Select Transactions Flashcards
A company should recognize goodwill in its balance sheet at which of the following points?
A
Costs have been incurred in the development of goodwill.
B
Goodwill has been created in the purchase of a business.
C
The company expects a future benefit from the creation of goodwill.
D
The fair market value of the company’s assets exceeds the book value of the company’s assets.
B
Explanation:
Goodwill arises when one entity purchases another entity, and is recognized as the excess of the acquisition-date fair value of the purchase price over the recognized amounts of assets, liabilities, and noncontrolling interests. Internally generated goodwill is not recognized or recorded.
DeeCee Co. adjusted its historical cost income statement by applying specific price indexes to its depreciation expense and cost of goods sold. DeeCee's adjusted income statement is prepared according to A Fair value accounting. B General purchasing power accounting. C Current cost accounting. D Current cost/general purchasing power accounting.
C-Current cost accounting
Explanation:
DeeCee adjusts the depreciation and cost of goods sold reported in the historical cost income statement by applying specific price indexes to these amounts. Therefore, DeeCee’s adjusted income statement is prepared using current cost accounting. The income statement is not prepared using fair value accounting because only depreciation expense and cost of goods sold are restated by applying specific price indexes. The income statement is not prepared using general purchasing power accounting because DeeCee’s historical costs are not remeasured into units of a currency with the same general purchasing power. The income statement is not prepared using current cost/general purchasing power accounting because amounts are not remeasured into units of a currency with the same general purchasing power.
On January 2, year 1, Union Co. purchased a machine for $264,000 and depreciated it by the straight-line method using an estimated useful life of eight years with no salvage value. On January 2, year 4, Union determined that the machine had a useful life of six years from the date of acquisition and will have a salvage value of $24,000. An accounting change was made in year 4 to reflect the additional data. The accumulated depreciation for this machine should have a balance at December 31, year 4, of A $176,000. B $160,000. C $154,000. D $146,000.
D- 146k remember the new salvage value
Explanation:
The change in the estimated useful life of the machine is a change in accounting estimate. The effect of the change in accounting estimate be accounted for prospectively in the period of change and future periods, because both are affected.
Accumulated depreciation, 1/1, year 4 [($264,000 - $0) / 8] × 3 years $ 99,000
Cost of machine $264,000
Accumulated depreciation, 1/1, year 4 (99,000)
Carrying amount of machine,1/1, year 4 $165,000
Less: Estimated salvage value (24,000)
Depreciable base of machine,1/1, year 4 $141,000
Divide by: Estimated remaining useful life (6 - 3) / 3
Depreciation for year 4 47,000
Accumulated depreciation, 12/31, year 4 $146,000
Retailer enters into a lease of warehouse space. The lease is for a nine-month noncancelable term, can be extended for four months, and does not include a purchase option. On the lease commencement date, Retailer concludes that it is not reasonably certain that it will renew the lease beyond the nine-month noncancelable period because (1) the noncancelable period coincides with the period in which Retailer expects to need the additional storage and (2) the monthly lease payments during the optional extension period are expected to be at market rates. How should the lessee recognize the lease?
A
As an operating lease with lease payments as expense on straight line basis.
B
As a finance lease with present value of lease payments as ROU asset.
C
As an operating lease with lease payments as expense on ROU asset.
D
As a sales type lease with lease payment as expense on straight line basis.
A- Operating lease
Explanation:
In this scenario, because Retailer only needs the warehouse space to support its operations for a nine-month period and the pricing for the optional period is expected to be consistent with the expected market rates, it would be reasonable to conclude that the lease term is limited to the nine-month cancelable period. Therefore, the lease term is 12 months or less and Retailer applies the short-term lease exemption in accounting for the lease (i.e., it recognizes lease payments as an expense on a straight-line basis over the lease term and does not recognize a lease liability or ROU asset on its balance sheet).
Option (B), (C) and (D) are incorrect as per above explanation.
At the commencement date of an operating lease, a lessor should
A Subtract initial direct costs B Defer initial direct costs C Recognize initial direct costs D None of the above
Explanation:
The correct answer is (B).
At the commencement date, a lessor should defer initial direct costs.
Initial direct costs associated with the lease are deferred and amortized over the term of the lease as the lease income is recognized.
After the commencement date, a lessor should recognize all of the following:
The lease payments as income in profit or loss over the lease term on a straight-line basis.
Variable lease payments as income in profit or loss in the period in which the changes in facts and circumstances on which the variable lease payments are based occur
Initial direct costs as an expense during the lease period on the same basis as income from the lease.
Which of the following statements is false concerning subsequent events?
A
An entity shall not recognize events occurring between the time the financial statements were issued or were available to be issued and the time the financial statements were reissued unless the adjustment is required by GAAP or regulatory requirements.
B
Some nonrecognized subsequent events may be of such a nature that they must be disclosed to keep the financial statements from being misleading.
C
An entity shall not recognize subsequent events that provide evidence about conditions that did not exist at the date of the balance sheet but arose after the balance sheet date but before financial statements are issued or are available to be issued.
D
An entity is not permitted to disclose any estimates inherent in the process of preparing financial statements when disclosing the effects of subsequent events that provide additional evidence about conditions existing at the date of the balance sheet.
Explanation:
The correct answer is (D).
An entity shall recognize in the financial statements the effects of all subsequent events that provide additional evidence about conditions that existed at the date of the balance sheet, including the estimates inherent in the process of preparing financial
statements.
On October 1 of the current year, Mild Co., a U.S. company, purchased machinery from Grund, a German company, with payment due on April 1 of next year. If Mild’s current-year operating income included no foreign exchange transaction gain or loss, then the transaction could have
A
Resulted in a Foreign Currency translation gain to be reported in company’s income statement.
B
Been denominated in U.S. dollars.
C
Caused a foreign currency gain to be reported as a contra account against machinery.
D
Caused a foreign currency translation gain to be reported in other comprehensive income.
Explanation:
The correct answer is (B).
Foreign currency transactions are transactions denominated in a currency other than the entity’s functional currency. Hence, no foreign currency transaction gain or loss would occur if the purchase of the machinery by the U.S. company is denominated in U.S. dollars.
Which of the following statements correctly describes the proper accounting for nonmonetary exchanges that are deemed to have commercial substance?
A
It defers any gains and losses.
B
It defers losses to the extent of any gains.
C
It recognizes gains and losses immediately.
D
It defers gains and recognizes losses immediately.
C
Explanation:
In an exchange with commercial substance, the transaction is accounted for at the fair value of the asset received or the asset given up, whichever is more clearly evident, and a gain or loss is recognized on the exchange.
When valuing certain financial instruments, a company that has elected the fair value measurement option must apply the accounting measurement based on which of the following criteria?
A A portion of an asset or liability B Instrument-by-instrument basis C Type-by-type basis D At the entity level
Explanation:
The correct answer is (B).
ASC 825-10-25-2 states the fair value measurement option is irrevocable, must be applied on an instrument-by-instrument basis, and must be applied to the entire instrument as a whole.
(A) is incorrect because the entire asset or liability must be measured at fair value.
(C) is incorrect because fair value must be measured on an instrument-by-instrument basis for each type that is to be valued under fair value measurement.
(D) is incorrect because fair value must be measured for each instrument and not at the entity level.
On January 1, year 1, a company capitalized $100,000 of costs for software that is to be sold. The company amortizes the software costs on a straight-line basis over five years. The carrying value of the software costs on January 1, year 3, was $60,000. As of December 31, year 3, the estimated future gross revenue to be generated from the sale of the software is $23,000, and the estimated future cost of disposing of the software is $8,000. What amount should the company expense related to the software costs for the year ended December 31, year 3? A $18,400 B $20,000 C $37,000 D $45,000
D- 45k
Explanation:
Software production costs are capitalized and reported at the lower of unamortized cost or net realizable value (NRV) once technological feasibility has been met. The unamortized cost is $60,000 and the NRV is $15,000 ($23,000 − $8,000); therefore, the software should be written down by $45,000 (i.e., expensed) to the NRV of $15,000.
On December 12, year 1, Imp Co. entered into a forward exchange contract to purchase 100,000 euros in 90 days. The relevant exchange rates are as follows:
Spot rate Forward rate (for 3/12, yr 2)
December 12, year 1 $1.86 $1.80
December 31, year 1 $1.96 $1.83
Imp entered into the forward contract to hedge a commitment to purchase equipment being manufactured to Imp’s specifications. At December 31, year 1, what amount of foreign currency transaction gain should Imp include in income from this forward contract?
A $0 B $ 10,000 C $ 5,000 D $3,000
Explanation:
The correct answer is (D).
A forward exchange contract is an agreement to exchange different currencies at a specified future date and at a specified rate (the forward rate). A forward contract is a foreign currency transaction. The accounting for a gain or loss on a foreign currency transaction that is intended to hedge an identifiable foreign currency commitment (for example, an agreement to purchase or sell equipment) is considered a foreign currency hedge and works as a fair value hedge.
Gains and losses on this qualifying fair value hedge shall be recognized currently in earnings. The gain or loss realized on this forward exchange contract is computed by multiplying the foreign currency amount of the contract by the difference between the forward rate at the balance sheet date and the forward rate at the inception of the contract (or the forward rate last used to measure a gain or loss on that contract for an earlier period).
Foreign currency units to be purchased 100,000
Times: Excess of forward rate at the balance sheet date over the forward rate at the inception of the contract ($1.83 - $1.80) × $0.03
Foreign currency transaction gain $3,000
Journal Entries
12/12/Year 1:
J/E @90-day forward rate for the forward exchange contract (entered to hedge against a possible increase in the value of Euros to be paid when the invoice is due for the purchase commitment)
Dr. Euro receivable $180,000
Cr. US$ payable $180,000
12/31/20X0:
J/E for gain or loss on a forward exchange contract at the forward rate
Dr. Euro receivable $3,000
Cr. Gain on Forward Exchange Contract $3,000
Note: Foreign currency transactions can have operating transactions in the foreign currency such as buying inventory or a purchase commitment for equipment. Fluctuations in foreign exchanges (spot rate) will result in a gain or loss in inventory or receivable/payable. Such fluctuations always use the spot rate.
To hedge such fluctuations, a forward contract is used, which is an agreement to exchange two different currencies at a future date, at a specific rate.
Gains or losses in forward contracts use the forward rate.
In this particular question when spot rates increase from $1.86 to $1.96 my liability for purchase commitment will increase by $0.1 resulting in $10,000 loss. However, the forward exchange contract will have a gain of $1.83 - $1.80. i.e. $0.03 resulting in a $3,000 gain on the forward contract.
Certain balance sheet accounts of a foreign subsidiary of Rowan Inc., at December 31, have been translated into U.S. dollars as follows:
Translated at
Current Rates Historical Rates
Note receivable, long-term $240,000 $200,000
Prepaid rent 85,000 80,000
Patent 150,000 170,000
$475,000 $450,000The subsidiary’s functional currency is the currency of the country in which it is located. What total amount should be included in Rowan’s December 31 consolidated balance sheet for the above accounts?
A
$450,000
B
$455,000
C
$475,000
D
$495,000
Explanation:
Since the subsidiary’s functional currency is the currency of the country in which it is located, all of its assets are translated at the current rate (i.e., the exchange rate in effect at the balance sheet date).
Farm Co. leased equipment to Union Co. on July 1 of the current year and properly recorded the sales-type lease at $135,000, the present value of the lease payments discounted at 10%. The first of eight annual lease payments of $20,000 due at the beginning of each year was received and recorded on July 3 of this year. Farm had purchased the equipment for $110,000. What amount of interest revenue from the lease should Farm report in its current year income statement?
A $0 B $5,500 C $5,750 D $6,750
Explanation:
Interest revenue is calculated by adjusting the initial investment in the lease by the payment received on July 3, and then applying the interest rate and prorating for the last 6 months of the year.
Net investment in lease (PV), 7/1 $135,000
Less: Payment received, 7/3 (20,000)
Net investment in lease after 7/3 payment 115,000
Interest rate × 10%
Whole year interest revenue 11,500
July through December, 1/2 year × 0.5
Interest revenue $ 5,750
Which of the following is the characteristic of a perfect hedge? A No possibility of future gain or loss B No possibility of future gain only C No possibility of future loss only D The possibility of future gain and no future loss
Explanation:
Hedging is a risk management strategy to protect against the possibility of loss, such as from price fluctuations. Generally, the strategy involves counterbalancing transactions in which a loss on one financial instrument or cash flow stream would be offset by a gain on the related derivative. A perfect hedge would result in no possibility of future gain or loss.
In a lease that is recorded as a sales-type lease by the lessor, interest revenue
A
Should be recognized in full as revenue at the lease’s inception.
B
Should be recognized over the period of the lease using the straight-line method.
C
Should be recognized over the period of the lease using the effective interest method.
D
Does not arise
Explanation:
In a lease recorded as the sales-type lease by the lessor, the lessor recognizes two types of revenue: the gain or loss on the sale (lease) of the asset and the interest income from the collection of the lease payment. The unearned interest revenue is amortized over the life of the lease using the effective interest rate method on the receipt of the periodic lease payments.
Options (A), (B) and (D) are incorrect because interest revenue arises and that cannot be recognized immediately, it has to be earned over the period of the lease by effective interest method and not the straight-line method.
Which of the following items requires a prior period adjustment to retained earnings?
A
Purchases of inventory this year were overstated by $5 million.
B
Available-for-sale securities were improperly valued last year by $20 million.
C
Revenue of $5 million that should have been deferred was recorded in the previous year as earned.
D
The prior year’s foreign currency translation gain of $2 million was never recorded.
Explanation:
Errors in financial statements result from mathematical mistakes, mistakes in the application of accounting principles, or the oversight or misuse of facts that existed at the time the financial statements were prepared. Errors that occur in one accounting period and are discovered in a subsequent accounting period are more involved: the cumulative effect of each error on periods prior to the period of discovery is calculated and recorded as a direct adjustment to the beginning balance of retained earnings. Errors that occur and are discovered in the same accounting period may be corrected by reversing the incorrect entry and recording the correct one or by directly correcting the account balances with a single entry. Foreign currency gains and losses and available for sale securities are reported in other comprehensive income.
A company has an operating lease for its office space. The lease term is 120 months and requires monthly rent of $15,000. As an incentive for the company to enter into the lease, the lessor granted the first eight months’ rent at no cost. What amount of monthly rent expense should be recognized over the life of the lease?
A $14,000 B $14,062 C $15,000 D $16,072
Explanation:
The correct answer is (A).
In an operating lease, when there are uneven lease payments or there is a free rent period, the total rent expense payable for the entire lease term is divided evenly over each period in line with the matching principle. As the first eight months rent was free and the remaining 112 months the rent was $15,000, the total monthly rent expense to be recognized over the life of the lease is $14,000 (i.e. $15,000 x 112) / 120.
(B) is incorrect because this is a random number.
(C) is incorrect because this is the monthly rent to be paid as per the contract for 112 months which needs to be apportioned over the entire rental period of 120 months.
(D) is incorrect because here the calculation as per option (a) is reversed (i.e. $16,072 = $15,000 * 120 / 112).
Jay’s lease payments are made at the end of each period. Jay’s liability for a finance lease would be reduced periodically by the:
A
lease payment less the portion of the minimum lease payment allocable to interest.
B
lease payment plus the amortization of the related asset.
C
lease payment less the amortization of the related asset.
D
lease payment.
Explanation:
In a finance lease, the lease liability is amortized by effective interest rate method. Each lease payment is first applied to the interest on the basis of the interest rate x carrying value of the lease obligation. Any remaining portion of the lease payment is applied towards reduction of the lease liability.
Options (B), (C) and (D) are incorrect because finance lease is reduced by minimum lease payment less interest and not amortization of leased asset or the entire minimum lease payment.
Appointment of the IFRS Foundation Trustees is approved by which of the following?
A The IFRS Advisory Council B The IFRS Interpretations Committee C The IFRS Foundation Monitoring Board D The Accounting Standards Advisory Forum
Explanation:
Appointment of the IFRS Trustees is approved by the IFRS Foundation Monitoring Board. The IFRS Advisory Council is the formal advisory body to the IASB and the Trustees. The IFRS Interpretations Committee reviews current IFRS accounting issues that have arisen and provides authoritative guidance (IFRICs) on those issues. It has 14 voting members appointed by the Trustees of the IFRS Foundation for their technical ability. The Accounting Standards Advisory Forum is an advisory group to the IASB providing technical advice and feedback. Its members consist of national accounting standard-setters and regional bodies with an interest in financial reporting and are selected by the Trustees.
Combined statements may be used to present the results of operations of
Companies under common management Commonly controlled companies A Yes No B No Yes C Yes Yes D No No
Explanation:
The correct answer is Option (C).
Combined financial statements are used if consolidated financial statements are not suitable for the same purpose. This is done when a non-consolidated subsidiary or group of companies owned by a common shareholder is present.
Options (A), (B) and (D) are incorrect as per above explanation.
PQR Ltd. enters into a contract with a customer for the sale of a tangible asset on January 1, 20X7, for $1 million. The contract also gives the entity the right to repurchase the asset for $1.1 million on or before December 31, 20X7. The expected market value for the asset is $1.05 million. This option is:
A
A forward option accounted for as a lease.
B
A call option accounted for as a financing arrangement.
C
A put option accounted for as a sale with a right to return.
D
A forward option accounted for as a financing arrangement.
Explanation:
As PQR has the right to repurchase the asset this is a call option and as the repurchase price of 1.1 million is greater than the original price of $ 1 million, this is to be accounted for as a financing arrangement.
Which of the following statements describes the proper accounting for losses when nonmonetary assets are exchanged for other nonmonetary assets?
A
A loss is recognized immediately, because assets received should not be valued at more than their cash equivalent price.
B
A loss is deferred so that the asset received in the exchange is properly valued.
C
A loss, if any, which is unrelated to the determination of the amount of the asset received should be recorded.
D
A loss can occur only when assets are sold or disposed of in a monetary transaction.
Explanation:
In general, accounting for nonmonetary transactions (those involving nonmonetary assets or liabilities) should be based on the fair values of the assets involved. The acquisition is recorded at the fair value of the asset surrendered or the fair value of the asset received, whichever is more clearly determinable, and gains or losses should be recognized. The rationale associated with immediate gain/loss, recording the transactions at fair value, is that the exchange represents the culmination of the earnings process associated with the assets surrendered. The best statement describing the proper accounting for losses when nonmonetary assets are exchanged is that a loss is recognized immediately, because assets received should not be valued at more than their cash equivalent price.
Which of the following is (are) examples of contingent liabilities? A Obligations related to product warranties B Pending or threatened litigation C Both A. and B. D Neither A. nor B.
Explanation:
Examples of contingent liabilities include obligations related to product warranties and pending or threatened litigation. Since answers A. and B. are correct, answer C., both A. and B., is the best choice.
Conn Co. reported a retained earnings balance of $400,000 at December 31 of the previous year. In August of the current year, Conn determined that insurance premiums of $60,000 for the three-year period beginning January 1 of the previous year had been paid and fully expensed in that year. Conn has a 30% income tax rate. What amount should Conn report as adjusted beginning retained earnings in its current year statement of retained earnings? A $420,000 B $428,000 C $440,000 D $442,000
B- 428k
Explanation:
The recognition of the effect of fully expensing the premiums for the three-year insurance policy represents the correction of an error of a prior period. The correction of the error should be reported as prior-period adjustment by restating the prior-period financial statements. The correction results in $40,000 (i.e., $60,000 × 2/3) less insurance expense recognized in the previous year. This increases the balance of retained earnings as corrected by the retrospective application. However, the balance of retained earnings cannot be increased by the full $40,000, because the reduction in insurance expense would have increased the amount of income tax expense previously recognized by $12,000 (i.e., $40,000 × 30%). Thus, the balance of retained earnings corrected by the retrospective application is increased by $28,000 (i.e., $40,000 - $12,000). Therefore, the amount to be reported as corrected by the retrospective application is $428,000 (i.e., $400,000 + $28,000).
On November 2, year 1, Platt Co. entered into a 90-day futures contract to purchase 50,000 Swiss francs when the contract quote was $0.70. The purchase was for speculation in price movement. The following exchange rates existed during the contract period:
30-day futures Spot rate November 2, year 1 $0.62 $0.63 December 31, year 1 0.65 0.64 January 30, year 2 0.65 0.68 What amount should Platt report as foreign currency exchange loss in its income statement for the year ended December 31, year 1?
A $2,500 B $3,000 C $3,500 D $4,000
A- 2.5k
Explanation:
A gain or loss on a speculative futures contract should be computed by multiplying the foreign currency amount of the futures contract by the difference between the future rate available for the remaining maturity of the contract and the contract future rate (or the forward rate last used to measure a gain or loss on that contract for an earlier period). No separate accounting recognition is given to the discount or premium. The spot rate is the exchange rate used for immediate delivery of currencies exchanged.
Foreign currency units to be purchased
50,000
Times: Excess of futures rate available for the remaining maturity of the contract and the contracted futures rate ($0.70 – $0.65)
× $0.05
Loss on futures contract
$ 2,500
On January 1 of the current year, Babson, Inc., leased two automobiles for executive use. The lease requires Babson to make five annual payments of $13,000 beginning on this same date. At the end of the lease term, December 31 in five years, Babson guarantees the residual value of the automobiles will total $10,000 and the expected Residual Value is $9,000. The lease qualifies as a Finance Lease. The interest rate implicit in the lease is 9%. Present value factors for the 9% rate implicit in the lease are as follows:
For an annuity due with 5 payments 4.240
For an ordinary annuity with 5 payments 3.890
Present value of $1 for 5 periods 0.650
Babson’s recorded Finance Lease liability immediately after the first required payment should be
A $42,770 B $44,070 C $35,620 D $31,070
A- 42,770
Explanation:
At commencement, the initial measurement of the lease liability (regardless of lease classification) is calculated as the present value of the lease payments not yet paid by using the lease term and discount rate determined at lease commencement.
Lease Liability includes the present value of rental payments called for by the lease over the lease term (five payments of $13,000) and the amount that it is probable that the lessee will owe under the residual value guarantee at the end of the lease term ($10,000 - $9,000).
Since the annual rental payment is payable at the beginning of each lease year, the present value factor for an annuity due is used.
Present value of minimum rental payments called for over the lease term ($13,000 × 4.240) $55,120
Present value of the guarantee by the lessee of the residual value at expiration of lease ($1,000 × 0.650) 650
Present value of minimum lease payments at the inception of the lease, 1/1 $55,770
Immediate minimum rental payment made 1/1 13,000
Finance lease liability after first required payment, 1/1 $42,770
On January 2, Year 4, Raft Corp. discovered that it had incorrectly expensed a $210,000 machine purchased on January 2, Year 1. Raft estimated the machine’s original useful life to be 10 years and its salvage value at $10,000. Raft uses the straight-line method of depreciation and is subject to a 30% tax rate. In its December 31, Year 4, financial statements, what amount should Raft report as a prior period adjustment?
A $102,900 B $105,000 C $165,900 D $168,000
B- 105k
Explanation:
The company needs to reverse the impact of expensing the machine and account for depreciation for the machine. Depreciation expense is $20,000 {($210,000 - $10,000)/10 years} per year and $60,000 for 3 years. So, depreciation expense has been overstated by $150,000. Prior period adjustment would be $105,000 net of 30% taxes [$150,000 - ($150,000 x 30%)].
Options (A), (C) and (D) are incorrect as per the above explanation.
On January 2, 2018, Marx Co. as lessee signed a five-year non-cancellable equipment lease with annual payments of $200,000 beginning December 31, 2018. Marx treated this transaction as a finance lease. The five lease payments have a present value of $758,000 on January 2, 2018, based on an interest rate of 10%. What amount should Marx report as interest expense for the year ended December 31, 2018?
A $0 B $48,400 C $55,800 D $75,800
Explanation:
The correct answer is (D).
Interest is calculated on the lease liability carrying value. The first annual lease payment is made on December 31, 2018, one year would have elapsed since the inception of the lease. Interest for the one year would be calculated on the lease liability recorded at the beginning of the year at the present value of $758,000.
Interest = 10% of $758,000 = $75,800.
Options (A) is incorrect because interest would have accrued since one year would have elapsed from the date of inception of the lease to the date of the first annual payment.
Option (B) is incorrect because of inaccurate calculation.
Option (C) is incorrect because interest must be calculated on the original lease liability balance as the payment was made at the end of the year rather than after the first installment.
A company incurred the following costs to complete a business combination in the current year:
Issuing debt securities $30,000 Registering debt securities $25,000 Legal fees $10,000 Due diligence costs $1,000 What amount should be reported as Bond Issue Costs?
A $1,000 B $55,000 C $36,000 D $66,000
Explanation:
The correct answer is (B).
The costs to register and issue debt or equity securities shall be reported as Bond Issue Costs totaling to $30,000 + $25,000 = $55,000.
Acquisition-related costs are costs the acquirer incurs to effect a business combination.
Those costs include finder’s fees; advisory, legal, accounting, valuation, and other professional or consulting fees; general administrative costs; and costs of registering and issuing debt and equity securities.
The acquirer should account for acquisition-related costs as expenses in the periods in which the costs are incurred and the services are received.
What is the underlying concept governing the generally accepted accounting principles pertaining to recording gain contingencies? A Conservatism B Relevance C Consistency D Reliability
A- Conservatism
Explanation:
Gain contingencies should be disclosed in the financial statements in a footnote rather than being reflected in income because doing so could result in recognizing income prior to its realization. This treatment reflects the principle of conservatism which means that accountants who are selecting between two possible alternatives should choose the accounting alternative which is least likely to overstate assets and income.
Green Co. was preparing its year-end financial statements. Green had a pending lawsuit against a competitor for $5,000,000 in damages. Green’s attorneys indicate that obtaining a favorable judgment was probable and the amount of damages is reasonably estimated. Green incurred $100,000 in legal fees. The income tax rate was 30%. What amount, if any, should Green recognize as a contingency gain in its financial statements? A $0 B $3,430,000 C $3,500,000 D $4,900,000
A-$0
Explanation:
Contingencies arise from events or circumstances occurring before the balance sheet date, the resolution of which is contingent on a future event or circumstance. Where the likelihood of a loss is considered probable and the loss can be reasonably estimated, the estimated loss should be charged to income and the nature of the contingency should be disclosed. Gain contingencies should be disclosed but not recognized as income.
Management can estimate the amount of loss that will occur if a foreign government expropriates some company assets. If expropriation is reasonably possible, a loss contingency should be A Disclosed but not accrued as a liability B Disclosed and accrued as a liability C Accrued as a liability but not disclosed D Neither accrued as a liability nor disclosed
A
Explanation:
Since the contingent loss from the expropriation of assets is judged to be reasonably possible, it should be disclosed in the footnotes, but not accrued. A contingent loss is accrued only in situations where the loss is probable and estimable.
An entity leases a highly specialized underwater vehicle with patented technology to another entity. The asset took three years to produce. The lessee uses the asset to search the deep ocean floor for buried treasure in a remote area of the Arctic Ocean. The cost of transporting the asset to the search site was approximately half the cost of the asset itself, and it is not expected that any other entity is going to want to use that asset in that specific location. The lessor should classify this transaction as:
A Operating Lease B Sales-Type Lease C Direct Financing Lease D None of the above
B- Sales type
Explanation:
A Finance Lease must meet one of the following criteria:
Present Value equals or exceeds substantially all (90%) of the Fair Value
Option to Purchase (exercise is reasonably certain)
Economic Life - Major part (75%) of asset’s economic life is used
Transfer of Ownership at lease termination
Specialized Nature - No alternative use to the lessor at lease termination
Note: the implementation guidance for ASC 842 uses the 75/90 thresholds, even though the standard is principles-based.
The lessor does not believe that any other entities would be interested in a similar use (searching the Arctic Ocean for buried treasure), and the asset is designed for that particular environment and no other. As a result, the lessor in this example would meet the criterion for classifying the lease as a sales-type lease.
Option (A), (C) and (D) are incorrect as per above explanation.
Which of the following costs should not be included in research and development?
A Facility costs. B Personnel costs. C Administrative costs. D Indirect costs
Explanation:
The correct answer is (C).
Following costs are included in research and development.
Materials, equipment, and facilities
Personnel Cost: Salaries, wages, and other related costs of personnel
Intangibles purchased from other
Contract services
Indirect costs.
General and administrative costs that are not clearly related to research and development activities shall not be included as research and development costs.
A company enters into a three-year operating lease agreement effective January 1, year 1. The amounts due at the end of each year are $25,000 in year 1, $30,000 in year 2, and $35,000 in year 3. The rate implicit in the lease is 10%.
What amount, if any, is the related liability on the first day of year 2?
Additional Information:
Present Value of $ 1 at 10% for 1 period = 0.9091
Present Value of $ 1 at 10% for 2 period = 0.8264
Present Value of $ 1 at 10% for 3 period = 0.7513
A
$0
B
$73,816
C
$56,198
D
$31,818
Explanation:
The correct answer is (C)
At commencement, the initial measurement of the lease liability (regardless of lease classification) is calculated as the present value of the lease payments not yet paid by using the lease term and discount rate determined at lease commencement. Rate Implicit in the Lease is 10%.
So lease liability will be recorded at present value of all minimum lease payments
$25,000 0.9091 $22,727 $30,000 0.8264 $24,793 $35,000 0.7513 $26,296 Total $73,816 The Journal Entry would be:
Dr. ROU Asset $73,816
Cr. Lease Liability $73,816
After lease commencement, a lessee would recognize a single lease cost in the income statement on a straight-line basis. The total remaining lease cost on the commencement date would be $90,000 which is calculated as the total lease payments ($25,000 + $30,000 +$35,000).
This remaining lease cost is recognized on a straight-line basis over the remainder of the lease term (i.e., Lessee would recognize $30,000 in each period, which is calculated as $90,000 ÷ 3).
Lease Liability ROU Asset
Year Beg. Bal. Liab. Accretion Lease Pymt End. Bal. Beg. Bal. Asset Red. End. Bal. Lease Cost
1 73,816 7,382 (25,000) 56,198 73,816 (22,618) 51,198 30,000
2 56,198 5,620 (30,000) 31,818 51,198 (24,380) 26,818 30,000
3 31,818 3,182 (35,000) 0 26,818 (26,818) 0 30,000
The liability on the first day of Year 2 is $56,198.
On January 2, of the current year, Cole Co. signed an eight-year noncancelable lease for a new machine, requiring $15,000 annual payments at the beginning of each year. The machine has a useful life of 12 years, with no salvage value. Title passes to Cole at the lease expiration date. Cole used straight-line depreciation for all of its plant assets. Aggregate lease payments have a present value on January 2 of $108,000, based on an appropriate rate of interest. For the current year, Cole should record depreciation (amortization) expense for the leased machine at
A $0 B $ 9,000 C $13,500 D $15,000
Explanation:
The correct answer is (B).
A Finance Lease must meet one of the following criteria:
Present Value equals or exceeds substantially all (90%) of the Fair Value
Option to Purchase (exercise is reasonably certain)
Economic Life - Major part (75%) of asset’s economic life is used
Transfer of Ownership at lease termination
Specialized Nature - No alternative use to the lessor at lease termination
Note: the implementation guidance for ASC 842 uses the 75/90 thresholds, even though the standard is principles-based.
The title is transferred at the end of the lease and the leased asset is depreciated over the useful life of the asset, which is 12 years. Cole should record a depreciation expense of $108,000 / 12 = $9,000.
Option (A) is incorrect because, in a finance lease, depreciation is recorded over the useful life of the asset if the ownership transfers at the end of the lease term.
Option (C) is incorrect because depreciation has to be recorded over the useful life of the machine if there is an ownership transfer and not over the term of the lease.
Option (D) is incorrect because depreciation is not equal to the lease payments.
On December 31, year 1, Roe Co. leased a machine from Colt for a five-year period. Equal annual payments under the lease are $100,000 and are due on December 31 of each year. The first payment was made on December 31, year 1, and the second payment was made on December 31, year 2. The five lease payments are discounted at 10% over the lease term. The present value of lease payments at the inception of the lease and before the first annual payment was $417,000. The lease is appropriately accounted for as a Finance Lease by Roe. In its December 31, year 2 balance sheet, Roe should report a lease liability of
A $317,000 B $315,000 C $285,300 D $248,700
Explanation:
Roe’s annual lease payment is $100,000.
Balance before payment, 12/31, year 1 $ 417,000
Less MLP, 12/31, year 1 (100,000)
Balance after MLP, 12/31, year 1 $ 317,000
Minimum lease payment, 12/31, year 2 $ 100,000
Interest expense ($317,000 × 10%) ( 31,700)
Less: Principal Reduction ( 68,300)
Balance after MLP, 12/31, year 2 $ 248,700
Main, a pharmaceutical company, leased office space from Ash. Main took possession and began to use the building on July 1, year 1. Rent was due the first day of each month. Monthly lease payments escalated over the 5-year period of the lease as follows:
Period Lease Payment Note
July 1 - September 30, year 1 $0 Rent abatement during move-in, construction
October 1, year 1 - June 30, year 2 17,500
July 1, year 2 - June 30, year 3 19,000
July 1, year 3 - June 30, year 4 20,500
July 1, year 4 - June 30, year 5 23,000
July 1, year 5 - June 30, year 6 24,500
What amount would Main show as deferred rent expense on December 31, year 4?
A $50,658 B $52,580 C $68,575 D $71,550
Explanation:
The correct answer is (D).
When uneven lease payments are made, rent is recognized evenly over the term of the lease. Since the lease term is for 60 Months i.e., 5 years and the lease payments total to $1,201,500.
Rent to be recognized for each month is at $20,025 ($1,201,500/60 months).
For the period ending December 31, year 4, 42 lease payments are made.
Rent for 42 Months = 42 x $20,025 = $841,050.
Lease Expense for 42 months $841,050
Less: Actual amount of rent paid $769,500
Rental expense Deferred $ 71,550
Period Months Amount Paid per month ($) Total Amount Paid ($) Rent Expense
July Year 1 – Sept Year 1 3 $0 $0 $60,075
October Year 1 – December Year 1 3 $17,500 $52,500 $60,075
January Year 2 – June Year 2 6 $17,500 $105,000 $120,150
July Year 2 – December Year 2 6 $19,000 $114,000 $120,150
January Year 3 – June Year 3 6 $19,000 $114,000 $120,150
July Year 3 – December Year 3 6 $20,500 $123,000 $120,150
January Year 4 – June Year 4 6 $20,500 $123,000 $120,150
July Year 4 – December Year 4 6 $23,000 $138,000 $120,150
January Year 5 – June Year 5 6 $23,000 $138,000 $120,150
July Year 5 – December Year 5 6 $24,500 $147,000 $120,150
January Year 6 – June Year 6 6 $24,500 $147,000 $120,150
Mr. and Mrs. Dart own a majority of the outstanding capital stock of Wall Corp., Black Co., and West, Inc. During the year, Wall advanced cash to Black and West in the amount of $50,000 and $80,000, respectively. West advanced $70,000 in cash to Black. At December 31, none of the advances was repaid. In the combined December 31 balance sheet of these companies, what amount would be reported as receivables from affiliates? A $200,000 B $130,000 C $ 60,000 D $0
Explanation:
Like consolidated financial statements, combined financial statements should not include intercompany payables and receivables.
On October 1 of the current year, a U.S. company sold merchandise on account to a British company for 2,000 pounds (exchange rate, 1 pound = $1.43). At the company's December 31 fiscal year end, the exchange rate was 1 pound = $1.45. The exchange rate was 1 pound = $1.50 on collection in January of the subsequent year. What amount would the company recognize as a gain(loss) from foreign currency translation when the receivable is collected? A $0 B $100 C $140 D ($140)
Explanation:
The exchange rate to be used for translation of foreign currency transactions is as follows. At the date the transaction is recognized, each asset, liability, revenue, expense, gain, or loss arising from the transaction should be measured and recorded in the functional currency of the recording entity by use of the exchange rate in effect at that date. At each balance sheet date, recorded balances that are denominated in a currency other than the functional currency of the recording entity should be adjusted to reflect the current exchange rate. These adjustments should be currently recognized as transaction gains or losses and reported as a component of income from continuing operations. Upon settlement, a transaction gain or loss, measured from the transaction date or the most recent intervening balance sheet date (whichever is later), should be included as a component of income from continuing operations for the period in which the transaction is settled. The U.S. company would recognize a gain of $100 when the receivable is collected (settlement date) based on 2,000 pounds × $0.05, the increase in the exchange rate of $1.45 on the balance sheet date to $1.50 on the settlement date.
The following information pertains to Flint Co.'s sale of 10,000 foreign currency units under a forward contract dated November 1, of the current year for delivery on January 31 of the following year: 11/1 12/31 Spot-rate $0.80 $0.83 30-day future rates 0.79 0.82 90-day future rates 0.78 0.81Flint entered into the forward contract in order to speculate in the foreign currency. In Flint's income statement for the current year ended December 31, what amount of loss should be reported from this forward contract? A $400 B $300 C $200 D $0
Explanation:
A forward exchange contract (forward contract) is an agreement to exchange different currencies at a specified future date and at a specified rate (the forward rate). A forward contract is a foreign currency transaction. Therefore, a gain or loss on a forward contract is included in determining net income in accordance with the requirements for other foreign currency transactions. A gain or loss on a speculative forward contract (that is, a contract that does not hedge an exposure) is computed by multiplying the foreign currency amount of the contract by the difference between the forward rate available for the remaining maturity of the contract and the contracted forward rate (or the forward rate last used to measure a gain or loss on that contract for an earlier period).
Foreign currency units 10,000
Times: excess of forward rate available for the remaining maturity of the contract and the contracted forward rate ($0.82 - $0.78) × $0.04
Loss on forward contract $ 400
Contributed capital in foreign currency financial statements should be translated by means of which of the following?
A
The current exchange rate at the balance sheet date
B
A weighted-average exchange rate for the period
C
The historical exchange rate
D
The weighted-average rate, less dividends declared during the period, at the exchange rate when declared
Explanation:
Contributed capital is translated using the historical exchange rate.
A U.S. company purchased inventory on account at a cost of 1,000 foreign currency units (FCU) from a non-U.S. company on November 15, to be paid on December 15. The FCU is valued at $0.85 on November 15 and at $0.90 on December 15. The journal entry to record payment on December 15 should include which of the following?
A
Debit inventory and credit cash for $850
B
Debit exchange gains and losses and credit accounts payable for $50
C
Debit accounts payable and credit exchange gains and losses for $50
D
Debit accounts payable and credit cash for $850
Explanation:
The correct answer is (B).
Purchased inventory would have been recorded for $850 on November 15th because of $0.85 FCU value x 1,000. On December 15th, with an exchange rate of $0.90, it will require $900 to make the payment. Accounts payable will be increased with a credit of $50 and an exchange loss will be recognized with a debit of $50.
Exchange loss $50
A/P $50
(A) is incorrect because inventory will be debited at the purchase date
(C) is incorrect because there is a loss, the reverse of this entry must be passed.
(D) is incorrect because the amount should include exchange gain or loss
A six-year finance lease entered into on December 31, 2018, specified equal minimum annual lease payments due on December 31 of each year. The first annual lease payment, paid on December 31, 2018, consists of which of the following?
Interest expense
Lease liability.
A I only. B II only. C Both I and II. D Neither I nor II.
Explanation:
Finance lease liability is amortized by the effective interest rate method, where, the annual lease payment is first applied to the interest due, and the remaining is then applied to the reduction of the lease liability.
The first annual lease payment is made on December 31, 2018, the date the finance lease was entered into, no interest would have yet accrued as there is no passage of time and therefore the entire payment would be applied towards the reduction of the lease liability.
Oak Co. leased equipment for its entire 9-year estimated life, agreeing to pay $50,000 at the start of the lease term on December 31, year 1, and $50,000 annually on each December 31 for the next eight years. The present value on December 31, year 1, of the nine lease payments over the lease term, using the rate implicit in the lease which Oak knows to be 10%, was $316,500. The December 31, year 1, present value of the lease payments using Oak’s incremental borrowing rate of 12% was $298,500. Oak made a timely second lease payment. What amount should Oak report as finance lease liability in its December 31, year 2 balance sheet?
A $350,000 B $243,150 C $228,320 D $0
Explanation:
The Lease Liability balance as of year 2 is 243,150.
Balance before payment, 12/31, year 1 $ 316,500
Less: lease payment, 12/31, year 1 (50,000)
Balance after Lease Payment, 12/31, year 1 $ 266,500
Lease Payment, 12/31, year 2 $ 50,000
Less: Portion allocable to interest ($266,500 × 10%) (26,650)
Less: principal reduction from 12/31, year 2 lease payment (23,350)
Balance after lease payment, 12/31, year 2 $ 243,150
Koby Co. entered into a finance lease with a vendor for equipment on January 2 for seven years. The equipment has no guaranteed residual value. The lease required Koby to pay $500,000 annually on January 2, beginning with the current year. The present value of an annuity due for seven years was 5.35 at the inception of the lease. What amount should Koby capitalize as leased equipment (ROU Asset)?
A $ 500,000 B $ 825,000 C $2,675,000 D $3,500,000
Explanation:
A lessee must record a finance lease Right of Use Asset in an amount equal to Lease Liability (present value of lease payments using implicit rate of interest) plus Initial direct costs plus prepaid lease payments minus lease incentives. As no initial direct costs, prepaid lease payments or lease incentives exist. Koby should capitalize ROU Asset as PV of Lease Payments i.e. $500,000 × 5.35 = $2,675,000.
Charm Co. owns a delivery truck with an original cost of $10,000 and accumulated depreciation of $7,000. Charm acquired a new truck by exchanging the old truck and paying $2,000 in cash. The new truck has a fair value of $5,000 at the time of the exchange. What amount of gain or loss should Charm recognize?
A $0 B $2,000 C $2,500 D $3,000
Explanation:
The correct answer is (A).
This is a non-monetary exchange without commercial substance. In an exchange without commercial substance when boot is paid only loss is recognized and gain is not recognized.
Realized gain (or loss) = FV of asset received - CV of asset given up (If FV of asset given up is not known, use FV of asset received) = $5,000 - $3,000 = $2,000. However, a gain is not recognized only loss is recognized.
The journal entry would be as follows:
Asset Received $5,000
Accumulated Depreciation $7,000
Asset Given up $10,000
Cash $2,000
Markson Co. traded a concrete-mixing truck with a book value of $10,000 to Pro Co. for a cement-mixing machine with a fair value of $11,000. Markson needs to know the answer to which of the following questions in order to determine whether the exchange has commercial substance?
A
Does the book value of the asset given up exceed the fair value of the asset received?
B
Is the gain on the exchange less than the increase in future cash flows?
C
Are the future cash flows expected to change significantly as a result of the exchange?
D
Is the exchange nontaxable?
Explanation:
A nonmonetary exchange has commercial substance if the entity’s future cash flows are expected to change significantly as a result of the exchange. The acquisition is recorded at the fair value of the asset surrendered or the fair value of the asset received, whichever is more clearly determinable. Gains or losses should be recognized as the earnings process has culminated for the asset exchanged.
Which of the following computer software costs should be expensed?
A
Conceptual formulation of alternatives in the preliminary project stage
B
Design of the software configuration during the application development stage
C
Costs of producing product masters after technology feasibility was established
D
Installation to hardware during the application development stage
Explanation:
The correct answer is (A).
In the case of computer software developed for sale, costs prior to technological feasibility are expensed as R&D and costs associated with converting a technologically feasible program into final commercial form are capitalized.
Costs incurred after software sales begin are inventories and included in COGS.
Computer software costs that are incurred in the preliminary project stage should be expensed as incurred. Activities in this stage include conceptual formulation and evaluation of alternatives; determination of the existence of needed technology; and final selection of alternatives.
The following should be capitalized:
Design of the software configuration during the application development stage
Costs of producing product masters after technology feasibility was established
Installation to hardware during the application development stage
Which of the following is a criterion for classifying a lease as a finance lease by a lessee?
A
The lease term is for the major part of the remaining economic life of the underlying asset.
B
The present value of the minimum lease payments is 75% or more of the fair value of the leased property.
C
The lease agreement contains an option to purchase the leased property at its fair value at the end of the lease term.
D
The lease agreement requires that title of the leased property remains with the lessor at the end of the lease term.
Explanation:
The correct answer is (A).
Lessee meets the criterion that the lease term is for the major part of the remaining economic life of the underlying asset. Per ASC 842, a lessee must meet just one condition to capitalize:
Ownership transfer - The lease transfers ownership of the underlying asset to the lessee by the end of the lease term.
Written purchase option - The lease grants the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. E.g., Lessee has a bargain purchase option to purchase the asset from the lessor at a price which is estimated to be 50% of the asset’s then fair value
No alternative use - The underlying asset is of a specialized nature such that it is expected to have no alternative use to the lessor at the end of the lease term
Equal or excess PV - The PV of the sum of the lease payments and any residual value guaranteed by the lessee equals or exceeds substantially all of the FV of the underlying asset.
Remaining economic life - The lease term is for the major part of the remaining economic life of the underlying asset
Note: If none of the criteria is met, the lease is an operating lease for the lessee
Under the acquisition method, which of the following would be considered a bargain purchase?
A
The net of the book value of assets acquired and liabilities assumed exceeds the aggregate of the consideration transferred plus the fair value of any noncontrolling interest
B
The net of the fair value of assets acquired and liabilities assumed exceeds the aggregate of the consideration transferred plus the fair value of any noncontrolling interest
C
The aggregate of the consideration transferred plus the fair value of any noncontrolling interest exceeds the net of the book value of assets acquired and liabilities assumed
D
The aggregate of the consideration transferred plus the fair value of any noncontrolling interest exceeds the net of the fair value of assets acquired and liabilities assumed
Explanation:
Under the acquisition method, assets acquired and liabilities assumed by the acquirer are always recorded at their fair values. If the net of the fair value of assets acquired and liabilities assumed exceeds the aggregate of the consideration transferred plus the fair value of any noncontrolling interest, that excess is called a bargain purchase. The acquirer recognizes an ordinary gain in earnings on the acquisition date.
____________________ in a variable interest entity is a (are) contractual, ownership, or other pecuniary interest(s) in an entity that change(s) with changes in the entity’s net asset value exclusive of variable interests.
A The primary beneficiary B Variable interests C Subordinated financial support D Expected variability
Explanation:
Variable interests in a variable interest entity are contractual, ownership, or other pecuniary interests in an entity that change with changes in the entity’s net asset value exclusive of variable interests. A primary beneficiary refers to an enterprise that consolidates a variable interest entity under the provisions of GAAP. Subordinated financial support refers to variable interests that will absorb some or all of an entity’s expected losses if they occur. Expected variability is the sum of the absolute values of the expected residual return and the expected loss.
On November 1, year 2, Kir Co. signed a contract to purchase 10,000 British pounds on February 2, year 3. The relevant exchange rates are as follows:
Spot Rate
Forward Rate
November 1, year 2
$1.98
$2.05
December 31, year 2
$2.00
$2.06
Kir accounts for the forward contract as a speculative transaction. What amount of gain, if any, should Kir report from this forward contract in its income statement for the year ended December 31, year 2?
A $0 B $100 C $600 D $700
Explanation:
The correct answer is (B).
This forward contract is owned for speculative purposes. All derivatives held for speculative purposes are recorded at fair value. Gains and losses are recorded directly on the income statement. Kir Co. signed a contract to purchase 10,000£ at a forward price of $20,500 (10,000 × 2.05). This is the amount initially recorded on November 1, year 2. As the value of the forward contract has increased to $20,600 (10,000 × 2.06) by December 31, Year 2, an increase of $100 must be recorded to mark up the derivative to fair value. There will be an unrealized holding gain of $100 reported on the income statement on Dec 31, year 2.
(A) is incorrect because a forward contract resulted in a gain.
(C) is incorrect because instead of taking the difference between the forward rate on November 1 and December 31, the spot rate is used as on December 31 to arrive at the gain [i.e. $600 = ($2.06 - $2.00) x £10,000].
(D) is incorrect because gain from the difference in spot rate and forward rate as on December 31 is added [i.e. $700 = ($2.06 - $2.00) x £10,000 + ($2.06 - $2.05) x £10,000].
On January 1, year 1, Alpha Co. signed an annual maintenance agreement with a software provider for $15,000 and the maintenance period begins on March 1, year 1. Alpha also incurred $5,000 of costs on January 1, year 1, related to software modification requests that will increase the functionality of the software. Alpha depreciates and amortizes its computer and software assets over five years using the straight-line method. What amount is the total expense that Alpha should recognize related to the maintenance agreement and the software modifications for the year ended December 31, year 1?
A $5,000 B $13,500 C $16,000 D $20,000
B-13500
Explanation:
Internal and external training and maintenance costs should be expensed as incurred.The costs of upgrades are capitalized.Capitalized costs are amortized over the estimated useful life,and adjusted periodically with changes in the estimates of the useful life or when the value of the asset is impaired.Alpha would recognize $13,500 in total expense for year 1, determined as follows:
Software modification ($5,000 /5) $ 1,000 Annual maintenance ($15,000 * 10/12) 12,500 Total Expense, year 1 $13,500 Option (a) is incorrect because it does not depreciate the software modification costs over 5 years and does not include the annual maintenance agreement expenses for the year.Option (c) is incorrect because it accounts for maintenance agreement cost for full year instead of costs incurred for 10 months [$16,000 = $15,000 + ($5,000/5)]. Option (d) is incorrect because it does not depreciate the software modification costs over 5 years and expensed the annual maintenance agreement expenses for the year instead of expensing 10 months costs ($20,000 = $15,000 + $5,000).
On June 1, year 1, ABC Co. issued a 200,000 euro purchase order for equipment to be supplied by a German company. ABC’s functional currency is the U.S. dollar. The equipment was delivered to ABC on November 1, year 1, and ABC recorded a payable due to the German company. ABC paid for the equipment on January 31, year 2. The following are the exchange rates in effect:
June 1, year 1 1 euro = 1.40 U.S. dollars
November 1, year 1 1 euro = 1.50 U.S. dollars
December 31, year 1 1 euro = 1.35 U.S. dollars
January 31, year 2 1 euro = 1.30 U.S. dollarsUnder IFRS, what is the foreign currency gain or loss that ABC should record for the year ended December 31, year 1?
A
A loss of $30,000.
B
A loss of $20,000.
C
A gain of $10,000.
D
A gain of $30,000.
D- gain 30k because it was less than they were suppose to pay
Explanation:
US GAAP and IFRS are similar in their approach to foreign currency translation. Except for the translation of financial statements in hyperinflationary economies, the method used to translate financial statements from the functional currency to the reporting currency is the same. Both require re measurement into the functional currency before translation into the reporting currency. Assets and liabilities are translated at the period-end rate and income statement amounts generally are translated at the average rate, with the exchange differences reported in equity. The equipment and payable would have been recorded on November 1, year 1 at $300,000 (200,000 euro × 1.50 US dollars). At the December 31, year 1 the exchange rate was 1 euro = 1.35 US dollars so the payable would be adjusted to $270,000 (200,000 euro × 1.35 US dollars) and result in a $30,000 foreign currency gain.
On January 1, year 1, Peabody Co. purchased an investment for $400,000 that represented 30% of Newman Corp.’s outstanding voting stock. For year 1, Newman reported net income of $60,000 and paid dividends of $20,000. At year end, the fair value of Peabody’s investment in Newman was $410,000. Peabody elected the fair value option for this investment. What amount should Peabody recognize in net income for year 1 attributable to the investment?
A $6,000 B $10,000 C $16,000 D $18,000
C- remeber unrealize loss
Explanation:
Entities may choose to measure eligible items at fair value (the “fair value option”) that are not currently required to be measured at fair value. The decision to elect the fair value option is applied instrument by instrument, is irrevocable, and is applied only to an entire instrument. A business entity shall report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. The Investment in Newman would be increased by 30% of the net income and decreased by 30% of the dividends, resulting in a year end carrying amount of $412,000 ($400,000 + 18,000 – 6,000). Since the fair value was $410,000, Peabody had an unrealized loss of $2,000. This loss is netted against the investment income previously recognized of $18,000 for a $16,000 net income impact. Dividends do not affect net income (they reduce the Investment account).
A(n) \_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_ is a number of currency units, shares, bushels, pounds, or other units specified in a derivative instrument. A Underlying B Notional amount C Firm commitment D Counter amount
Explanation:
A notional amount is a number of currency units, shares, bushels, pounds, or other units specified in a derivative instrument.
In a sale-leaseback transaction, the seller-lessee retains the right to substantially all of the remaining use of the equipment sold. The profit on the sale should be deferred and subsequently amortized by the lessee when the lease is classified as:
Finance Lease Operating lease A No Yes B No No C Yes Yes D Yes No
Explanation:
The correct answer is (B). There is no gain deferral under either a finance lease or an operating lease.
According to ASC 842, the transfer of the asset must meet the requirements for a sale per the Revenue Recognition standards.
If there is no sale for the seller-lessee, the buyer-lessor also does not account for a purchase. Any consideration paid for the asset is accounted for as a financing transaction by both the seller-lessee and the buyer-lessor.
If the leaseback is a finance lease from seller-lessee’s perspective, the transfer of the asset is not a sale and therefore, no gain would be recognized.
However, if the leaseback is an operating lease from seller-lessee’s perspective, transfer of the asset is a sale and gain would be recognized immediately.
Which of the following criteria must be met for a lease to be classified as a direct financing lease?
A
The lease term is for the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease.
B
The present value of the sum of the lease payments and any residual value guaranteed by the lessee that is not already reflected in the lease payments equals or exceeds substantially all of the fair value of the underlying asset.
C
The underlying asset is of such a specialized nature that it is expected to have no alternative use to the lessor at the end of the lease term.
D
The present value of the sum of the lease payments and any residual value guaranteed by the lessee that is not already reflected in the lease payments and/ or any other third party unrelated to the lessor equals or exceeds substantially all of the fair value of the underlying asset.
D
Explanation:
A lessor shall classify the lease as either a direct financing lease or an operating lease. A lessor shall classify the lease as an operating lease unless both of the following criteria are met, in which case the lessor shall classify the lease as a direct financing lease:
The present value of the sum of the lease payments and any residual value guaranteed by the lessee that is not already reflected in the lease payments and/ or any other third party unrelated to the lessor equals or exceeds substantially all of the fair value of the underlying asset.
It is probable that the lessor will collect the lease payments plus any amount necessary to satisfy a residual value guarantee.
According options (A), (B) and (C) are incorrect as per above explanations.
In general, retained earnings may increase as a result of which of the following? A Prior adjustments B Net losses suffered by the firm C Stock dividends D All of the above
A
Explanation:
Retained earnings may increase as a result of a prior period adjustment.
Which of the following financial instruments is not considered a derivative financial instrument? A Interest-rate swaps B Currency futures C Stock-index options D Bank certificates of deposit
D
Explanation:
A derivative financial instrument is an instrument or contract that has three characteristics; (1) an underlying and notional amount or payment provision, (2) zero or small investment, and (3) net settlement. Bank certificates of deposit do not contain these features. They are investments that normally require a minimum amount of deposit and can be classified as cash if the original maturity is three months or less. The other items listed are all derivative instruments. An interest rate swap is an arrangement where two companies swap interest payments, but not the principal, to limit interest rate risk. Currency futures are contracts to buy or sell a foreign currency on a specific date in the future at a price set today. Stock-index options are privileges to buy or sell a stock index security to be delivered by the derivative contract.
During the prior year, Manfred Corp. guaranteed a supplier's $500,000 loan from a bank. On October 1 of the current year, Manfred was notified that the supplier had defaulted on the loan and filed for bankruptcy protection. Counsel believes Manfred will probably have to pay between $250,000 and $450,000 under its guarantee. As a result of the supplier's bankruptcy, Manfred entered into a contract in December to retool its machines so that Manfred could accept parts from other suppliers. Retooling costs are estimated to be $300,000. What amount should Manfred report as a liability in its current year December 31 balance sheet? A $250,000 B $450,000 C $550,000 D $750,000
A
Explanation:
To accrue a contingent liability, the likelihood of the loss must be probable and the amount reasonably estimable. It is probable that Manfred will have to pay between $250,000 to $450,000 under its guarantee of the supplier’s loan. Since no indication is given that any amount in the range is a better estimate than the others, the lower limit of the range, $250,000, is accrued as a contingent liability. On the other hand, the contract Manfred entered into to retool its machines involves a commitment but not a liability because no performance has been made by the other party to the contract. Thus, there is no asset or liability to be reported for the contract.
Mellow Co. depreciated a $12,000 asset over five years, using the straight-line method with no salvage value. At the beginning of the fifth year, it was determined that the asset will last another four years. What amount should Mellow report as depreciation expense for Year 5? A $ 600 B $ 900 C $1,500 D $2,400
A-600
Explanation:
A change in the useful life of a depreciable asset is a change in accounting estimate. It is accounted for in the period of change if the change only affects that period, or in the current and subsequent periods if the change affects both. The straight-line depreciation method is a fixed charge method where an equal amount of depreciable cost is allocated to each period. Mellow would have originally been depreciating the asset $2,400 per year over the five years. At the beginning of the fifth year there would be $9,600 ($2,400 × 4) in accumulated depreciation and the asset would have a net book value of $2,400. This $2,400 would now be depreciated over the new remaining life span of four more years. The depreciation expense for year 5, and each of the following three years, would be $2,400 / 4 = $600.
At the inception of a finance lease, the guaranteed residual value should be
A
Included as part of the lessee’s lease payments, if the guaranteed residual payment is probable to be owed
B
Included as part of the lessee’s lease payments, if the guaranteed residual payment is is 5% or more of the total asset value
C
Included as part of the lessee’s lease payments, if the guaranteed residual payment is less-than-probable to be owed
D
Excluded from the lessee’s lease payments.
A
Explanation:
In its lease payment calculation, the lessee would only include the amount that it is probable that the lessee will owe under the residual value guarantee at the end of the lease term.
A foreign subsidiary of a U.S. parent company should measure its assets, liabilities and operations using A The subsidiary’s local currency B The subsidiary’s functional currency C The U.S. dollar D The best available spot rate
B
Explanation:
The assets, liabilities, and operations of a foreign subsidiary of a U.S. parent company should be measured in its functional currency. An entity’s functional currency is the currency of the primary economic environment in which the entity operates; normally, that is the currency of the environment in which an entity primarily generates and expends cash. The functional currency of a foreign subsidiary may be its local currency, the U.S. dollar, or another foreign currency.
A derivative financial instrument is best described as
A
Evidence of an ownership interest in an entity such as shares of common stock.
B
A contract that has its settlement value tied to an underlying notional amount.
C
A contract that conveys to a second entity a right to receive cash from a first entity.
D
A contract that conveys to a second entity a right to future collections on accounts receivable from a first entity.
Explanation:
A derivative instrument is an instrument or other contract that has the following three characteristics: 1) at least one underlying and at least one notational amount or payment provision or both, 2) requires no initial net investment, or one that is smaller than would be required for other types of contracts expected to have a similar response to market factor changes, and 3) requires or permits net settlement, can be readily settled net by a means outside the contract, or provides for delivery of an asset that puts the recipient in a position not substantially different from net settlement.
Which of the following describes the appropriate reporting treatment for a change in accounting estimate?
A
In the period of change with no future consideration
B
By reporting pro forma amounts for prior periods
C
By restating amounts reported in financial statements of prior periods
D
In the period of change and future periods if the change affects both
D- change in estimate, handle prospectively (future)
Explanation:
The changes in the accounting estimate are accounted for prospectively. It is implemented in the current period and continued in future periods with no effect on previously reported retained earnings.
Options (A), (B) and (C) are incorrect as per the above explanation.
Gordon Ltd., a 100% owned British subsidiary of a U.S. parent company, reports its financial statements in local currency, the British pound. A local newspaper published the following U.S. exchange rates to the British pound at year end: Current rate $1.50 Historical rate (acquisition) 1.70 Average rate 1.55 Inventory (FIFO) 1.60Which currency rate should Gordon use to convert its income statement to U.S. dollars at year end? A 1.50 B 1.55 C 1.60 D 1.70
B- average
Explanation:
The foreign currency income statement should conceptually use the exchange rate at the time the revenue or expense was recognized. However, due to the impracticability of this where rates change frequently, a weighted-average exchange rate for the period may be used. The current exchange rate would be used for all assets and liabilities at the balance sheet date. The historical exchange rate is used for contributed capital. There is no inventory (FIFO) exchange rate used in the financial statements.
Steam Co. acquired equipment under a finance lease for six years. Minimum lease payments were $60,000 payable annually at year-end. The interest rate was 5% with an annuity factor for six years of 5.0757. What amount should Steam report as interest expense at the end of the first year of the lease?
A $ 0 B $ 3,000 C $ 15,227 D $ 18,000
C- 15,227
Explanation:
You must first calculate the present value of the lease payments. The present value of the minimum lease payments is the minimum lease payment amount of $60,000 times the annuity factor of 5.0757 equaling $304,542. Because no payment is made until the end of the year, you would take that amount of $304,542 times the interest rate of 5% and get interest expense of $15,227 at the end of the first year of the lease.
Interest Expense 15,227
Lease Liability 44,773
Cash 60,000
While preparing its year 3 financial statements, Dek Corp. discovered computational errors in its year 2 and year 1 depreciation expense. These errors resulted in overstatement of each year's income by $25,000, net of income taxes. The following amounts were reported in the previously issued financial statements: Year 2 Year 1 Retained earnings, 1/1 $700,000 $500,000 Net income 150,000 200,000 Retained earnings, 12/31 $850,000 $700,000Dek's year 3 net income is correctly reported at $180,000. Which of the following amounts should be reported as prior period adjustments and net income in Dek's year 3 and year 2 comparative financial statements? Year Prior period adjustment Net income A 2 3 --- $(50,000) $150,000 180,000 B 2 3 $(50,000) --- $150,000 180,000 C 2 3 $(25,000) --- $125,000 180,000 D 2 3 --- --- $125,000 180,000
C- $(25,000) y2 $125,000 y3 180,000
Explanation:
The understatement of year 1 and year 2 depreciation expense discovered in preparing the year 3 financial statements represents the correction of an error in previously issued financial statements (i.e., a prior period adjustment). Prior period adjustments are reported retroactively by (1) correcting all prior period statements presented and (2) restating the beginning balance of retained earnings for the first period presented when the error effects extend to a period prior to that one. Therefore, since year 3 and year 2 comparative financial statements are presented, the understatement of year 1 depreciation expense should be reported as a prior period adjustment in the year 2 financial statements as a $25,000 decrease to the beginning balance of retained earnings. In addition, year 2 net income should be reported at $125,000 (i.e., $150,000 - $25,000) in order to reflect the correct amount of year 2 depreciation expense. Since the understatement of depreciation expense pertains to year 1 and year 2 and is reported retroactively, the reported amount of year 3 net income of $180,000 is not affected by the errors.
Which of the following is true where a foreign operation is relatively self-contained, integrated within one country and performs independently of the parent company?
A
The entity’s functional currency will be in U.S. dollars.
B
The entity’s functional currency will be in the parent company’s currency.
C
Translation of financial statements from the functional currency into the parent’s reporting currency will be required.
D
None of the above is true.
C- translation required
Explanation:
Where the foreign operation is relatively self-contained and integrated within one country, the functional currency will be the local currency; and translation of financial statements from the functional currency into the parent’s reporting currency will be required.
A company began developing computer software to be sold as a separate product on January 1, year 1. During the planning, coding, and testing phases, the company incurred $1,300,000 of costs. On June 30, year 1, the product was determined to be technologically feasible. The company began producing product masters of the software and incurred an additional $750,000 of costs from July 1, year 1, through September 30, year 1. After the software was available for release on October 1, year 1, the company incurred an additional $275,000 of costs relating to maintenance and customer support. What amount of softwarerelated costs should be capitalized? A $275,000 B $750,000 C $1,300,000 D $2,050,000
B- 750k capitalize
Explanation:
Costs incurred internally in creating a computer software product are charged to expense when incurred as research and development until technological feasibility has been established for the product. Technological feasibility is established only upon completion of a detailed program design or, in its absence, completion of a working model. The $750,000 of costs for producing product masters incurred subsequent to establishing technological feasibility and thus are capitalized. The $1,300,000 of costs incurred during the planning, designing, coding, and testing activities necessary to establish technological feasibility are expensed as research and development when incurred. Capitalization of computer software costs cease when the product is available for general release to customers. Costs of maintenance and customer support shall be charged to expense when related revenue is recognized or when those costs are incurred, whichever occurs first.
Milt Co. began operations on January 1, year 1. On January 1, year 3, Milt changed its inventory method from LIFO to FIFO for both financial and income tax reporting. If FIFO had been used in prior years, Milt’s inventories would have been higher by $60,000 and $40,000 at December 31, year 3 and year 2, respectively. Milt has a 30% income tax rate. What amount should Milt report as the cumulative effect of this accounting change in its income statement for the year ended December 31, year 3?
A $0 B $14,000 C $28,000 D $42,000
A- $0 because its not reported in the I/S
Explanation:
A change from LIFO to another inventory method is a change in accounting principle that should be reported by retrospectively applying the new method to prior periods and adjusting the beginning balance of retained earnings. The cumulative effect of the accounting change is not reported in the income statement.
In a direct financing lease, the net investment in the lease is the gross investment in the lease plus which of the following?
A
Any unearned income
B
Any unamortized initial direct costs and unearned income
C
Any unamortized initial direct costs less the unearned income
D
Unearned income less any unamortized initial direct costs
C
Explanation:
The net investment in the lease is the gross investment in the lease plus any unamortized initial direct costs less the unearned income.
Under IFRS, changes in accounting policies are
A
Permitted if the change will result in a more reliable and more relevant presentation of the financial statements.
B
Permitted if the entity encounters new transactions, events, or conditions that are substantively different from existing or previous transactions.
C
Required on material transactions, if the entity previously accounted for similar, though immaterial, transactions under an unacceptable accounting method.
D
Required if an alternate accounting policy gives rise to a material change in assets, liabilities, or the current-year net income.
A- presentation and reliabilty
Explanation:
A change in accounting principle results from the adoption of a generally accepted accounting principle (GAAP) different from the previous GAAP used for reporting purposes. US GAAP and IFRS are similar in that the most common reason for an entity to change an accounting principle is that the change is required by a new or revised accounting standard. Under IFRS, the only other acceptable reason for a change is that a different policy results in financial statements that provide reliable and more relevant information about the effects of transactions and other events or conditions on the entity’s financial position, financial performance, or cash flows.
During the year, Pitt Corp. incurred costs to develop and produce a routine, low-risk computer software product, as follows:
Completion of detail program design $13,000
Costs incurred for coding and testing to establish technological feasibility 10,000
Other coding costs after the establishment of technological feasibility 24,000
Other testing costs after the establishment of technological feasibility 20,000
Costs of producing product masters for training materials 15,000
Duplication of computer software and training materials from product masters (1,000 units) 25,000
Packaging product (500 units) 9,000
In Pitt’s December 31 balance sheet, what amount should be reported in inventory?
A $25,000 B $34,000 C $40,000 D $49,000
Explanation:
The correct answer is (B).
Computer software developed to sale, lease or market as a product:
RD costs are expensed. These are costs incurred prior to technological feasibility (technological feasibility is established upon completion of a detailed program or design or completion of a working model). The completion of detail program design for $13,000 and costs incurred for coding and testing to establish technological feasibility of $10,000 are expensed.
Costs associated with converting a technologically-feasible program into a final commercial form is capitalized. $24,000 in coding costs after the establishment of technological feasibility, $20,000 in testing costs after the establishment of technological materials, and costs of producing product masters for training materials of $15,000 are all capitalized.
Costs incurred after software sales begin are inventoried - this will include duplication of computer software and training materials from product masters for $25,000 and packaging product for $9,000.
The year-end balance sheet would report inventory of $34,000 (i.e. $25,000 + $9,000).
Rig Co. sold its factory at a gain, and simultaneously leased it back for 10 years. The factory’s remaining economic life is 20 years. The lease was reported as an operating lease. At the time of sale, Rig should report the gain as:
A In the income statement B An asset valuation allowance. C A separate component of stockholders' equity. D A deferred credit.
Explanation:
The correct answer is (A).
FASB issued ASC 842 to amend accounting & reporting for leases under which for a sale to occur in the context of a sale and leaseback transaction, the transfer of the asset must meet the requirements for a sale per the Revenue Recognition standards. If there is no sale for the seller-lessee, the buyer-lessor also does not account for a purchase.
Any consideration paid for the asset is accounted for as a financing transaction by both the seller-lessee and the buyer-lessor. If the leaseback is a finance lease from seller-lessee’s perspective, transfer of the asset is not a Sale.
However, here the leaseback is an operating lease.
The transaction is recognized as a sale and the entire gain is recognized immediately on the income statement.
In its financial statements, Pulham Corp. uses the equity method of accounting for its 30% ownership of Angles Corp. At December 31 of the current year, Pulham has a receivable from Angles. How should the receivable be reported in Pulham’s year-end financial statements?
A
None of the receivable should be reported, but the entire receivable should be offset against Angles’ payable to Pulham.
B
Seventy percent of the receivable should be separately reported, with the balance offset against 30% of Angles’ payable to Pulham.
C
The total receivable should be disclosed separately.
D
The total receivable should be included as part of the investment in Angles, without separate disclosure.
C
Explanation:
The 30% level of ownership is not sufficient to meet the consolidation requirement of a controlling interest (i.e., > 50%). Therefore, there is no reason to treat the separate entities as one. The total receivable should be reported in the same manner as any receivables from unrelated entities.
Bale Co. incurred $100,000 of acquisition costs related to the purchase of the net assets of Dixon Co. The $100,000 should be
A
Allocated on a pro rata basis to the nonmonetary assets acquired.
B
Capitalized as part of goodwill and tested annually for impairment.
C
Capitalized as another asset and amortized over five years
D
Expensed as incurred in the current period.
D- Acquision costs are expensed
Explanation:
Acquisition costs are those costs the acquirer incurs to effect a business combination, and include: finders’ fees; advisory, legal, accounting, valuation, and other professional or consulting fees; general administrative costs; and costs of registering and issuing debt and equity securities. Acquisition costs are expensed in the period in which the costs are incurred and the services are received.
Option (A), (B) and (C) are incorrect as per above explanatio
Ahm Corp. owns 90% of Bee Corp's common stock and 80% of Cee Corp.'s common stock. The remaining common shares of Bee and Cee are owned by their respective employees. Bee sells exclusively to Cee, Cee buys exclusively from Bee, and Cee sells exclusively to unrelated companies. Selected information for Bee and Cee follows: Bee Corp. Cee Corp. Sales $130,000 $91,000 Cost of sales $100,000 $65,000 Beginning inventory None None Ending inventory None 65,000What amount should be reported as gross profit in Bee and Cee's combined income statement for the current year ended December 31? A $26,000 B $41,000 C $47,800 D $56,000
B- 41k
Explanation:
The gross profit to be reported in the combined income statement should be based on the final sale to the outside customer and the original cost to the initial affiliate. Because Bee sells exclusively to Cee, from a combined perspective, the only sales that have occurred are the sales of Cee to unrelated companies, which total $91,000. Of the $130,000 in intercompany’sales’ from Bee to Cee, half (or $65,000) remained in Cee’s ending inventory and the other half (or $65,000) were sold. However, from a combined perspective, the combined cost of the ending inventory and the cost of sales is only $100,000, not $130,000. The additional $30,000 represents intercompany profits, which are eliminated in combined statements. The $100,000, in the combined statements, is allocated half to cost of sales and half to ending inventory; based on the ratio of ending inventory and cost of sales of Cee.
Gross sales $91,000
Cost of sales (50,000)
Gross profit $ 41,000
On December 31, year 1, Andover Co. acquired Barrelman, Inc. Before the acquisition, a product lawsuit seeking $10 million in damages was filed against Barrelman. As of the acquisition date, Andover believed that it was probable that a liability existed and that the fair value of the liability was $5 million. What amount should Andover record as a liability as of December 31, year 1?
A $0 B $5,000,000 C $7,500,000 D $10,000,000
Explanation:
The correct answer is (B).
A $10,000,000 product liability lawsuit was filed against Barrelman. As of the acquisition date by Andover Co., it was probable that a liability existed and that its fair value was $5,000,000. Andover believed that the loss from the product lawsuit was probable and estimated the loss to be $5 million, Andover Co. will accrue a liability of $5 million in its financial statements in year 1 as well as disclose the liability in the notes to the financial statements
Probability of loss Disclose in notes to Financial Statements Accrue Remote No No Reasonably possible Yes No Probable and estimable Yes Yes Probable but not estimable Yes No
Neal Corp. entered into a nine-year Finance lease on a warehouse on December 31, year 1. Lease payments of $50,000, which are due annually, beginning on December 31, year 2, and every December 31 thereafter. Neal does not know the interest rate implicit in the lease; Neal’s incremental borrowing rate is 9%. The rounded present value of an ordinary annuity for nine years at 9% is 5.6. What amount should Neal report as Finance lease liability at December 31, year 1?
A $280,000 B $291,200 C $450,000 D $468,000
A- 280k (50k*5.6)
Explanation:
At a Finance Lease inception, the lessee records an ROU Asset and corresponding lease liability at the present value of the lease payments not yet paid.
The lessee’s incremental borrowing rate of 9% is used because the lessee does not know the rate implicit in the lease.
The annual Lease Payments is $50,000. Neal’s first Lease Payment is not due until 12/31, year 2.
Thus, in its 12/31, year 1 balance sheet, Neal should report a Finance Lease liability of $280,000 (i.e., $50,000 × 5.6).
As an inducement to enter a lease, Graf Co., a lessor, granted Zep, Inc., a lessee, twelve months of free rent under a five-year operating lease. The lease was effective on January 1, year 1, and provides for monthly rental payments to begin January 1, year 2. Zep made the first rental payment on December 30, year 1. In its year 1 income statement, Graf should report rental revenue in an amount equal to
A Zero. B Cash received during year 1. C One-fourth of the total cash to be received over the life of the lease. D One-fifth of the total cash to be received over the life of the lease.
Explanation:
The correct answer is (D).
It 1/5 of the total rent because they are asking for revenue not the actual rent payment, so everything excluded discounts or free rent
Total rent income receivable for the entire lease term is divided evenly over each period in line with matching principle regardless of the pattern of payments. Whether payments increase or decrease during the term of the lease, or whether the lease contains periods that may be rent-free, or involves nonrefundable deposits, the total of the payments received is recognized evenly over the term of the lease.
Over the 5-year term of the lease, Graf Co. will receive monthly rent equal to one-fifth of the total cash to be received over the life of the lease.
Which of the following risks are inherent in an interest rate swap agreement?
The risk of exchanging a lower interest rate for a higher interest rate The risk of nonperformance by the counterparty to the agreement A I only. B II only. C Both I and II. D Neither I nor II.
C- Both
Explanation:
An interest rate swap agreement is an arrangement used to limit interest rate risk. Two companies swap interest payments, but not the principal, in an agreement such as an exchange of a variable interest rate for a fixed rate. The risk of accounting loss from an interest rate swap includes both (1) the risk of exchanging a lower interest rate for a higher rate and (2) the risk of nonperformance by the other party.
Spring Corp. entered into a five-year lease agreement with Fall Corp. Spring, the lessee, paid an additional $5,000 nonrefundable lease bonus to Fall upon signing the operating lease agreement. When would Fall recognize in income the nonrefundable lease bonus paid by Spring?
A When received B Over the life of the lease C At the expiration of the lease D At the inception of the lease
Explanation:
The correct answer is (B).
The lease bonus is treated as deferred (prepaid) rent and amortized using the Straight-Line Method (SLM) over the lease term.
Option (A), (C) and (D) are incorrect as per the above explanation.
Sanni Co. had $150,000 in cash-basis pretax income for the year. At the current year end, accounts receivable decreased by $20,000 and accounts payable increased by $16,000 from their previous year-end balances. Compared to the accrual-basis method of accounting, Sanni's cash-basis pretax income is A Higher by $4,000 B Lower by $4,000 C Higher by $36,000 D Lower by $36,000
D- Lower by 36k
Explanation:
Compared to the accrual basis of accounting, Sanni’s cash-basis pretax income is higher by $36,000. Accounts receivable decreasing by $20,000 would require a reduction of $20,000 to derive the accrual basis. Accounts payable increasing by $16,000 would require a reduction of $16,000 to derive the accrual basis.
Campbell Corp. exchanged delivery trucks with Highway, Inc. Campbell's truck originally cost $23,000, its accumulated depreciation was $20,000, and its fair value was $5,000. Highway's truck originally cost $23,500, its accumulated depreciation was $19,900, and its fair value was $5,700. Campbell also paid Highway $700 in cash as part of the transaction. The transaction lacks commercial substance. What amount is the new book value for the truck Campbell received? A $5,700 B $5,000 C $3,700 D $3,000
C- 3700 new book value is based on the CV
Explanation:
In general, accounting for nonmonetary transactions should be based on the fair values (FV) of the assets involved. Nonmonetary exchanges should be based on recorded amounts, rather than FV, of the exchanged assets if any of the following apply: 1) neither the FV of the assets received nor FV of the assets surrendered is reasonably determinable, or 2) the transaction is an exchange of a product or property held for sale in the ordinary course of business for a product or property to be sold in the same line of business to facilitate sales to customers, or 3) the exchange lacks commercial substance. Since the above transaction lacks commercial substance, the new book value for the truck Campbell received ($3,700) is determined as follows:
New Truck (plug) 3,700
Accm Depr Old Truck 20,000
Old Truck (cost) 23,000
Cash 700
Peg Co. leased equipment from Howe Corp. on July 1 of the current year for an 8-year period. Equal payments under the lease are $600,000 and are due on July 1 of each year. The first payment was made on July 1 of the current year. The rate of interest contemplated by Peg and Howe is 10%. The cash selling price of the equipment is $3,520,000, and the cost of the equipment on Howe’s accounting records is $2,800,000. The lease is appropriately recorded as a sales-type lease. What is the amount of profit on the sale and interest revenue that Howe should record for the current year ended December 31?
Profit on sale Interest revenue A $720,000 $176,000 B $720,000 $146,000 C $45,000 $176,000 D $45,000 $146,000
B- 720k & 146k remember for the interest rev its semi, so divide the int rate
Explanation:
At the commencement date, a lessor shall recognize each of the following and derecognize the underlying asset.
A net investment in the lease.
Selling profit or selling loss arising from the lease:
Initial direct costs as an expense if, at the commencement date, the fair value of the underlying asset is different from it carrying amount. If the fair value of the underlying asset equals it carrying amount, initial direct costs are deferred at the commencement date and included in the measurement of the net investment in the lease.
Net Investment in Lease 3,520,000
Carrying Value of the underlying Asset 2,800,000
Selling Profit 720,000
The interest revenue is determined by applying the interest rate implicit in the lease to the lessor’s net receivable. The excess of the fair value of leased property at the lease inception over its cost or carrying amount is dealer’s profit from a sales-type lease and recognized fully at lease inception.
Sales price of equipment $ 3,520,000 Equipment cost (2,800,000) Profit on sale $ 720,000 Net Investment in Lease before receipt, 7/1 $ 3,520,000 Less receipt, 7/1 (600,000) Net Investment in Lease after receipt, 7/1 2,920,000 Interest (10% / 2) × 5% Interest revenue $ 146,000 Cash 600,000 Interest Income 146,000 Net Investment in Lease 454,000
In which of the following situations should a company report a prior-period adjustment?
A
A change in the estimated useful lives of fixed assets purchased in prior years
B
The correction of a mathematical error in the calculation of prior years’ depreciation
C
A switch from the straight-line to double-declining balance method of depreciation
D
The scrapping of an asset prior to the end of its expected useful life
Explanation:
Accounting errors are recorded as prior period adjustments. The correction of a mathematical error in the calculation of prior years’ depreciation would require the company to report a prior period adjustment. If comparative Financial Statements are presented and Financial Statement for the year with error are presented, the error is corrected in those Financial Statements.
Options (A), (C) and (D) are incorrect because these are changes in accounting estimates. These will be accounted for prospectively and Financial Statements for prior periods will not be adjusted.
On January 1, year 1, Eber Co. leased equipment under a four-year finance lease. The present value of minimum lease payments is $348,680. The equipment had a five-year economic life and a $20,000 guaranteed residual value. The equipment reverted to the lessor at the end of the lease. What amount should Eber report as depreciation expense at December 31, year 1?
A $87,170 B $82,170 C $69,736 D $65,736
Explanation:
The correct answer is (A). 348,680 / 4 = $87,170.
At commencement, the initial measurement of the ROU asset (regardless of lease classification) is calculated as the lease liability (present value of minimum lease payments, increased by any initial direct costs and prepaid lease payments, reduced by any lease incentives received before commencement.
The present value of minimum lease payments is $348,680.
Depreciation expense on December 31st, year 1 will be $348,680 / 4 = $87,170.
There is no title transfer or bargain purchase option in this financial lease.
The asset will be depreciated over the shorter of either the lease term or useful life, which in this case is the 4-year lease term compared to the 5-year useful life.
A company incurred the following costs to complete a business combination in the current year:
Issuing debt securities $30,000 Registering debt securities 25,000 Legal fees 10,000 Due diligence costs 1,000 What amount should be reported as current-year expenses, not subject to amortization?
A $1,000 B $11,000 C $36,000 D $66,000
Explanation:
The correct answer is (B).
Acquisition-related costs are costs the acquirer incurs to effect a business combination.
Those costs include finder’s fees; advisory, legal, accounting, valuation, and other professional or consulting fees; general administrative costs; and costs of registering and issuing debt and equity securities.
The acquirer should account for acquisition-related costs as expenses in the periods in which the costs are incurred and the services are received, with one exception—the costs to register and issue debt or equity securities shall be recognized in accordance with other applicable GAAP.
Legal fees and due diligence Costs ($11,000 = $10,000 + $1,000) are expensed. Direct, indirect or general costs are all expenses e.g., legal, accounting, consulting, finder’s fees, G&A.
Costs associated with the issuance and registration of debt or equity securities, are treated as Bond Issue Costs and netted against the proceeds.
Which of the following is a criterion for classifying a lease as a Finance lease by a lessee?
A
The term lease covers the rest of the economic life of the underlying asset.
B
The lease transfers ownership of the underlying asset to the lessor by the end of the lease term.
C
The lease grants the lessee an option to purchase the underlying asset that the lessee is not expected to exercise.
D
The underlying asset is of such a generalized nature that it is expected to have no alternative use to the lessor at the end of the lease term.
Explanation:
The correct answer is (A).
A Finance Lease must meet one of the following criteria:
Present Value equals or exceeds substantially all (90%) of the Fair Value
Option to Purchase (exercise is reasonably certain)
Economic Life - Major part (75%) of asset’s economic life is used
Transfer of Ownership at lease termination
Specialized Nature - No alternative use to the lessor at lease termination
Note: the implementation guidance for ASC 842 uses the 75/90 thresholds, even though the standard is principles-based.
(B) is incorrect. The lease would transfer ownership to the lessee, not the lessor.
(C) is incorrect. The lessee would reasonably certain to exercise the purchase option.
(D) is incorrect. The asset is of a specialized nature, not generalized.
A company leases trucks and properly classifies the leases as finance leases. The leases have a 10-year term, and the lease calculations were done three years ago when interest rates were lower. Which of the following is the appropriate accounting treatment, if any, for the application of the fair value option to lease transactions?
A
Leases are not eligible for the fair value option
B
Recognize the change to fair value accounting with accumulative adjustment to beginning retained earnings
C
Recognize the change to fair value accounting with an unrealized loss in the income statement
D
Recognize the change to fair value accounting with an unrealized loss in accumulated other comprehensive income
Explanation:
The correct answer is (A).
Generally, the fair value option does not apply to financial assets and liabilities under leases. Therefore, the finance leases in the question are not eligible for the fair value option.
Bell Co. is a defendant in a lawsuit that could result in a large payment to the plaintiff. Bell's attorney believes that there is a 90% chance that Bell will lose the suit, and estimates that the loss will be anywhere from $5,000,000 to $20,000,000 and possibly as much as $30,000,000. None of the estimates are better than the others. What amount of liability should Bell report on its balance sheet related to the lawsuit? A $0 B $5,000,000 C $20,000,000 D $30,000,000
Explanation:
B is corrent.- 5M
The requirement is to determine the amount of liability that Bell should report on its balance sheet related to the lawsuit. In this case, ASC Topic 450 requires accrual of the lower limit of the estimate of probable loss, and disclosure of the possible amounts. Therefore, this answer is correct; Bell should accrue $5,000,000.
Yola Co. and Zaro Co. are fuel oil distributors. To facilitate the delivery of oil to their customers, Yola and Zaro exchanged ownership of 1,200 barrels of oil without physically moving the oil. Yola paid Zaro $30,000 to compensate for a difference in the grade of oil. On the date of the exchange, cost and market values of the oil were as follows: Yola Co. Zaro Co. Cost $100,000 $126,000 Market values $120,000 $150,000In Zaro's income statement, what amount of gain should be reported from the exchange of the oil? A $0 B $4,800 C $24,000 D $30,000
B- 4800
remember to recognize the cash gain which is 20%
Explanation:
The transaction is an exchange of a product held for sale in the ordinary course of business for a product to be sold in the same line of business to facilitate sales to customers other than parties to the exchange and does not result in the culmination of an earnings process. The nonmonetary exchange shall be measured based on the recorded amount of the nonmonetary assets relinquished. Only to the extent cash (boot) has been received has a portion of the asset exchanged been sold and a gain can be recognized. The fair value of the asset acquired is reduced by the portion of the gain realized which is not recognized. The gain recognized on the exchange is determined by the ratio of the cash to the total consideration received (asset received and cash).
Cash received $ 30,000
Fair value of inventory received 120,000
Total fair value received 150,000
Carrying amount of inventory exchanged (126,000)
Gain realized on exchange 24,000
Cash $ 30,000
Total fair value received / 150,000
Extent earnings process culminated x 20%
Gain recognized on exchange $ 4,800
Which of the following examples would require restatement of prior years’ financial statements?
A
A calculation change of warranty obligations based on updated claim information for the prior year.
B
A change from the income tax basis of accounting to the accrual basis.
C
An insurance premium that was due in the prior year but that lapsed because the policy was not paid.
D
An intangible asset with a remaining estimated amortization period of two years, which is determined to be obsolete.
Explanation:
The correct answer is (B).
A change from the income tax basis of accounting to the accrual basis will require a prior-period adjustment (restatement) of prior years’ financial statements. The other answers would not lead to a restatement but handled in another way. For example, obsolete inventory leads to a write-down and a change in accounting estimate, which is handled prospectively.
(A), (C) and (D) are incorrect because they are changes in the accounting estimates, which are accounted for prospectively and do not affect previously reported retained earnings.
Althouse Co. discovered that equipment purchased on January 2 for $150,000 was incorrectly expensed at the time. The equipment should have been depreciated over five years with no salvage value. What amount, if any, should be adjusted to Althouse’s depreciation expense at January 2, the beginning of the third year, when the error was discovered?
A $0 B $30,000 C $60,000 D $150,000
A- 0
Explanation:
The company should reverse the impact of expensing the equipment purchased and account for the depreciation of that equipment for 2 years. This correction will be recognized by adjusting the beginning retained earnings in the beginning of third year. There will be no depreciation expense reported in the beginning of the third year.
Options (B), (C) and (D) are incorrect as per the above explanation.
Crane Mfg. leases a machine from Frank Leasing. Ownership of the machine returns to Frank after the 15-year lease expires. The machine is expected to have an economic life of 17 years. At this time, Frank is unable to predict the collectability of the lease payments to be received from Crane. The present value of the minimum lease payments exceeds 90% of the fair value of the machine. What is the appropriate classification of this lease for Crane?
A Operating B Leveraged C Finance D Installment
Explanation:
The correct answer is (C).
A Finance Lease must meet one of the following criteria:
Present Value equals or exceeds substantially all (90%) of the Fair Value
Option to Purchase (exercise is reasonably certain)
Economic Life - Major part (75%) of asset’s economic life is used
Transfer of Ownership at lease termination
Specialized Nature - No alternative use to the lessor at lease termination
Note: the implementation guidance for ASC 842 uses the 75/90 thresholds, even though the standard is principles-based.
If none of the above criteria is met, the lease is an operating lease for the lessee
The lease qualifies as a finance lease since the lease term is for the majority of the useful life of the property and also since the PV of the sum of the lease payments equals or exceeds substantially all of the FV of the underlying asset.
Option (A), (B) and (D) are incorrect as per above explanation.
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?
A Never amortized B Amortized over 60 months C Amortized over 40 years D Expensed immediately
Explanation:
The correct answer is (D).
Generally accepted accounting principles that apply to established operating enterprises govern the recognition of revenue by a development stage enterprise and determine whether a cost incurred by a development stage enterprise is to be charged to expense when incurred or is to be capitalized or deferred.
Accordingly, capitalization or deferral of costs shall be subject to the same assessment of recoverability that would be applicable in an established operating enterprise.
Organization costs are written off over 60 months for tax purposes, but for financial accounting purposes. Start-up activities, including organization costs, should be expensed as incurred.
Compared to the accrual basis of accounting, the cash basis of accounting understates income by the net decrease during the accounting period of
Accounts receivable Accrued expenses A Yes Yes B Yes No C No No D No Yes
D- No, Yes
Explanation:
Let’s say:
Net Income = 100,000. Decrease in AR = 50,000 and Decrease in Accrued Expense = 40,000.
To convert Accural to Cash, a Decrease in AR would be an added to net income and a decrease in accrued expense would be subtracted to net income.
Accounts Receivable
100,000 NI + 50000 = 150,000 cash basis
Accrued Expense
100,000 NI - 40,000 = 60,000 cash basis
So to answer the question, cash basis of 60k is understated compared to accrual basis for accrued expense. For Account receivable, cash basis of 150k is overstated.
Under IFRS, each of the following is a disclosure requirement related to the correction of a material prior-period error, except
A
A description of the internal controls put in place to prevent the occurrence of the error in future periods.
B
The impact of the correction on basic and diluted earnings per share for each period presented.
C
The nature of the error.
D
The amount of the correction at the beginning of the earliest period presented.
Explanation:
The correct answer is (A).
Under International Financial Reporting Standards (IFRS), the disclosure requirement related to the correction of material prior period error includes describing the nature of the error. The cumulative effect adjustment is made to the beginning retained earnings in the Balance Sheet. The impact of correction on earnings per share for each period is also disclosed. There is no such requirement of describing the internal controls to prevent occurrence of the errors in future periods.
Options (B), (C) and (D) are incorrect as per the above explanation
Zest Co. owns 100% of Cinn, Inc. On January 2, Zest sold equipment with an original cost of $80,000 and a carrying amount of $48,000 to Cinn for $72,000. Zest had been depreciating the equipment over a five-year period using straight-line depreciation with no residual value. Cinn is using straight-line depreciation over three years with no residual value. In Zest’s December 31, consolidating worksheet, by what amount should depreciation expense be decreased?
A $ 0 B $ 8,000 C $16,000 D $24,000
Explanation:
Sales of fixed assets between members of an affiliated group will result in the recognition of gain or loss by the seller, if the selling price differs from the carrying amount of the asset. However, no gain or loss has taken place for the consolidated entity; assets merely have been transferred from one set of books to another. The buyer of the asset will record it in its books at the purchase price; subsequent depreciation charges will be based upon this purchase price, thus requiring adjustment if the price is different from the book value. The equipment was being depreciated by the seller at a rate of $16,000 per year ($80,000 original cost / 5 years) and had been depreciated $32,000 ($80,000 original cost – $48,000 book value with no residual value) before being sold. The buyer will record depreciation expense of $24,000 ($72,000 cost / 3 years). With intercompany sales of fixed assets, in the year of the sale the carrying amount of the asset is restored to its original book value and the gain (loss) recorded by the seller is eliminated. For each period depreciation expense and accumulated depreciation are adjusted to reflect the original book value of the asset. The consolidating worksheet in this problem should decrease depreciation expense $8,000, the difference between the $24,000 recorded by the buyer based on the purchase price and the $16,000 determined based on the initial carrying amount.
On January 1 of the current year, Mollat Co. signed a 7-year lease for equipment having a 10-year economic life. The present value of the monthly lease payments equaled 80% of the equipment’s fair value. The lease agreement provides for neither a transfer of title to Mollat nor a bargain purchase option. In its current year income statement, Mollat should report
A
Rent expense equal to the current year lease payments.
B
Rent expense equal to the current year lease payments less interest expense.
C
Lease amortization equal to one-tenth of the equipment’s fair value.
D
Lease amortization equal to one-seventh of 80% of the equipment’s fair value.
Explanation:
The correct answer is (A)
A Finance Lease must meet one of the following criteria:
Present Value equals or exceeds substantially all (90%) of the Fair Value
Option to Purchase (exercise is reasonably certain)
Economic Life - Major part (75%) of asset’s economic life is used
Transfer of Ownership at lease termination
Specialized Nature - No alternative use to the lessor at lease termination
Note: the implementation guidance for ASC 842 uses the 75/90 thresholds, even though the standard is principles-based.
None of the above criteria are met, so the lease is an operating lease and each lease payment is treated as rent expense.
Brite Corp. had the following liabilities at December 31 of the current year:
Accounts payable $ 55,000
Unsecured notes, 8%, due 07/01 next year 400,000
Accrued expenses 35,000
Contingent liability 450,000
Deferred income tax liability 25,000
Senior bonds, 7%, due 03/31 next year 1,000,000
The contingent liability is an accrual for possible losses on a $1,000,000 lawsuit filed against Brite. Brite’s legal counsel expects the suit to be settled in 2 years, and has estimated that Brite will be liable for damages in the range of $450,000 to $750,000.
The deferred income tax liability is not related to an asset for financial reporting and is expected to reverse in 2 years.
What amount should Brite report in its current year December 31 balance sheet for current liabilities?
A $515,000 B $940,000 C $1,490,000 D $1,515,000
Explanation:
The accounts payable and accrued expenses are current. Since the senior bonds are due within one year, they should be reported in the balance sheet as a current liability. Since the contingent liability is possible, not probable, it should not be accrued as a liability but should be disclosed in a footnote. The deferred income tax liability is not related to an asset for financial reporting and is expected to reverse more than one year after the balance sheet date, so it should be reported as a noncurrent liability
Accounts payable $ 55,000 Unsecured notes, due July 1 400,000 Accrued expenses 35,000 Senior bonds, due March 31 1,000,000 Current liabilities $1,490,000
On December 31, Year 1, Bit Co. had capitalized costs for a new computer software product with an economic life of five years. Sales for year 2 were 30 percent of expected total sales of the software. At December 31, Year 2, the software had a net realizable value equal to 90 percent of the capitalized cost. What percentage of the original capitalized cost should be reported as the net amount on Bit's December 31, Year 2, balance sheet? A 70% B 72% C 80% D 90%
Explanation:
The annual amortization of the capitalized software cost is the greater of: (1) the ratio of current revenues to current and future revenues (e.g., 30%) or (2) the straight-line method over the remaining useful life of the software including the period to be reported upon (e.g., 1 / 5 = 20%). Because the software has a net realizable value of 90% of the capitalized cost, it can be reported on the balance sheet at 70% (i.e., 1 - 30%) of its capitalized cost.
Which of the following should be reported in accumulated other comprehensive income?
A
Discount on convertible bonds that are common stock equivalents
B
Premium on convertible bonds that are common stock equivalents
C
Cumulative foreign exchange translation loss
D
Organization costs
Explanation:
If an entity’s functional currency is a foreign currency, which has not experienced significant inflation, translation adjustments result from the process of translating that entity’s financial statements into the reporting currency. Translation adjustment should not be included in determining net income but should be reported in OCI. A cumulative foreign exchange translation loss would be reported in accumulated OCI as a stockholders’ equity contra account.
Slate Co. and Talse Co. exchanged similar plots of land with fair values in excess of carrying amounts. In addition, Slate received cash from Talse to compensate for the difference in land values. As a result of this exchange with commercial substance, Slate should recognize
A
A gain equal to the difference between the fair value and the carrying amount of the land given up.
B
A gain in an amount determined by the ratio of cash received to total consideration.
C
A loss in an amount determined by the ratio of cash received to total consideration.
D
Neither a gain nor a loss.
Explanation:
In general, accounting for nonmonetary transactions should be based on the fair values of the assets involved. The acquisition is recorded at the fair value of the asset surrenedred of the FV of the asset received, whichever is more clearly determinable, and gains or losses should be recognized. The amount would be the difference between the fair value received and the carrying value of the consideration given up.
During the year, Pitt Corp. incurred costs to develop and produce a routine, low-risk computer software product, as follows:
Completion of detail program design $13,000
Costs incurred for coding and testing to establish technological feasibility 10,000
Other coding costs after establishment of technological feasibility 24,000
Other testing costs after establishment of technological feasibility 20,000
Costs of producing product masters for training materials 15,000
Duplication of computer software and training materials from product masters (1,000 units) 25,000
Packaging product (500 units) 9,000In Pitt’s December 31, balance sheet, what amount should be capitalized as software cost, subject to amortization?
A
$54,000
B
$57,000
C
$59,000
D
$69,000
Explanation:
Costs of producing product masters incurred subsequent to establishing technological feasibility should be capitalized. These costs include coding and testing performed subsequent to establishing technological feasibility. Thus, the costs of producing product masters for training materials, the coding costs, and testing costs incurred after establishment of technological feasibility should be capitalized ($15,000 + $24,000 + $20,000 = $59,000).
The primary criteria for determining a fair value hedge includes the fact that the hedged item does which of the following?
A
The hedged item is specifically identified as either all or a specific portion of a recognized asset or liability or of an unrecognized firm commitment.
B
All answer choices are correct.
C
The hedged item is a single asset or liability (or a specific portion thereof) or is a portfolio of similar assets or a portfolio of similar liabilities.
D
The hedged item presents an exposure to changes in fair value attributable to the hedged risk that could affect reported earnings.
Explanation:
The correct answer is (B).
An asset or a liability is eligible for designation as a hedged item in a fair value hedge if all of the following additional criteria are met:
The hedged item is specifically identified as either all or a specific portion of a recognized asset or liability or of an unrecognized firm commitment.
The hedged item is a single asset or liability (or a specific portion thereof) or is a portfolio of similar assets or a portfolio of similar liabilities.
The hedged item presents an exposure to changes in fair value attributable to the hedged risk that could affect reported earnings.
For determining a fair value hedge includes the fact that the hedged item does all of the above.
On January 1 of the current year, Wren Co. leased a building to Brill under an operating lease for ten years at $50,000 per year, payable the first day of each lease year. Wren paid $15,000 to a real estate broker as a finder’s fee. The building is depreciated $12,000 per year. For the year, Wren incurred insurance and property tax expense totaling $9,000. Wren’s net rental income for the year should be
A $27,500 B $29,000 C $35,000 D $36,500
Explanation:
The correct answer is (A).
Annual rental payment $50,000
Less: Depreciation $12,000
Executory costs (insurance and property taxes) 9,000
Amortization of initial direct costs ($15,000 / 10 years) 1,500 (22,500)
Net rental income $27,500
Option (B) is incorrect because $1,500 amortized finders’ fee is not deducted.
Option (C) is incorrect because the entire finders’ fee is wrongly deducted and no deduction is made to depreciation and executory costs.
Option (D) is incorrect because executory costs are not deducted.
Thyme, Inc. owns 16,000 of Sage Co.’s 20,000 outstanding common shares. The carrying value of Sage Co’s equity is $500,000. Sage subsequently issues an additional 5,000 previously unissued shares for $200,000 to an outside party that is unrelated to either Thyme or Sage. What is the total non-controlling interest after the additional shares are issued?
A $140,000 B $172,000 C $252,000 D $300,000
Explanation:
The correct answer is (C).
Non-controlling Interest = 9,000 / 25,000 = 36%
Total equity of Sage = $700,000 (500,000 + 200,000).
Value of Non-Controlling Interest = Non-Controlling Interest x Total equity of Sage = $700,000 x 36% = $252,000.
Note: Non-controlling interest is the portion of the subsidiary’s equity held by minority shareholders who do not have control over the company. Thyme owns 16,000 of the 20,000 outstanding shares. The remaining 4,000 shareholders form the minority. Out of the new issue, all the 5,000 shares are issued to an outside party unrelated to Thyme or Sage. They also form the minority. In Sage Co. total 9,000 shareholders (i.e. 4,000 shareholders of previously outstanding shares plus the 5,000 new shareholders) constitute the non-controlling interest in the company.
Gains from remeasuring a foreign subsidiary's financial statements from the local currency, which is not the functional currency, into the parent company's currency should be reported as a(an) A Deferred foreign exchange gain. B Item of other comprehensive income. C Extraordinary item, net of income taxes. D Part of continuing operations.
Explanation:
If an entity does not maintain its books in its functional currency, remeasuring into the functional currency is required prior to translation into the reporting currency (i.e., the parent company’s currency). Exchange gains and losses that result for the remeasuring process are recognized in income from continuing operations.
A(n) \_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_ is a risk management strategy to protect against the possibility of loss, such as from price fluctuations. A Hedge B Underlying C Forecasted transaction D Firm commitment
Explanation:
Hedging is a risk management strategy to protect against the possibility of loss, such as from price fluctuations.
On January 1, year 1, a company with a calendar year end began developing a software program that it intends to market and sell to its customers. The software coding was completed on March 31, year 1, at a cost of $200,000, and the software testing was completed on June 30, year 1, at a cost of $100,000. The company achieved technological feasibility on July 31, year 1, at which time the company began producing product masters at a cost of $125,000. What amount should the company report for the total research and development expense for the year ended December 31, year 1?
A $100,000 B $200,000 C $300,000 D $425,000
Explanation:
The company was developing a software program for sale. Following is how expenses incurred at various stages of developing such a computer software,whether to sell, lease or market, should be treated:Expense all the costs incurred until the point where technological feasibility is established as research and development cost.Capitalize all costs incurred to convert a technologically feasible program into a final commercial product.
Expense as cost of goods sold (COGS) costs incurred after software sale begins.The company achieved technological feasibility on July 31, year 1. All costs incurred before this date will be expensed as research and development cost. Total research and development cost = $200,000 (software coding cost incurred till March 31, year1) + $100,000 (software testing costs incurred till June 30, year 1) = $300,000.
Option (a) is incorrect because it treats only $100,000 software testing costs incurred till June 30, year 1 as research and development costs and fails to include$200,000 software coding cost incurred till March 31, year 1 as a part of research and development cost. All costs incurred until technological feasibility has been established has to be expensed as R&D.
Option (b) is incorrect because it treats only $200,000 software coding cost incurred till March 31, year 1 as research and development costs and fails to include$100,000 software testing costs incurred till June 30, year 1 as a part of research and development cost.
Option (d) is incorrect because besides $300,000 (i.e. $200,000 + 100,000) it treat seven the cost of $125,000 incurred after the company achieved technological feasibility as research and development cost. This is not a R&D expense. This has to be capitalized.
Glade Co. leases computer equipment to customers under direct-financing leases. The equipment has no residual value at the end of the lease, and the leases do not contain purchase options. Glade wishes to earn 8% interest on a 5-year lease of equipment with a fair value of $323,400. The present value of an annuity due of $1 at 8% for five years is 4.312. What is the total amount of interest revenue that Glade will earn over the life of the lease?
A $ 51,600 B $ 75,000 C $129,360 D $139,450
Explanation:
The correct answer is (A).
The fair value of the equipment is also used as the present value.
The present value factor of an annuity due of $1 at 8% for 5 years is given as 4.312, the formula would be 4.312 x annual payment = $323,400 or annual payment = $323,400 / 4.312 = $75,000.
Glade will receive a total of 5 payments at $75,000 each or a total of $375,000.
The present value of the lease payments is $323,400, the difference of $51,600 (i.e. $375,000 - $323,400) is the interest that will be earned over the life of the lease.
No gain or loss is recognized under a direct-financing lease.
Option (B) is incorrect because this represents the annual payment over the life of the lease.
Options (C) and (D) are incorrect due to inaccurate calculations.
According to ASC 842, lease payments include all of the following except:
A Guarantee of the Lessor’s debt B Residual Value Guarantees C Fees Paid to Owners of Special-Purpose Entities D Variable Lease Payments
Explanation:
The correct answer is (A).
Per ASC 842, Lease Payments include:
Fixed Lease Payments
Variable Lease Payments
Renewal, Purchase, and Termination Option Payments
Fees Paid to Owners of Special-Purpose Entities
Residual Value Guarantees
Lease Payments don’t include:
Payments for variable leases not dependent on an index or rate
Guarantee of the Lessor’s debt
For a Finance Lease, the amount recorded initially by the lessee as a liability should normally
A
Exceed the total of the minimum lease payments.
B
Exceed the present value of the minimum lease payments at the beginning of the lease.
C
Equal the present value of the minimum lease payments + salvage value
D
Equal the present value of the lease payments not yet paid at the beginning of the lease.
Explanation:
The lessee should normally record a Finance Lease as an ROU (Asset) and Lease Liability at an amount equal to the present value of the lease payments not yet paid at the beginning of the lease term.
Which of the following methods should a company use to account for a contingent liability when the loss is probable but not reasonably estimated?
A
The liability should not be reported
B
The liability should be reported as a short-term liability
C
The liability should be reported as a long-term liability
D
The liability should only be disclosed in the notes to the financial statements
Explanation:
The correct answer is (D).
Probability of loss Disclose in notes to Financial Statements Accrue
Remote No No
Reasonably possible Yes No
Probable and estimable Yes Yes
Probable but not estimable Yes No
A contingent liability, when a loss is probable but cannot be reasonably estimated, should only be disclosed in the notes to financial statements.
Kent Co. filed a voluntary bankruptcy petition, and the statement of affairs reflects the following amounts: Book value Estimated current value Assets: Assets pledged with fully secured creditors $ 300,000 $370,000 Assets pledged with partially secured creditors 180,000 120,000 Free assets 420,000 320,000 $ 900,000 $810,000 Liabilities (book value): Liabilities with priority 70,000 Fully secured creditors 260,000 Partially secured creditors 200,000 Unsecured creditors 540,000 $1,070,000 Assume that the assets are converted to cash at the estimated current values and the business is liquidated. What amount of cash will be available to pay unsecured nonpriority claims? A $240,000 B $280,000 C $320,000 D $360,000
Explanation:
Secured creditors are paid first with the proceeds from the sale of specific assets upon which they have liens. Any excess proceeds from such sales are first applied against the liabilities with priority, and then to the unsecured creditors. If the claims of partially secured creditors exceed the proceeds from the sale of the assets pledged with such creditors, such excess constitutes an unsecured claim.
Total cash available $810,000
Payments to fully secured creditors $260,000
Payments to partially secured creditors 120,000
Payments to creditors with priority 70,000 (450,000)
Cash to pay unsecured nonpriority claims $360,000
In sales-type leases, the lessor must disclose which of the following?
A The cost and carrying amount, if different, of property leased or held for leasing, by major class and total accumulated depreciation B A general description of leasing arrangements C Net investment components D All of the above
Explanation: In sales-type and direct financing leases, the lessor must disclose the net investment components, including: future MLP; unguaranteed residual value; unearned income; and the future MLP to be received in each of the succeeding 5 years. For operating leases, the lessor must disclose: the cost and carrying amount, if different, of property leased or held for leasing, by major class and total accumulated depreciation; the minimum future rentals on noncancelable leases, in aggregate, for each of the next 5 years; and a general description of leasing arrangements.
A corporation is in the final stages of developing a computer software program that will be sold to the general public. The company’s costs related to the software are as follows: Development of a working model of the software $4 million Customer support and training 2 million Product master production 1 millionThe costs associated with the product master production were incurred after the establishment of technological feasibility. What amount, if any, should the corporation expense against earnings? A $6 million B $5 million C $4 million D $0
Explanation:
Costs incurred internally in creating a computer software product to be sold, leased, or otherwise marketed as a separate product, or as a part of a product or process, are charged to expense when incurred as research and development until technological feasibility has been established for the product. The costs of producing product masters incurred subsequent to establishing technological feasibility are capitalized. The corporation should expense $6 million; the $4 million development of a working model of the software and the $2 million customer support and training that was incurred. Only the $1 million for product master production would be capitalized.
In Year 7, Spirit, Inc. determined that the 12-year estimated useful life of a machine purchased for $48,000 in January Year 2 should be extended by three years. The machine is being depreciated using the straight-line method and has no salvage value. What amount of depreciation expense should Spirit report in its financial statements for the year ending December 31, Year 7?
A $2,800 B $3,200 C $4,200 D $4,800
Explanation:
Changing the estimated useful life of a machine is considered a change in accounting estimate and accounted for in the current and subsequent periods. The machine had been depreciated a total of $20,000 thus far, 5 years at $4,000 per year ($48,000 / 12 years straight-line = $4,000 per year). The original amount of $48,000 less the $20,000 depreciated so far equals $28,000 worth of useful life. Extending the useful life three years means it now has 10 years of useful life left (12 years originally less the 5 years gone by plus 3 more years). So the depreciation expense is $2,800 ($28,000 / 10) per year.
Which of the following is not a part of Lease Payments?
A
Variable lease payments dependent on a rate or index
B
Payments associated with renewal or termination options or the exercise of a purchase option
C
Variable lease payments not dependent on an index or a rate
D
Fees Paid by the Lessee to Owners of Special-Purpose Entities
Explanation:
Lease payments include:
Fixed Lease Payments and in substance fixed payments
Variable lease payments dependent on a rate or index
Payments associated with renewal or termination options or the exercise of a purchase option
Fees Paid by the Lessee to Owners of Special-Purpose Entities
Residual Value Guarantee
Lease payments exclude:
Variable lease payments not dependent on an index or a rate
Guarantee of lessors debt
A collection agency spent $50,000 in staff payroll costs investigating the feasibility of developing its own software program for tracking customer contacts. After committing to funding the project, software developers were paid $200,000 to write the code, and the company incurred $70,000 in general and administrative costs related to training and software maintenance. What amount should be capitalized?
A $200,000 B $250,000 C $270,000 D $320,000
Explanation:
The collection agency wanted to create a computer software for tracking its customer contacts for its internal use. Following is how expenses incurred at various stages of developing such a computer software for internal use should be treated:
Expense all the costs incurred in the preliminary project stage like those relatedto coding and testing, designing, investing feasibility, vendor selection etc. as research and development cost.
Capitalize all costs incurred in the development stage until the software is substantially complete and ready for its intended use.
Capitalize any upgrades and enhancements.
Expense costs incurred in training, data conversion and maintenance as period costs.
Amortize capitalized costs by using straight line method.
$50,000 staff payroll costs incurred for investigating the feasibility of developing its own software program is a cost incurred in the preliminary project stage and will be expensed as research and development cost. $70,000 general and administrative costs related to training and software maintenance will be expensed as period cost.Only $200,000 paid for writing the code will be capitalized as cost for developing the computer software. Options (b), (c) and (d) are incorrect because both $50,000 staff payroll costs and$70,000 general and administrative costs should be expensed and not capitalized.
Madden Company owns a tract of land which it purchased four years ago for $100,000. The land is held as a future plant site and has a fair market value of $140,000 on July 1 of the current year. Hall Company also owns a tract of land held as a future plant site. On this date, Madden exchanged its land and paid $50,000 cash for the land owned by Hall. Assuming there was commercial substance, at what amount should Madden record the land acquired in the exchange? A $150,000 B $160,000 C $190,000 D $200,000
Explanation:
In an exchange with commercial substance, the transaction is accounted for at the fair value of the asset received or the asset given up, whichever is more clearly evident, and a gain or loss is recognized on the exchange. Fair value of consideration given up was $140,000 for the land and $50,000 cash = $190,000.
Compared to its year 2 cash basis net income, Potoma Co.’s year 2 accrual basis net income increased when it
A
Declared a cash dividend in year 1 that it paid in year 2.
B
Wrote off more accounts receivable balances than it reported as uncollectible accounts expense in year 2.
C
Had lower accrued expenses on December 31, year 2, than on January 1, year 2.
D
Sold used equipment for cash at a gain in year 2
Explanation:
Potoma’s accrued expenses decreased during year 2. Hence, Potoma’s year 2 payments for expenses exceeded the amount of expense recognized on the accrual basis in year 2. The increased amount of expenses recognized in year 2 under the cash basis increases Potoma’s year 2 accrual basis net income as compared to its year 2 cash basis net income. The declaration or payment of a cash dividend does not affect net income computed under either the cash or accrual basis. Compared to its year 2 cash basis net income, Potoma’s year 2 accrual basis net income decreased when it recognized uncollectible accounts expense in year 2. Potoma’s year 2 cash basis net income is not affected by either the accounts receivable balances written off in year 2 or the uncollectible account expense recognized in year 2. The sale of the used equipment at a gain increases net income under both the cash and accrual basis by equal amounts.
Combined statements may be used to present the results of operations of Unconsolidated subsidiaries Companies under common management A Yes Yes B Yes No C No Yes D No No
Explanation:
Combined statements would be used to present the financial position and results of operations of a group of unconsolidated subsidiaries. They might also be used to combine the financial statements of companies under common management.
On January 1 of the current year, Nori Mining Co. (lessee) entered into a 5-year lease for drilling equipment. Nori accounted for the acquisition as a finance lease for $240,000, which includes a $10,000 option. At the end of the lease, Nori expects to exercise the purchase option. Nori estimates that the equipment’s fair value will be $20,000 at the end of its 8-year life. Nori regularly uses straight-line depreciation on similar equipment. For the current year ended December 31, what amount should Nori recognize as depreciation expense on the leased ROU asset?
A $48,000 B $46,000 C $30,000 D $27,500
Explanation:
The correct answer is (D).
A Finance Lease must meet one of the following criteria:
Present Value equals or exceeds substantially all (90%) of the Fair Value
Option to Purchase (exercise is reasonably certain)
Economic Life - Major part (75%) of the asset’s economic life is used
Transfer of Ownership at lease termination
Specialized Nature - No alternative use to the lessor at lease termination
Note: the implementation guidance for ASC 842 uses the 75/90 thresholds, even though the standard is principles-based.
If there is a transfer of ownership or a bargain purchase option at the end of a finance lease, the lessee would depreciate the leased equipment over the useful life of the asset. Since the lessee had an option that was reasonably certain of being exercised, the asset should be depreciated over its estimated useful life, instead of the lease term, because the lessee will obtain ownership of the asset.
The drilling equipment has a useful life of 8 years.
Depreciation on straight-line basis = (Asset value - Salvage value) / Useful life = ($240,000 - $20,000) / 8 = $27,500.
Yellow Co. spent $12,000,000 during the current year developing its new software package. Of this amount, $4,000,000 was spent before it was at the application development stage and the package was only to be used internally. The package was completed during the year and is expected to have a four year useful life. Yellow has a policy of taking a full-year’s amortization in the first year. After the development stage, $50,000 was spent on training employees to use the program. What amount should Yellow report as an expense for the current year?
A $1,600,000 B $2,000,000 C $6,012,500 D $6,050,000
Explanation:
Internal use computer software costs that are incurred in the preliminary project stage should be expensed as incurred. Most costs incurred in the application development stage are capitalized and should not cease until the software project is substantially complete and ready for its intended use. Training costs and data conversion costs are generally expensed in the application development stage. In the post-implementation/operation stage, training and maintenance costs should be expensed as incurred while the costs of upgrades or enhancements are capitalized. The annual amortization cost is calculated by taking the remaining $8,000,000 (12,000,000 less the $4,000,000 spent) and dividing by the four-year useful life.
Preliminary project costs $4,000,000 Post development training costs 50,000 Year 1 amortization expense 2,000,000 Current year expense 6,050,000 Option (a) is incorrect as per the above explanation.Option (b) is incorrect because it excludes preliminary project stage costs expensed as R&D and training costs as period expense. $2,000,000 are amortization expense for the year ($8,000,000/4). Option (c) is incorrect because it capitalized the training costs instead of expensing it. [$6,012,500 = $4,000,000 + ($8,050,000/4)](ID: 8104)
Which of the following is the market with the greatest volume or level of activity for an orderly transaction to occur for an asset or liability?
A Perfect market B Principal market C Financial market D Most advantageous market
Explanation:
The principle market is the market with the greatest volume or level of activity for an orderly transaction to occur for an asset or liability. The price in the principle market will be the fair value measurement, even if there is a more advantageous price in a different market. A perfect market would have perfect information and there is perfect competition. A financial market is where entities can easily buy and sell financial securities. Accounting standards make no reference to perfect or financial markets. A most advantageous market is the market with the price that maximizes the amount that would be received for an asset or minimizes the amount that would be paid to transfer a liability.
An entity may designate, as a type of hedge of foreign currency exposure, a derivative instrument or a non derivative financial instrument that may give rise to a foreign currency transaction gain or loss as which of the following?
A A fair value hedge B A cash flow hedge C A hedge of a net investment in a foreign operation D None of the above
Explanation:
An entity may designate a derivative instrument or a non derivative financial instrument that may give rise to a foreign currency transaction gain or loss as a hedge of the foreign currency exposure of a net investment in a foreign operation.
On January 1, year 5, Poe Construction Inc., changed to an adjusted version of the percentage-of-completion method in accordance with the input method prescribed in ASC 606 and recognized revenue “over time” instead of at a “point in time” as before. Poe can justify this change in accounting principle.
As of December 31, year 4, Poe compiled data showing that income under the previous revenue recognition method (recognized at a point in time), aggregated $700,000. If the new method had been used, the accumulated income through December 31, year 4, would have been $880,000. Assuming an income tax rate of 40% for all years, the cumulative effect of this accounting change should be reported by Poe in the year 5
A Retained earnings statement as a $180,000 credit adjustment to the beginning balance. B Income statement as a $180,000 credit. C Retained earnings statement as a $108,000 credit adjustment to the beginning balance. D Income statement as a $108,000 credit.
Explanation:
This type of change in accounting principle is accounted for as an adjustment to the beginning balance of retained earnings, net of its income tax effect.
Revenue recognized over time $ 880,000
Revenue recognized at a point in time (700,000)
Increase in income under new method 180,000
Less: Income tax effect ($180,000 × 40%) (72,000)
Credit to 1/1, year 5, retained earnings $ 108,000
Jay’s lease payments are made at the end of each period. Jay’s liability for a Finance Lease would be reduced periodically by the
A
lease payment less the portion of the Lease payment allocable to interest.
B
lease payment plus the amortization of the related asset.
C
lease payment less the amortization of the related asset.
D
lease payment.
Explanation:
In a Finance Lease, each lease payment should be allocated between a reduction of the Finance Lease liability and Interest expense. Therefore, the lessee’s balance sheet liability for a Finance Lease should be periodically reduced by the Lease payment less the portion of the Lease payment allocable to interest.
Cody Corp. incurred the following costs during the year:
Design of tools, jigs, molds, and dies involving new technology $125,000
Modification of the formulation of a process 160,000
Trouble-shooting in connection with breakdowns during commercial production 100,000
Adaptation of an existing capability to a particular customer’s need as part of a continuing commercial activity 110,000In its year-end income statement, Cody should report research and development expense of
A
$125,000.
B
$160,000.
C
$235,000.
D
$285,000.
Explanation:
The design of tools, jigs, molds, and dies involving new technology ($125,000) and the modification of the formulation of a process ($160,000) are activities that typically would be included in research and development expense. Troubleshooting in connection with breakdowns during commercial production and the adaptation of an existing capability to a particular customer’s need as part of a continuing commercial activity typically are excluded from research and development.
Under what circumstances are disclosures required for subsequent events?
A
Only when the financial statements include notes
B
Only when financial statements are compiled
C
Only when financial statements are reviewed
D
Always
Explanation:
The disclosure requirements associated with subsequent events, along with other issues, only need to be included in notes to financial statements when the
financial statements include notes.
Grey Co. purchased stock in Cherry Co. Grey purchased a put option on the stock. The strike price is the current market price. What is the most likely reason Grey purchased the put option?
A
Cherry stock has remained flat, and Grey believes the stock is going to remain at its original purchase price.
B
Cherry stock has increased in price, and Grey believes the stock is going to continue to increase in price.
C
Cherry stock has decreased in price, but Grey believes the stock is going to increase in price.
D
Cherry stock has increased in price, but Grey is concerned that the price might decrease.
Explanation:
The correct answer is (D)
Buying a put option confers the right on the holder of the option to sell the stock at a price, regardless of the trading price of the underlying asset/stock. In essence, the put option buyer buys the right to sell the underlying stock to the put option holder at a predetermined rate.
Hence, put options are purchased mainly when the buyer is bearish and aims at hedging itself of price falls in the future.Since Grey Co. has purchased a put option on the Cherry stocks, it means that the company is concerned that the price might decrease.
During the year, Pitt Corp. incurred costs to develop and produce a routine, low-risk computer software product, as follows:
Design of tools, jigs, molds, and dies involving new technology $125,000
Completion of detail program design 13,000
Costs incurred for coding and testing to establish technological feasibility 10,000
Other coding costs after establishment of technological feasibility 24,000
Other testing costs after establishment of technological feasibility 20,000
Costs of producing product masters for training materials 15,000
Duplication of computer software and training materials
From product masters (1,000 units) 25,000
Packaging product (500 units) 9,000
In Pitt’s December 31 Balance Sheet, what amount should be capitalized as software costs, subject to amortization?
A $54,000 B $57,000 C $59,000 D $69,000
Explanation:
The correct answer is (C).
For computer software developed to sell, lease or market as a product:
Costs associated with converting a technologically feasible program into a final commercial product are capitalized. Other coding costs after the establishment of technological feasibility of $24,000, other testing costs after the establishment of technological materials of $20,000, and costs of producing product masters for training materials of $15,000 are all Capitalized.
($20,000+24,000+15,000 = $ 59,000)
Research and Development (R&D) costs are expensed. These are costs incurred prior to technological feasibility, which is established upon completion of a detailed program or design or completion of a working model). The completion of a detailed program design for $13,000 and costs incurred for coding and testing to establish technological feasibility of $10,000 are expensed.
Costs incurred after software sales begin are Inventoried – this will include the duplication of computer software and training materials from product masters for $25,000 and packaging products for $9,000. The year-end balance sheet would report an inventory of $34,000 (i.e. $25,000 + $9,000).
Troop Co. frequently borrows from the bank to maintain sufficient operating cash. The following loans were at a 12% interest rate, with interest payable at maturity. Troop repaid each loan on its scheduled maturity date.
Date of Loan Amount Maturity date Term of loan
11/1, Yr 5 $10,000 10/31, Yr 6 1 year
2/1, Yr 6 30,000 7/31, Yr 6 6 months
5/1, Yr 6 16,000 1/31, Yr 7 9 months
Troop records interest expense when the loans are repaid, thus interest expense of $3,000 was recorded in year 6. If no correction is made, by what amount would year 6 interest expense be understated?
A $1,080 B $1,240 C $1,280 D $1,440
Explanation:
Interest expense should be accrued in the period in which it is earned, rather than the period in which it is paid. In year 6, the total interest expense of $4,080 should be reported, as shown below. If only $3,000 interest expense is recorded, the understatement is $1,080.
Loan date Amount Monthly Interest Months in Year 6 Year 6 Interest
11/01, year 5 to 10/31, year 6 $10,000 $100* 10 $1,000
02/01, year 6 to 07/31, year 6 30,000 300 6 1,800
05/01, year 6 to 01/31, year 7 16,000 160 8 1,280
Total interest $4,080
Less interest expense recorded (3,000)
Understated interest $1,080
Note:
*Loan was taken on November 1 Year 5 and repaid on Year October 31 Year 6. That implies this loan was outstanding in Y6 for 10 Months. Interest Accrued for the same should be $10,000 x 12% x 10/12 = $1,000. Since Monthly Interest is calculated, it might be causing the confusion. As for the entire year interest on $10,000 at 12% is 1200. So, for each month, it is $100
Which of the following items would be classified as a research and development cost?
A
Periodic design changes to an existing product.
B
Engineering follow-up in an early phase of commercial production.
C
Testing in search of product or process alternatives.
D
Legal work in connection with a patent application.
Explanation:
Research activities are those aimed at the discovery of knowledge that will be useful in developing or significantly improving products or processes. Development activities are those concerned with translating research findings and other knowledge into plans or designs for new or significantly improved products or processes. Testing in search of product or process alternatives is classified as a research and development cost. Periodic design changes to an existing product, engineering follow-up in an early phase of commercial production, and legal work in connection with a patter application are not classified as research and development costs.Option (a) and (b) are incorrect because commercial production/activity or seasonal,routine or troubleshooting activities in production stage are not treated as R&D costs.Option (d) is incorrect because legal work related to patent is not a R&D cost.
Which of the following describes the lessee’s incremental borrowing rate?
A
The discount rate the lessee would pay to borrow on a collateralized basis over a similar term an amount equal to the lease payments in a similar economic environment
B
The rate of change for the fair value of the leased property from the start of the lease to the end of the lease term
C
The interest rate that will discount the minimum lease payments plus unguaranteed residual value to the fair value of the leased property at the lease inception date
D
None of the above
Explanation:
The lessee incremental borrowing rate is the rate of interest that lessee would have to pay to borrow on a collateralized basis over a similar term an amount equal to the lease payments in a similar economic environment.
Note: If the lessor’s implicit rate is known, always use that rate instead.
Which of the following is not included in a “lease term”?
A
All periods, representing renewal periods “reasonably certain” of exercise
B
All periods representing time covered by a termination option reasonably certain not to be exercised
C
All periods representing renewal periods (non-termination periods) controlled by lessor
D
All periods beyond the date at which a bargain purchase option becomes exercisable
Explanation:
The lease term includes all periods, if any, covered by renewal periods “reasonably certain” of exercise , periods covered by a termination option reasonably certain not to be exercised and renewal periods (non-termination periods) controlled by lessor. In no case should the lease term extend beyond the date at which a bargain purchase option becomes exercisable.
A company’s research department incurred $1,000,000 in material, labor, and overhead costs to construct a prototype of a new product and $100,000 to test and modify the prototype. Which of the following statements correctly describes the accounting treatment of prototype costs incurred by the company?
A
Capitalize $1,100,000 and amortize it over the expected sales life of the new product
B
Capitalize $1,100,000 and amortize it over the life of the prototype
C
Capitalize $1,000,000 and amortize it over the life of the prototype and expense $100,000 as incurred
D
Expense $1,100,000 as incurred
Explanation:
The correct answer is (D).
Costs incurred for research and development (R&D) are expensed as incurred. The R&D costs include:
New knowledge or new technology.
Model or prototype.
Application of new research findings.
In the current year, the company will recognize the R&D expenses of $1,100,000 which would include material, labor, overhead, modification and testing costs.
Pear Co.’s income statement for the current year ended December 31, as prepared by Pear’s controller, reported income before taxes of $125,000. The auditor questioned the following amounts that had been included in income before taxes:
Equity in earnings of Cinn Co. $40,000
Dividends received from Cinn 8,000
Adjustments to profits of prior years for arithmetical errors in depreciation (35,000)
Pear owns 40% of Cinn’s common stock. Pear’s December 31 income statement should report income before taxes of
A $ 85,000 B $117,000 C $120,000 D $152,000
Explanation:
Since Pear owns 40% of Cinn’s common stock, Pear has the ability to exercise significant influence over Cinn by virtue of its investment and should account for its investment in Cinn by the equity method. Therefore, Pear’s $40,000 equity in Cinn’s earnings is properly included in Pear’s current year income before taxes. Under the equity method, the dividends received from Cinn reduce the carrying amount of the investment; they do not affect the amount of investment income that Pear recognizes. So, the $8,000 of dividends received from Cinn is erroneously included in current year income, before taxes are subtracted to correct that figure. The arithmetical errors in depreciation of prior years represents a correction of errors of prior periods. The correction of the errors should be reported as a prior-period adjustment by restating the prior-period financial statements. So, the $35,000 of arithmetical errors in depreciation of prior years that Pear had inadvertently subtracted from current year income before taxes are added back to correct that figure.
Income before taxes, before adjustment $125,000
Less: Dividends received from equity method investee (8,000)
Add: Arithmetical errors in depreciation of prior years _ 35,000
Corrected income before taxes $152,000
Which of the following is not considered in evaluating the highest and best use of an asset by market participants at the measurement date?
A Physically possible B Legally permissable C Readily accessible D Financially feasible
Explanation:
An asset being readily accessible is not considered in evaluating an asset for fair value measurement. The highest and best use of an asset establishes the valuation premise used to measure the fair value of an asset. The highest and best use of the asset is applied considering the use of the asset that is physically possible, legally permissible, and financially feasible at the measurement date.
