a firm elects to early adopt ASU 2015-01—Extraordinary and Unusual Items. Unusual and infrequently occurring events are reported as:

  1. An extraordinary item appearing net-of-tax as a separate line item below income from continuing operations.
  2. An extraordinary item appearing net-of-tax within income from continuing operations.
  3. A separate line item appearing within income from continuing operations.
  4. A separate line item appearing below income from continuing operations.

A separate line item appearing within income from continuing operations.

ASU 2015-01 requires items previously classified as extraordinary to be included as a separate line item within income from continuing operations.

Elimination of extraordinary item classification—potential testing due to early adoption.

(1)ASU 2015-01 is effective for annual periods beginning after December 15, 2015. Firms could choose to early adopt. Until the effective date, the CPA exam could test both the current rule and the change.

(2)The concept of extraordinary items is eliminated and replaced by the concept of unusual or infrequently occurring items. The master glossary will be amended by removing the term, "extraordinary item," and including the following:

(a)Infrequency of occurrence—exists when the underlying transaction or event would not reasonably be expected to recur in the foreseeable future taking into account the entity's operating environment.

(b)Unusual nature—exists when a transaction or event possesses a high degree of abnormality and is clearly unrelated, or incidental to, typical entity activities.

(3)Items considered unusual, infrequently occurring or both are to be reported as a separate item within income from continuing operations or disclosed in the notes to the financial statements.

(a)Individually immaterial similar gains and losses shall be aggregated.

(b)Items shall not be reported net of income tax and EPS impacts shall not be reported separately.

(4)Adoption may be on a prospective or retrospective basis.

(a)For prospective adoption, disclose the nature and amount of an item previously classified as an extraordinary to be included in income from continuing operations.

(b)For retrospective adoption, follow the new guidance disclosure rules by disclosing the nature and financial effects of each event or transaction that is unusual in nature or occurs infrequently or both. Disclosure may occur in the notes to the financial statements or as a separate line item presented within continuing operations.

43

Which of the following facts concerning inventories should be disclosed in the summary of significant accounting policies?

  • Composition
  • Pricing

  • Composition - NO
  • Pricing - YES

ASC Topic 235, inventory pricing would be considered a significant accounting policy. Additionally, ASC Topic 235 states that financial statement disclosure of accounting policies should not duplicate details (e.g., composition of inventories or of plant assets) presented elsewhere as part of the financial statements.

Accounting policies must be set forth as the initial footnote to the statements.  Disclosures are required of:

  1. Accounting principles used when alternatives exist
  2. Principles peculiar to a particular industry
  3. Unusual or innovative applications of accounting principles

44

Where on the statement of financial position (balance sheet) should accumulated other comprehensive income be reported?

  1. As a component of retained earnings.
  2. As a separate item under stockholders’ equity.
  3. As part of additional paid-in capital.
  4. As a contra asset account.

As a separate item under stockholders’ equity.

Accumulated other comprehensive income shall be reported in the stockholders’ equity section in the statement of financial position (balance sheet).

45

According to ASC Topic 820, the fair value of an asset should be based upon

  1. The price that would be paid to acquire the asset.
  2. The price that would be paid to replace the asset.
  3. The price that would be received to sell the asset.
  4. The price that the item is appraised at balance sheet date.

The price that would be received to sell the asset.

ASC Topic 820 requires that the fair value of an asset be based upon the price that would be received to sell the asset, which is an exit price.

46

Required disclosures for an entity with plans that mitigate/alleviate substantial doubt regarding its ability to continue as a going concern include all of the following except:

  1. Conditions giving rise to the substantial doubt about its ability to continue as a going concern.
  2. Management's evaluation of the significance of the conditions or events.
  3. Management's plan that alleviated the substantial doubt about its ability to continue as a gong concern.
  4. Management's intended plans to alleviate substantial doubt about its ability to continue as a going concern.

Management's intended plans to alleviate substantial doubt about its ability to continue as a going concern.

Conditions giving rise to substantial doubt, management's evaluation of the significance of the events, and management's plans that alleviated the doubt are all required disclosures when an entity has alleviated substantial doubt about its ability to continue as a going concern. Management's intended plans are disclosed when substantial doubt has not been alleviated.

47

Which SEC form discloses information about material events?

  1. Form S-1
  2. Form 8-K
  3. Form 10-K
  4. Form 10-Q

Form 8-K

  • Regulation S-X describes the form and content of financial statements filed with the SEC
  • Regulation S-K describes the requirements for information and forms required by Regulation S-X.
  • Regulation AB describes reporting requirements for asset-backed securities.
  • Regulation Fair Disclosure (FD) mandates that publicly traded companies disclose material information to all investors simultaneously.
  • Form S-1/F-1- registration statement for U.S./foreign companies.
  • Form 8-K /6-K- information about material events for U.S./foreign companies.
  • Form 10-K/20F – annual report for U.S./foreign companies.

48

Which of the following should be disclosed in the summary of significant accounting policies?

  1. Composition of plant assets.
  2. Pro forma effect of retroactive application of an accounting change.
  3. Basis of consolidation.
  4. Maturity dates of long-term debt.

Basis of consolidation.

ASC Topic 235 states that the summary of significant accounting policies should encompass those accounting principles and methods that involve a selection from existing acceptable alternatives (or are peculiar to the industry in which the entity operates). Of the answers listed, only basis of consolidation involves a choice among acceptable methods.

49

In a period of rising general price levels, Pollard Corp. discloses income on a current cost basis in accordance with ASC Topic 255, Changing Prices. 

Compared to historical cost income from continuing operations, which of the following conditions increases Pollard’s current cost income from continuing operations?

  1. Current cost of equipment is greater than historical cost.
  2. Current cost of land is greater than historical cost.
  3. Current cost of cost of goods sold is less than historical cost.
  4. Ending net monetary assets are less than beginning net monetary assets.

Current cost of cost of goods sold is less than historical cost.

Current Cost Income Statement 

  • Sales xxx
  • Cost of goods sold xxx
  • Current cost income from continuing operations xxx
  • Realized holding gain (loss) xxx
  • Realized income xxx
  • Unrealized holding gain (loss) (xxx)
  • Current cost net income xxx

Current cost income from continuing operations is sales revenue less expenses on a current basis. Realized holding gains (losses), the difference between current cost and historical costs of assets consumed, are then added (subtracted) to arrive at realized income (loss).  Realized income (loss) is always the same as historical net income (loss).  Finally, unrealized holding gains (increases in the current cost of assets held during the year) are included to arrive at current cost net income.  Therefore, if current cost of goods sold is less than historical cost of goods sold, then current cost income from continuing operations will be increased compared to historical cost income from operations.

50

ASC Topic 255 requires that the current cost for inventories be measured as the

  1. Recoverable amount regardless of the current cost.
  2. Current cost regardless of the recoverable amount.
  3. Higher of current cost or recoverable amount.
  4. Lower of current cost or recoverable amount.

Lower of current cost or recoverable amount.

ASC Topic 255 requires that the current cost for inventories be measured at the lower of current cost or recoverable amount at the measurement date.

51

The effect of a material transaction that is infrequent in occurrence but not unusual in nature should be presented separately as a component of income from continuing operations when the transaction results in a

  • Gain
  • Loss

  • Gain - YES
  • Loss - YES

A material event or transaction which is considered to be unusual in nature or infrequent in occurrence (but not both) that results in either a gain or a loss should be presented as a separate component of income from continuing operations.

52

On July 1, year 1, an erupting volcano destroyed Coastal Corporation’s operating plant, resulting in a loss of $1,500,000, of which only $500,000 was covered by insurance.  Coastal’s income tax rate is 30%. How should this event be shown in Coastal’s income statement for the year ended December 31, year 1?

  1. As an operating loss of $700,000, net of $300,000 income tax.
  2. As an extraordinary loss of $700,000, net of $300,000 income tax.
  3. As an operating loss of $1,000,000.
  4. As an extraordinary loss of $1,000,000.

As an extraordinary loss of $700,000, net of $300,000 income tax.

This answer is correct. To qualify as an extraordinary item an event must be both unusual and infrequent. A volcanic eruption would generally meet these criteria.  Extraordinary items should be shown net of taxes in a separate section in the income statement.

  • Loss from volcano ($1,500,000 − $500,000) $1,000,000
  • Less: Tax effect (30% tax rate) ($300,000)
  • Net loss after tax effect $700,000

53

Comprehensive income is defined as

  1. Changes in equity for a period resulting from all sources.
  2. Changes in retained earnings for a period resulting from owner sources.
  3. Changes in equity for a period from all sources except those by nonowner sources.
  4. Net income plus other comprehensive income.

Net income plus other comprehensive income.

Comprehensive income is the sum of net earnings (loss) and other comprehensive income.  It requires disclosure of changes during a period of the following components of other comprehensive income: unrealized gains and losses on available-for-sale investments and foreign currency items, reclassification adjustments, gains and losses on the effective portion of cash flow hedges, and any adjustments necessary to recognize the funding status of pension plans or other postemployment benefits.

54

ASC Topic 220, Comprehensive Income, applies to which of the following entities?

  •  I.Enterprises that develop a full set of financial statements which report cash flows, results of operations, and financial position.
  •  II.All enterprises even if no items classified as other comprehensive income exist for the periods presented.
  •  III.Not-for-profit organizations that follow the reporting requirements of ASC Topic 958 (SFAS 117).

I ONLY.

ASC Topic 220 applies to enterprises that develop a full set of financial statements which report cash flows, results of operations, and financial position.

55

Jordan Co. had the following gains during the current period:

  • Gain on disposal of business segment $500,000
  • Foreign currency translation gain $100,000

What amount of extraordinary gain should be presented on Jordan’s income statement for the current period?

  1. $0
  2. $100,000
  3. $500,000
  4. $600,000

$0

An extraordinary gain is included on the income statement if the gain is both infrequent in occurrence and unusual in nature. A gain on disposal of a business segment should be included on the income statement in the calculation of the gain or loss from discontinued operations. A foreign currency translation gain is recorded in other comprehensive income for the period. Neither item is treated as an extraordinary item on the income statement.

56

Dex Co. has entered into a joint venture with an affiliate to secure access to additional inventory.  Under the joint venture agreement, Dex will purchase the output of the venture at prices negotiated on an arm’s-length basis. Which of the following is(are) required to be disclosed about the related-party transaction?

I.The amount due to the affiliate at the balance sheet date.

II.The dollar amount of the purchases during the year.

  1. I only.
  2. II only.
  3. Both I and II.
  4. Neither I nor II.

BOTH.

Per ASC Topic 850, for related-party transactions an entity must disclose the nature of the relationship involved, a description of the transactions, the dollar amounts of the transactions for each of the periods, amounts due from or to related parties as of each balance sheet date, and the terms and manner of settlement.

57

Which of the following is not normally an example of an exit activity?

  1. Sale or termination of a line of business.
  2. Changes in management structure.
  3. Relocation of business activities from one location to another.
  4. Outsourcing a customer service.

Outsourcing a customer service.

This would normally not be of sufficient significance to constitute an exit activity.

An exit activity includes but is not limited to restructurings which are programs that are planned and controlled by management, and materially changes either

  1. The scope of a business undertaken by the company, or
  2. The manner in which that business is conducted
  3. Examples include:
  • Sale or termination of line of business
  • Closure of business activities at a particular location
  • Relocation of business activities from one location to another
  • Changes in management structure
  • Fundamental reorganization of the business

58

Giaconda, Inc. acquires an asset for which it will measure the fair value by discounting future cash flows of the asset. Which of the following terms best describes this fair value measurement approach?

  1. Market.
  2. Income.
  3. Cost.
  4. Observable inputs.

Income.

Three valuation techniques can be used to measure fair value: the market approach uses prices and relevant information from market transactions for identical or comparable assets or liabilities; the income approach converts future amounts to a single current (discounted) amount; and the cost approach relies on the current replacement cost to replace the asset with a comparable asset, adjusted for obsolescence. This answer is correct because the income approach relies on discounting cash flows.

59

On March 21, year 2, a company with a calendar year-end issued its year 1 financial statements. On February 28, year 2, the company's only manufacturing plant was severely damaged by a storm and had to be shut down. Total property losses were $10 million and determined to be material. The amount of business disruption losses is unknown. How should the impact of the storm be reflected in the company's year 1 financial statements?

  1. Provide no information related to the storm losses in the financial statements until losses and expenses become fully known.
  2. Accrue and disclose the property loss with no accrual or disclosure of the business disruption loss.
  3. Do not accrue the property loss or the business disruption loss, but disclose them in the notes to the financial statements.
  4. Accrue and disclose the property loss and additional business disruption losses in the financial statements.

Do not accrue the property loss or the business disruption loss, but disclose them in the notes to the financial statements.

Subsequent events are of two types: (1) those that relate to the current financial statements but come to light after year-end, and (2) those that come to light after year-end and relate to the next year's financial statements. The first situation may require accrual but the second situation requires disclosure only if it is material. In this case, the company's only manufacturing plant was shut down in February of year 2. Since this event occurred after year-end, no accrual is necessary. However it would qualify as a subsequent event requiring disclosure.

60

Assume a firm elects to early adopt ASU 2015-01—Extraordinary and Unusual Items. Extraordinary item presentation (net-of-tax) has:

  1. Not changed from current rules.
  2. Been eliminated.
  3. Been eliminated from the net-of-tax income statement presentation but may still be presented in EPS.
  4. Been eliminated from EPS reporting but may still appear in the income statement (net of tax) below income from continuing operations.

Been eliminated.

ASU 2015-01 eliminates extraordinary item classification.

61

Which of the following activities is not considered a plan/method to alleviate an entity's doubt about its ability to continue as a going concern?

  1. Disposals.
  2. Borrowings.
  3. Stock issuances.
  4. Stock purchases.

Stock purchases.

Stock purchases results in more cash outflow. Disposals, borrowings, restructurings, extended payment terms, and increasing ownership equity are considered a method to alleviate an entity's doubt about its ability to continue as a going concern.

62

A company that is a large accelerated filer must file its Form 10-Q with the United States Securities and Exchange Commission within how many days after the end of the period?

  1. 30 days.
  2. 40 days.
  3. 45 days.
  4. 60 days.

40 days.

Form 10-Qs are due 40 days after the end of the fiscal quarter for accelerated filers and

45 days after the end of the fiscal quarter for all other companies.

Form 10-Ks are due 60 days after the end of the fiscal year for large accelerated filers (more than $700 million of aggregate worldwide market value of voting and nonvoting common stock), 75 days after the end of the fiscal year for accelerated files (between $70 million of aggregated worldwide market value of voting and nonvoting common stock), and 90 days after the end of the fiscal year for all other companies.

63

Which of the following best describes the content of the SEC Form 10-Q?

  1. Quarterly audited financial information and other information about the company.
  2. Annual audited financial information and nonfinancial information about the company.
  3. Disclosure of material events that affect the company.
  4. Quarterly reviewed financial information and other information about the company.

Quarterly reviewed financial information and other information about the company.

Quarterly report (Form 10-Q) provides quarterly information similar to that in the 10-K but in less detail. It includes quarterly financial statements that are reviewed (not audited) by public accountants.  The company files three Form 10-Qs every year and the Form 10-K contains the quarterly results for the fourth quarter.

64

The following conditions or events are to be examined to evaluate an entity's ability to continue as a going concern:

  1. Current financial condition, conditional obligations due, and funds for investing activities.
  2. Past financial condition, unconditional obligations due, and funds for investing activities.
  3. Current financial condition, conditional and unconditional obligations due, and funds necessary to maintain operations.
  4. Past financial condition, conditional obligations due, and funds necessary to maintain operations.

Current financial condition, conditional and unconditional obligations due, and funds necessary to maintain operations.

Conditions or events to examine when evaluating an entity's ability to continue as a going concern include the entity's current financial condition, conditional and unconditional obligations dues, and funds necessary to maintain operations.

65

Which of the following statements is true regarding the fair value option for valuing financial assets and liabilities?

  1. The fair value option can be applied to a portion of a financial instrument.
  2. Unrealized gains and losses from reporting items using the fair value option are reported in other comprehensive income for the period.
  3. The fair value option can be elected on an instrument-by-instrument basis.
  4. The fair value option cannot be applied to insurance contracts.

The fair value option can be elected on an instrument-by-instrument basis.

The fair value option can be elected on an instrument-by-instrument basis. 

  • Once the fair value option is elected, it is irrevocable 
  • However, if the fair value option is elected, it must be applied to the entire instrument and not a portion of the instrument. 

66

Ball Corporation had the following infrequent gains during year 1:

  • $240,000 gain on sale of a plant facility; Ball continues similar operations at another location.
  •  $90,000 gain on repayment of a long-term note denominated in a foreign currency.
  • $190,000 gain on reacquisition and retirement of bonds.

In its year 1 income statement, how much should Ball report as total infrequent gains which are not considered extraordinary?

  1. $520,000
  2. $430,000
  3. $330,000
  4. $280,000

$520,000

Extraordinary items are material items which are both unusual in nature and infrequent in occurrence. Neither a sale of plant facility nor a foreign currency transaction is unusual in nature. Therefore, these two items would be reported as infrequent but not extraordinary. In addition, the gain on retirement of debt is no longer classified as extraordinary. Note that the sale of the plant facility is not classified as discontinued operations because similar operations are carried on at another location.

67

Comprehensive income can be displayed in the financial statements in 

  • I.A separate statement that begins with other comprehensive income.
  • II.A separate statement that begins with net income.
  • III.A continuation of net income presented at the bottom of the income statement.
  • IV.  Part of the statement of changes in stockholders’ equity

I and II 

I and III 

II and III 

III and IV 

2 and 3.

Comprehensive income can be displayed in the financial statements either as a separate statement that begins with net income or as a continuation of net income presented at the bottom of the income statement.  Comprehensive income can no longer be displayed as part of the statement of changes in stockholders’ equity. 

68

According to ASC Topic 250, the cumulative effect of changing to a new accounting principle should be included in net income of

  • Future periods
  • The period of change

NEITHER.

A change in accounting principle is accounted for through retrospective application to all prior periods, unless it is impracticable to do so.

  1. The cumulative effects of the change are presented in the carrying amounts of assets and liabilities as of the beginning of the first period presented.
  2. An offsetting adjustment is made to the opening balance of retained earnings for that period (the beginning of the first period presented).
  3. Financial statements for each individual prior period presented are adjusted to reflect the period-specific effects of applying the new accounting principle.

69

What is a reclassification adjustment as used when reporting comprehensive income?

  1. Adjustment made to avoid double counting items.
  2. Adjustment made to reclassify an item of comprehensive income as another item of comprehensive income.
  3. Adjustment made to make net income equal to comprehensive income.
  4. Adjustment made to adjust for the income tax effect of reporting comprehensive income.

Adjustment made to avoid double counting items.

A reclassification adjustment is an adjustment made to avoid double counting in comprehensive income items that are displayed as part of net income for a period that also had been displayed as part of other comprehensive income in that period or earlier periods.

70

Taft Inc. began operations in year 1.  For the year ended December 31, year 1, the company reported the following information:

  • Net income $300,000
  • Dividends paid on common stock $40,000
  • Unrealized loss from available-for-sale securities ($42,000)
  • Credit translation adjustments $17,000

Taft does not elect the fair value option for reporting its financial assets.  Taft Inc. has comprehensive income in year 1 of

  1. $275,000
  2. $258,000
  3. $235,000
  4. $317,000

$275,000

 

Taft’s comprehensive income for year 1 is $275,000. Comprehensive income for year 1 consists of the following amounts:

  • Net income for year 1 $300,000
  • Other comprehensive loss: 
  •      Unrealized loss on available-for-sale securities ($42,000) 
  •      Translation adjustments$ 17,000 ($25,000)
  • Comprehensive income for year 1 $275,000

71

The following expenses were among those incurred by Sayre Company during year 1.

  • Accounting and legal fees $160,000
  • Interest $60,000
  • Loss on sale of office equipment $25,000
  • Rent for office space $200,000

One-quarter of the rented premises is occupied by the sales department.  How much of the expenses listed above should be included in Sayre’s general and administrative expenses for year 1?

  1. $310,000
  2. $335,000
  3. $360,000
  4. $370,000

$310,000

The accounting and legal fees ($160,000) and the portion of office rent not allocable to sales (3/4 × $200,000 = $150,000) are all considered general and administrative expenses. Therefore, general and administrative expense should be $310,000 ($160,000 + $150,000). In addition, the interest expense ($60,000) would be included with financial expense or other expenses. The $25,000 loss on the sale of office equipment should be included in other expenses and losses. The office rent for the sales department (1/4 × $200,000 = $50,000) is an operating expense and included in selling expenses rather than general and administrative expenses.

72

Watson Company acquired available-for-sale securities at a cost of $150,000 in year 1. At December 31, year 1, the securities had a market value of $172,000. In year 2, Watson sold all of its available-for-sale securities for $185,000. Watson does not elect the fair value option for reporting its available-for-sale securities. As a result of the information presented, what amount of gain should be reported in Watson’s net income for year 1 and year 2? Ignore income taxes.

  • Income statement for year 1
  • Income statement for year 2

  • Income statement for year 1 - $0
  • Income statement for year 2 - $35,000

The amount of gain reported in Watson’s net income would be $0 for year 1 and $35,000 for year 2. The gain reported in net income for year 2 is the excess of the selling price of $185,000 over the cost of $150,000. The unrealized gain of $22,000 ($172,000 less $150,000) for year 1 is reported as a component of other comprehensive income in year 1. Since the securities were available-for-sale, unrealized gains and losses prior to their sale are not reported in net income. This is why there was $0 reported for the gain in year 1.

73

Assume a firm elects early adoption of ASU 2014–08 related to discontinued operations. The following disposal could qualify as a discontinued operation:

  1. Disposal of a component of an entity that is similar in nature to other components but has operations and cash flows distinguishable from the rest of the entity.
  2. Disposal of a component of an entity due to a major change in business strategy.
  3. Disposal of a small component of an entity within the current business strategy.
  4. Disposal of a component of an entity with distinguishable operations and cash flows from the rest of the entity.

Disposal of a component of an entity due to a major change in business strategy.

Discontinued operations must represent a strategic shift or major operating impact.

ASU 2014–08 Modifies the definition of discontinued operations by requiring only those component disposals representing strategic shifts/major operating impacts to be reported as a discontinued operation. This modification eliminates the potential of routine disposals of small groups of assets being classified as discontinued operations which was possible under the prior guidance.

74

Mirr, Inc. was incorporated on January 1, year 1, with proceeds from the issuance of $750,000 in stock and borrowed funds of $110,000.  During the first year of operations, revenues from sales and consulting amounted to $82,000, and operating costs and expenses totaled $64,000.  On December 15, Mirr declared a $3,000 cash dividend, payable to stockholders on January 15, year 2.  No additional activities affected owners’ equity in year 1. Mirr’s liabilities increased to $120,000 by December 31, year 1. On Mirr’s December 31, year 1 balance sheet, total assets should be reported at

  1. $885,000
  2. $882,000
  3. $878,000
  4. $875,000

$885,000

Mirr began operations on 1/1/Y1 with the following balance sheet elements:

  • Assets = Liabilities + Owners’ equity
  • $860,000 = $110,000 + $750,000

During year 1, liabilities increased to $120,000, and owners’ equity increased to $765,000 [$750,000 beginning balance + $18,000 net income ($82,000 revenues − 64,000 expenses) − $3,000 dividends declared]. Therefore, 12/31/Y1 assets must be $885,000.

  • Assets = Liabilities + Owners’ equity
  • $885,000 = $120,000 + $765,000

75

During a period of inflation, an account balance remains constant.  When supplemental statements are being prepared, a purchasing power gain is reported if the account is a

  1. Monetary asset.
  2. Monetary liability.
  3. Nonmonetary asset.
  4. Nonmonetary liability.

Monetary liability.

Per ASC Topic 255, the dollar amounts of monetary assets and liabilities are fixed or determinable without reference to future prices or specific goods or services. If the general price level changes, a purchasing power gain (loss) may occur on monetary items. A monetary liability held constant during a period of inflation creates a purchasing power gain because the liability could be paid using a fixed amount of cash which is worth less than the cash borrowed earlier.

The preparation of constant dollar financial statements requires the classification of balance sheet items as either monetary or nonmonetary.  Items are monetary if their amounts are fixed by statute or contract in terms of numbers of dollars. Examples include cash, accounts and notes receivable, accounts and notes payable, and bonds payable. By contract or statute, these items are already stated in current dollars and require no restatement. Nonmonetary items, on the other hand, do require restatement to current dollars.  Inventory, property, plant, and equipment, and unearned service revenue are examples of nonmonetary items.  Under some increasingly popular loan arrangements, when the repayment of loan principal is adjusted by an index, the receivable/payable is classified as a nonmonetary item.

The holding of a nonmonetary asset such as land during a period of inflation need not result in a loss of purchasing power because the value of that land can “flow” with the price level (hence, the need for restatement).  However, if a monetary asset such as cash is held during a period of inflation with no interest, purchasing power is lost because the cash will be able to purchase less goods and services at year-end than at the beginning of the year.  This type of loss is simply called a “purchasing power loss.” Holding a monetary liability has the opposite effect.  Therefore, if a firm’s balance sheet included more monetary liabilities than monetary assets throughout a given year, a purchasing power gain would result, since the firm could pay its liabilities using cash which is “worth less” than the cash they borrowed.

76

Which of the following items is not classified as “other comprehensive income”?

  1. Extraordinary gains from extinguishment of debt.
  2. Foreign currency translation adjustments.
  3. Minimum pension liability equity adjustment for a defined-benefit pension plan.
  4. Unrealized gains for the year on available-for-sale marketable securities.

Extraordinary gains from extinguishment of debt.

Extraordinary gains from extinguishment of debt are not classified as other comprehensive income. Gains from extinguishment of debt (ordinary or extraordinary) are reported on the income statement.

77

IAS 1 requires a complete set of financial statements to be prepared annually.  A complete set of financial statements includes

  1. Statement of financial position, statement of comprehensive income, statement of changes in equity, and notes.
  2. Statement of financial position, statement of comprehensive income, statement of changes in equity, and statement of cash flows.
  3. Statement of financial position, statement of comprehensive income, statement of changes in equity, statement of cash flows, and notes.
  4. Statement of financial position, statement of changes in equity, statement of cash flows, and notes.

Statement of financial position, statement of comprehensive income, statement of changes in equity, statement of cash flows, and notes.

A complete set of IFRS financial statements includes the following: statement of financial position, statement of comprehensive income, statement of changes in equity, statement of cash flows, and notes.

78

Which of the following should be disclosed in the summary of significant accounting policies?

  1. Rent expense amount.
  2. Maturity dates of long-term debt.
  3. Methods of amortizing intangibles.
  4. Composition of plant assets.

Methods of amortizing intangibles.

ASC Topic 235 recommends that when financial statements are issued, a statement identifying the accounting policies adopted and followed by the reporting entity should be presented as an integral part of the financial statements. The accounting policies are the specific accounting principles and the methods of applying the principles that have been adopted for preparing the financial statements.

79

No deferred tax asset was recognized in the 2004 financial statements by the Chaise Company when a loss from discontinued segments was carried forward for tax purposes. Chaise had no temporary differences. The tax benefit of the loss carried forward reduced current taxes payable on 2005 continuing operations.

In accordance with FASB Statement No. 109, the 2005 financial statements would include the tax benefit from the loss brought forward in

  1. Income from continuing operations.
  2. Gain or loss from discontinued segments.
  3. Owners' equity.
  4. Cumulative effect of accounting changes.

Income from continuing operations.

The tax benefit of the carry-forward reduced taxes on 2005 income from continuing operations, as indicated in the question. Therefore, the benefit is included in income from continuing operations.

80

During year 1 Kerr Company sold a parcel of land used as a plant site.  The amount Kerr received was $100,000 in excess of the land’s carrying amount.  Kerr’s income tax rate for year 1 was 30%.  In its year 1 income statement, Kerr should report a gain on sale of land of

  1. $0
  2. $ 30,000
  3. $ 70,000
  4. $100,000

$100,000

Generally, gains and losses on the sale of land are not accorded special treatment. The entire $100,000 gain should, therefore, be included in income before taxes.

81

Which of the following is false?

  1. The components of other comprehensive income may be displayed before tax-related effects with the aggregate income tax effects shown as one amount.
  2. Reclassification adjustments shall be made in order to avoid double counting of items included in other comprehensive income and also in net income.
  3. Components of other comprehensive income may not be shown net of tax-related effects.
  4. Other comprehensive income includes revenues, expenses, gains, and losses that under generally accepted accounting principles are included in comprehensive income but excluded from net income.

Components of other comprehensive income may not be shown net of tax-related effects.

Components of other comprehensive income can be shown either net of tax-related effects or before tax-related effects with the aggregate income tax effects shown as one amount. 

Question 3:

82

Loy Corp. purchased a machine in year 1 when the average Consumer Price Index (CPI) was 180.  The average CPE was 190 for year 2, and 200 for year 3. Loy prepares supplementary constant dollar statements (adjusted for changing prices).  Depreciation on this machine is $200,000 a year.  In Loy’s supplementary constant dollar statement for year 3, the amount of depreciation expense should be stated as

Loy Corp. purchased a machine in year 1 when the average Consumer Price Index (CPI) was 180.  The average CPE was 190 for year 2, and 200 for year 3. Loy prepares supplementary constant dollar statements (adjusted for changing prices).  Depreciation on this machine is $200,000 a year.  In Loy’s supplementary constant dollar statement for year 3, the amount of depreciation expense should be stated as

  1. $180,000
  2. $190,000
  3. $210,526
  4. $222,222

$222,222

This answer is correct.  Depreciation is a nonmonetary item. Therefore, it must be adjusted to current year dollars.  The $200,000 of historical cost depreciation is converted into year 3 dollars by multiplying it by the To/From ratio of 200/180.

  • $200,000× (200 / 180) = $222,222

Therefore, year 3 depreciation stated in constant dollars is $222,222.

83

When a company discontinues an operation and disposes of the discontinued operation (component), the transaction should be included in the earnings statement as a gain or loss on disposal reported as

  1. A prior period adjustment.
  2. An extraordinary item.
  3. An amount after continuing operations and before extraordinary items.
  4. A bulk sale of fixed assets included in earnings from continuing operations.

An amount after continuing operations and before extraordinary items.

both the gain or loss from discontinued operations and the gain or loss on sale of the segment should be shown after income from continuing operations.

84

A company changes from the double-declining balance method of depreciation for previously recorded assets to the straight-line method. According to ASC Topic 250, the effect of the change should be reported separately as a(n)

  1. Unusual item.
  2. Component of income after discontinued operations.
  3. Component of income from continuing operations on a prospective basis.
  4. Prior period adjustment.

Component of income from continuing operations on a prospective basis.

ASC Topic 250 requires changes in depreciation method to be treated as a change in estimate and handled on a prospective basis.

85

If losses in the amount of $2,750 (net of tax) on available-for-sale securities have been previously included in other comprehensive income, what amount would be the reclassification adjustment when the securities are sold?  Assume a 30% tax rate.

  1. $2,750
  2. $(2,750)
  3. $3,575
  4. $(3,575)

$2,750

$2,750 had been a deduction of other comprehensive income in prior years. When the securities are sold, the loss will be included in net income, so the $2,750 must be added back to other comprehensive income to avoid taking the loss twice.

86

A transaction that is unusual in nature or infrequently occuring should be reported as a(n)

  1. Component of income from continuing operations, net of applicable income taxes.
  2. Extraordinary item, net of applicable income taxes.
  3. Component of income from continuing operations, but not net of applicable income taxes.
  4. Extraordinary item, but not net of applicable income taxes.

Component of income from continuing operations, but not net of applicable income taxes.

an item not meeting the unusual or infrequently occurring definition would be recorded as a component of income from continuing operations.

87

Harris Inc. received $50,000 from the sale of available-for-sale securities in year 2. The securities were acquired in year 1 at a cost of $62,000, and had a market value of $55,000 at December 31, year 1. Harris does not elect the fair value option to report any of its financial assets. Ignoring income taxes, how would this information affect other comprehensive income (loss) for year 1 and year 2?

  • Year 1
  • Year 2

  • Year 1 - YES
  • Year 2 - NO

This answer is correct. Since the securities were available-for-sale, unrealized gains and losses are reported as a component of other comprehensive income (loss) for year 1. The decline in market value from $62,000 to $55,000 should be reported as a $7,000 reduction in other comprehensive income for year 1. In year 2, the further reduction in the market value from $55,000 to $50,000 should be reported as a $5,000 reduction in other comprehensive income for year 2. Since the securities were sold in year 2 for $50,000, a realized loss of $12,000 would be reported in net income for year 2. The realized loss is computed by subtracting the selling price of $50,000 from the cost of $62,000. To avoid double counting the loss in comprehensive income, $12,000 should be reported as a reclassification adjustment in other comprehensive income for year 2. The reclassification adjustment of $12,000, when netted with the $5,000 unrealized loss recognized in year 2, causes a net positive effect of $7,000 in comprehensive income for year 2. This results in answer “B” being the correct answer. The schedule below shows how the effects described above would be reported in net income and other comprehensive income for 2010 and year 2.

88

Thorpe Co.’s income statement for the year ended December 31, year 3, reported net income of $74,100. The auditor raised questions about the following amounts that had been included in net income:

  • Unrealized loss on decline in market value of available-for-sale marketable equity securities$(5,400)
  • Gain on early retirement of bonds payable33,000
  • Adjustment to profits of prior years for errors in depreciation (net of $3,750 tax effect)(7,500)
  • Loss from fire (net of $7,000 tax effect)(14,000)

Thorpe did not elect the fair value option for reporting any of its financial assets. The loss from the fire was an infrequent but not unusual occurrence in Thorpe’s line of business.  Thorpe’s December 31, year 3 income statement should report net income of

  1. $65,000
  2. $66,100
  3. $81,600
  4. $87,000

$87,000

Net income as reported ($74,100) properly included the gain on early retirement of bonds payable ($33,000) and the loss from fire ($14,000). The fact that the loss was reported net of taxes in the income statement was incorrect, but does not cause the net income amount to be in error. However, the other two items should not be reported in the income statement. If Thorpe does not elect the fair value option, the rules of ASC Topic 320 apply. Therefore, an unrealized loss on available-for-sale investments in stock ($5,400) is reported in "other comprehensive income," net of tax under one of three acceptable alternatives and as part of "accumulated other comprehensive income" in the stockholders’ equity section. A correction of an error ($7,500) is treated as a prior period adjustment. It is reported in the financial statements as an adjustment to the beginning balance of retained earnings, rather than in the income statement. Since both of these items were subtracted in the computation of reported net income, they must be added back to compute the correct net income of $87,000 ($74,100 + $5,400 + $7,500).

89

What is the purpose of reporting comprehensive income?

  1. To report changes in equity due to transactions with owners.
  2. To report a measure of overall enterprise performance.
  3. To replace net income with a better measure.
  4. To combine income from continuing operations with income from discontinued operations.

To report a measure of overall enterprise performance.

The purpose of reporting comprehensive income is to report a measure of overall enterprise performance by displaying all changes in equity of an enterprise that result from recognized transactions and other economic events of the period other than transactions with owners in their capacity with owners. An enterprise should continue to display an amount for net income with equal prominence to the comprehensive income amount displayed.

90

Which of the following statements is true regarding the fair value option for valuing financial assets and liabilities?

  1. The fair value option must be applied to all instruments in that classification.
  2. The fair value option must be applied to all interests in the same entity.
  3. The fair value option cannot be revoked until the next balance sheet date.
  4. The fair value option can be applied to a portion of a financial instrument.

The fair value option must be applied to all interests in the same entity.

 

91

ASC Topic 825 for the fair value option election applies to all of the following items except for

  1. Firm commitments that involve financial instruments.
  2. Warranties that can be settled by paying a third party.
  3. Held-to-maturity investments.
  4. Leases.

Leases.

FV Option does not apply to Leases or Pensions!!!

92

A company reports the following information as of December 31:

  • Sales revenue $800,000
  • Cost of goods sold $600,000
  • Operating expenses $90,000
  • Unrealized holding gain on available-for-sale securities, net of tax $30,000

What amount should the company report as comprehensive income as of December 31?

  1. $30,000
  2. $110,000
  3. $140,000
  4. $200,000

$140,000

Comprehensive income is net income plus or minus unrealized gains and losses that are recognized in comprehensive income for the period. Net income is equal to $110,000 ($800,000 − $600,000 − $90,000). An unrealized holding gain on available-for-sale securities is classified as other comprehensive income. Therefore, this answer is correct because comprehensive income is calculated as net income of $110,000 plus the $30,000 unrealized holding gain on available-for-sale securities, which equals $140,000.