2010 AICPA Newly Released Questions - Financial PDF

2010 AICPA Newly Released Questions Financial
Following are multiple choice questions recently released by the AICPA. These questions were released by the AICPA with letter answers only. Our editorial board has provided the accompanying explanation. Please note that the AICPA generally releases questions that it does NOT intend to use again. These questions and content may or may not be representative of questions you may see on any upcoming exams.
2010 DeVry/Becker Educational Development Corp. All rights reserved.
1. Ande Co. estimates uncollectible accounts expense using the ratio of past actual losses from uncollectible accounts to past net credit sales, adjusted for anticipated conditions. The practice follows the accounting concept of: a. b. c. d. Consistency. Going concern. Matching. Substance over form.
Solution: Choice "c" is correct. Per the matching principle, expenses must be recognized in the same period in which the related revenue is recognized. Matching bad debt expense with associated revenues is correct per GAAP, and the allowance method based on past experience is an appropriate methodology. Choice "a" is incorrect. Consistency is not the applicable concept in this question. Consistency is required in order to compare the performance of a company from one period to another. Choice "b" is incorrect. Going concern is a fundamental assumption that the entity will continue to operate in the foreseeable future. Choice "d" is incorrect. This choice relates to reliability, which is a primary quality of decision usefulness. Information must be valid, and economic substance is more important than legal form.
2. In Dart Co.'s Year 2 single-step income statement, as prepared by Dart's controller, the section titled "Revenues" consisted of the following: Sales Purchase discounts Recovery of accounts written off Total revenues $250,000 3,000 10,000 $263,000
In its Year 2 single-step income statement, what amount should Dart report as total revenues? a. b. c. d. $250,000 $253,000 $260,000 $263,000
Solution: Choice "a" is correct. The single-step income statement will include in total revenues all sales of goods, services, and rentals. Purchase discounts are not included in revenue, but instead reduce cost of goods sold. The recovery of accounts written off does not hit the revenue account. Choice "b" is incorrect. Sales are appropriately included, but purchase discounts are not. Choice "c" is incorrect. Revenues are not impacted by the recovery of accounts written off. When accounts written off are recovered, the first entry is to debit accounts receivable and credit the allowance for doubtful accounts. Then, to record the collection of the cash, the debit is to cash and the credit is to accounts receivable. Choice "d" is incorrect. Purchase discounts are not included in revenue and the recovery of accounts written off does not hit the revenue account.
3. Which of the following would be reported as an investing activity in a company's statement of cash flows? a. b. c. d. Collection of proceeds from a note payable. Collection of a note receivable from a related party. Collection of an overdue account receivable from a customer. Collection of a tax refund from the government.
Solution: Choice "b" is correct. Loans to other entities and the consequent collection of the loans are reflected in the investing activity section of the cash flow statement. Choice "a" is incorrect. Notes payable fall under financing activities in the statement of cash flows. Choice "c" is incorrect. Accounts receivable collections fall under operating activities in the statement of cash flows. Choice "d" is incorrect. Collecting a tax refund will fall under operating activities in the statement of cash flows.
4. Young & Jamison's modified cash-basis financial statements indicate cash paid for operating expenses of $150,000, end-of-year prepaid expenses of $15,000, and accrued liabilities of $25,000. At the beginning of the year, Young & Jamison had prepaid expenses of $10,000, while accrued liabilities were $5,000. If cash paid for operating expenses is converted to accrual-basis operating expenses, what would be the amount of operating expenses? a. b. c. d. $125,000 $135,000 $165,000 $175,000
Solution: Choice "c" is correct. During the year, prepaid expenses increased $5,000 from $10,000 to $15,000. Prepaid expenses represent assets where no benefit has been received yet. In accrual accounting, they are not officially expenses until there is associated benefit. Therefore, the $5,000 needs to be subtracted from $150,000. Also during the year, accrued liabilities increased from $5,000 to $25,000. This represents benefit received but no cash paid out yet. The expense of $20,000 (representing the increase) should be booked now (which creates the liability), and when cash payment is made, the liability will be removed. Given the starting point of $150,000, subtracting $5,000 and adding $20,000 will bring accrued expenses to $165,000. Choice "a" is incorrect. This choice incorrectly subtracts, rather than adds, the $20,000 increase in accrued liabilities. Choice "b" is incorrect. This choice incorrectly adds the $5,000 for the increase in prepaid expenses and subtracts the $20,000 increase in accrued liabilities. Choice "d" is incorrect. This choice incorrectly adds, rather than subtracts, the $5,000 in prepaid expenses.
5. Garson Co. recorded goods in transit purchased F.O.B. shipping point at year end as purchases. The goods were excluded from ending inventory. What effect does the omission have on Garson's assets and retained earnings at year end? Assets a. b. c. d. No effect No effect Understated Understated Retained earnings Overstated Understated No effect Understated
Solution: Choice "d" is correct. F.O.B. means free on board, and it requires the seller to deliver goods to the location indicated at the seller's expense. F.O.B. shipping point means title will revert to the buyer when the seller delivers goods to a common carrier. The buyer should include the goods in his/her inventory upon shipment. Because the goods are in transit, the buyer should have included them in inventory. By not including them, inventory and assets are understated. An understatement of ending inventory results in an overstatement of cost of goods sold, which results in an understatement of net income and retained earnings. Choice "a" is incorrect. Assets should reflect the goods in transit as inventory. Retained earnings are understated as a result of the omission. Choice "b" is incorrect. The impact on retained earnings is correct, but assets are understated as well. Choice "c" is incorrect. The impact on assets is correct, but retained earnings are understated as well.
6. Last year, Katt Co. reduced the carrying amount of its long-lived assets used in operations from $120,000 to $100,000, in connection with its annual impairment review. During the current year, Katt determined that the fair value of the same assets had increased to $130,000. What amount should Katt record as restoration of previously recognized impairment loss in the current year's financial statements under U.S. GAAP? a. b. c. d. $0 $10,000 $20,000 $30,000
Solution: Choice "a" is correct. There will be no amount recorded because a subsequent reversal of an impairment loss is prohibited under U.S. GAAP. Note that reversal of impairment loss is permitted under IFRS. Choice "b" is incorrect. This answer is the current value of $130,000 less the original book value of $120,000. No reversal for an impairment loss is allowed. Choice "c" is incorrect. This represents the reduction in the original carrying amount and does not relate to reversing the loss. Choice "d" is incorrect. This represents the change in value from the original carrying amount of $100,000 to the new fair value of $130,000. No restoration amount will be booked because reversals of impairment losses are prohibited under U.S. GAAP.
7. Northstar Co. acquired a registered trademark for $600,000. The trademark has a remaining legal life of five years, but can be renewed every 10 years for a nominal fee. Northstar expects to renew the trademark indefinitely. What amount of amortization expense should Northstar record for the trademark in the current year? a. b. c. d. $0 $15,000 $40,000 $120,000
Solution: Choice "a" is correct. Because the trademark is expected to be renewed indefinitely, there will be no amortization expense on the books. Amortization is only recorded for intangible assets with a definite life. Choice "b" is incorrect. This amount represents the value of the acquired trademark amortized over 40 years. There will be no amortization due to the expectation that the trademark will be renewed indefinitely. Choice "c" is incorrect. The 15 year useful life here is equal to the remaining legal life (5 years) and the first 10 year renewal. This is not applicable here due to the expectation of indefinite renewal. Choice "d" is incorrect. This answer assumes amortization over the remaining legal life, which is not applicable because the company expects to renew indefinitely.
8. Acme Co.'s accounts payable balance at December 31 was $850,000 before necessary year-end adjustments, if any, related to the following information: At December 31, Acme has a $50,000 debit balance in its accounts payable resulting from a payment to a supplier for goods to be manufactured to Acme's specifications. Goods shipped F.O.B. destination on December 20 were received and recorded by Acme on January 2, the invoice cost was $45,000. In its December 31 balance sheet, what amount should Acme report as accounts payable? a. b. c. d. $850,000 $895,000 $900,000 $945,000
Solution: Choice "c" is correct. The $50,000 payment to a supplier for goods to be manufactured to Acme's specifications should not be included in accounts payable as a payment has already been made. This prepayment should have been recorded by debiting a prepaid asset, not accounts payable. The removal of this debit will increase accounts payable to $900,000. The goods shipped F.O.B. destination (title goes to the buyer when the buyer receives the goods from the common carrier) were not received until January nd 2 , so they should not be included in accounts payable at year-end. Choice "a" is incorrect. Accounts payable is understated by $50,000. The removal of this debit will increase accounts payable to $900,000. Choice "b" is incorrect. This choice incorrectly adds the $45,000 for the goods shipped F.O.B. destination to year-end accounts payable. It should not be counted, as title does not pass until the goods are received. In addition, accounts payable needs to be credited for the $50,000 payment to Acme's supplier. Choice "d" is incorrect. This choice incorrectly adds the $45,000 for the goods shipped F.O.B. destination to year-end accounts payable.
9. On September 30, World Co. borrowed $1,000,000 on a 9% note payable. World paid the first of four quarterly payments of $264,200 when due on December 30. In its December 31 balance sheet, what amount should World report as note payable? a. b. c. d. $735,800 $750,000 $758,300 $825,800
Solution: Choice "c" is correct. Each payment of $264,200 will consist of both interest and principal, with only principal reducing the liability owed. The interest portion ($22,500) of the initial payment is equal to $1,000,000 multiplied by the interest rate of 9%, and divided by 4 because the payment is quarterly. Payment of $264,200 Interest of $22,500 = Principal of $241,700. The principal payment of $241,700 will reduce the liability from $1,000,000 to $758,300. Choice "a" is incorrect. This choice assumes the entire payment is principal. Choice "b" is incorrect. This choice assumes there is no interest rate and the payments will be just the $1,000,000 divided by 4. Choice "d" is incorrect. This choice does not divide the interest amount owed for the year by 4.
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10. Finch Co. reported a total asset retirement obligation of $257,000 in last year's financial statements. This year, Finch acquired assets subject to unconditional retirement obligations measured at undiscounted cash flow estimates of $110,000 and discounted cash flow estimates of $68,000. Finch paid $87,000 toward the settlement of previously recorded asset retirement obligations and recorded an accretion expense of $26,000. What amount should Finch report for the asset retirement obligation in this year's balance sheet? a. b. c. d. $238,000 $264,000 $280,000 $306,000
Solution: Choice "b" is correct. An asset retirement obligation (ARO) is on the books initially as both an asset and a liability at present values. Each period, depreciation expense is booked to decrease the asset and accretion expense is booked to increase the liability such that when the ARO must be satisfied, there is no asset on the books anymore and the liability is represented at current costs. The initial obligation of $257,000 is the starting point, and the following transactions are then recorded to derive the current year ARO: Subtract $87,000 for a settlement associated with the previous ARO, which will reduce the liability. The accretion expense of $26,000 is used to increase the ARO liability. The $68,000 present value of the new ARO is applied to the ARO liability as well. ARO are recorded at present value. Ending ARO = Beginning ARO + PV of new ARO + Accretion expense - ARO settled during the perod Ending APO = $257,000 + $68,000 + $26,000 - $87,000 = $264,000 Choice "a" is incorrect. This choice ignores the accretion expense. Choice "c" is incorrect. This choice incorrectly uses the undiscounted cash flow expenses of $110,000 and fails to account for the accretion expense. Choice "d" is incorrect. The discounted, rather than undiscounted, cash flow estimates should be used.
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11. Falton Co. had the following first-year amounts related to its $9,000,000 construction contract: Actual costs incurred and paid Estimated costs to complete Progress billings Cash collected $2,000,000 6,000,000 1,800,000 1,500,000
What amount should Falton recognize as a current liability at year end, using the percentage-ofcompletion method? a. b. c. d. $0 $200,000 $250,000 $300,000
Solution: Choice "a" is correct. The excess of accumulated costs ($2,000,000) over related billings ($1,800,000) will represent a current asset. A liability only exists when project billings exceed costs. Choice "b" is incorrect. This represents a current asset rather than a liability. Choice "c" is incorrect. $250,000 is the gross profit to be recorded under the percentage-of-completion method. Choice "d" is incorrect. This represents the amount billed over the amount collected in cash. There will be no current liability because accumulated costs exceed billings.
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12. Conlon Co. is the plaintiff in a patent-infringement case. Conlon has a high probability of a favorable outcome, and can reasonably estimate the amount of the settlement. What is the proper accounting treatment of the patent infringement case? a. b. c. d. A gain contingency for the minimum estimated amount of the settlement. A gain contingency for the estimated probable settlement. Disclosure in the notes only. No reporting is required at this time.
Solution: Choice "c" is correct. Contingencies that might result in gains are not accrued per the principle of conservatism. As this potential favorable outcome is probable, the amount and nature should be disclosed in the notes to the financials.
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13. A firm has basic earnings per share of $1.29. If the tax rate is 30%, which of the following securities would be dilutive? a. Cumulative 8%, $50 par preferred stock. b. Ten percent convertible bonds, issued at par, with each $1,000 bond convertible into 20 shares of common stock. c. Seven percent convertible bonds, issued at par, with each $1,000 bond convertible into 40 shares of common stock. d. Six percent, $100 par cumulative convertible preferred stock, issued at par, with each preferred share convertible into four shares of common stock.
Solution: Choice "c" is correct. A dilutive security will produce an earnings per share number below basic earnings per share. The formula for basic earnings per share is income available to common shareholders divided by the weighted average number of common shares outstanding. Basic earnings per share is $1.29, and a dilutive security will result in a lower earnings per share number. If the seven percent convertible bonds are converted, the company will save $49 on each bond ($1,000 x .07 x (1 - .30)), but 40 new shares of stock will be issued. This equates to $1.225 per 1 new share, which is a lower ratio than $1.29 per share. So these securities will be dilutive. Choice "a" is incorrect. There is no indication given that the shares are convertible, so they will not be dilutive. Choice "b" is incorrect. If the ten percent convertible bonds are converted, the company will save $70 on each bond ($1,000 x .10 x (1 - .30)) and 20 new shares of stock will be issued. This equates to $3.50 per 1 new share, which is a higher ratio than $1.29 per share. So these securities will be anti-dilutive. Choice "d" is incorrect. If the convertible preferred stock is converted, the company's earnings per share will increase in the numerator by the $6 dividend that will no longer be paid, while the denominator will increase by 4 for the new shares of common stock issued. That equates to $1.50 per share, which is higher than $1.29.
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14. On which of the following dates is a public entity required to measure the cost of employee services in exchange for an award of equity interests, based on the fair market value of the award? a. b. c. d. Date of grant. Date of restriction lapse. Date of vesting. Date of exercise.
Solution: Choice "a" is correct. Per SFAS 123, equity instruments issued for employee services are to be valued at the date of the grant.
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15. An entity sponsors a defined benefit pension plan that is underfunded by $800,000. A $500,000 increase in the fair value of plan assets would have which of the following effects on the financial statements of the entity? a. An increase in the assets of the entity. b. An increase in accumulated other comprehensive income of the entity for the full amount of the increase in the value of the assets. c. A decrease in accumulated other comprehensive income of the entity for the full amount of the increase in the value of the assets. d. A decrease in the liabilities of the entity.
Solution: Choice "d" is correct. The funded status of a pension plan is equivalent to the fair value of plan assets less the projected benefit obligation. For this plan, the projected benefit obligation exceeds the fair value of plan assets by $800,000 and therefore is reported as a liability. An increase of $500,000 will still leave the plan underfunded by $300,000, which means the increase will only help to decrease the liability. Choice "a" is incorrect. The plan is on the books as a liability, and a $500,000 increase is not enough to make it an asset. Choices "b" and "c" are incorrect. Accumulated other comprehensive income will consist of prior service costs, unamortized gains/losses from changes in actuarial assumptions and differences in the expected versus actual returns on plan assets, and the existing net obligation or net asset at implementation. As these items are amortized, they are removed from other comprehensive income but will not impact the funded status.
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16. Neely Co. disclosed in the notes to its financial statements that a significant number of its unsecured trade account receivables are with companies that operate in the same industry. This disclosure is required to inform financial statement users of the existence of: a. b. c. d. Concentration of credit risk. Concentration of market risk. Risk of measurement uncertainty. Off-balance sheet risk of accounting loss.
Solution: Choice "a" is correct. Credit risk is the risk that a counterparty will partially or completely fail to perform per the terms of the contract. A concentration exists if a number of counterparties are engaged in similar activities; have similar economic characteristics such that the ability of all of them to meet obligations is similarly affected. When this exists, it must be disclosed. Choice "b" is incorrect. Market risk is the possibility of loss from changes in market value due to changes in economic circumstances. This should be, but is not required to be, disclosed. Choices "c" and "d" are incorrect. This does not relate to a significant number of unsecured accounts receivable with companies in the same industry.
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17. Sun Co. was constructing fixed assets that qualified for interest capitalization. Sun had the following outstanding debt issuances during the entire year of construction: $6,000,000 face value, 8% interest. $8,000,000 face value, 9% interest. None of the borrowings were specified for the construction of the qualified fixed asset. Average expenditures for the year were $1,000,000. What interest rate should Sun use to calculate capitalized interest on the construction? a. b. c. d. 8.00% 8.50% 8.57% 9.00%
Solution: Choice "c" is correct. If borrowings are not tied specifically to the construction of an asset, the weighted average interest rate for the other borrowings of the company should be used. The weighted average interest rate is calculated as follows: [(6,000,000/14,000,000) * .08] + [(8,000,000/14,000,000) * .09] = .0857, or 8.57%. Note that if there were borrowings tied to the specific construction, the rate on those borrowings would be used. Choice "a" is incorrect. This is just the rate on the first bond listed. Choice "b" is incorrect. This is not a weighted average of the two bonds, as the second bond carries more weighting. Choice "d" is incorrect. This is just the rate on the second bond listed.
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18. Bard Co., a calendar-year corporation, reported income before income tax expense of $10,000 and income tax expense of $1,500 in its interim income statement for the first quarter of the year. Bard had income before income tax expense of $20,000 for the second quarter and an estimated effective annual rate of 25%. What amount should Bard report as income tax expense in its interim income statement for the second quarter? a. b. c. d. $3,500 $5,000 $6,000 $7,500
Solution: Choice "c" is correct. In order to calculate income tax expense on an interim statement, the appropriate methodology is to multiply year to date income by the effective tax rate and subtract from that the income tax expense recorded in the previous quarter. The total income for both quarters is $30,000 and the effective tax rate estimated as of the second quarter is 25%. Total tax expense is then estimated as $7,500 for both quarters, and with $1,500 already booked in the first quarter, that will leave $6,000 for the second quarter. Choice "a" is incorrect. This choice incorrectly calculates second quarter income tax expense of $5,000 ($20,000 x 25%) and then subtracts income tax expense from the first quarter. Choice "b" is incorrect. This choice does not account for the change in the tax rate that will need to be applied in the second quarter to first quarter income. Choice "d" is incorrect. This choice does not subtract the $1,500 recorded in the first quarter.
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19. On January 2 of the current year, LTTI Co. entered into a three-year, non-cancelable contract to buy up to 1 million units of a product each year at $.10 per unit with a minimum annual guarantee purchase of 200,000 units. At year end, LTTI had only purchased 80,000 units and decided to cancel sales of the product. What amount should LTTI report as a loss related to the purchase commitment as of December 31 of the current year? a. b. c. d. $0 $8,000 $12,000 $52,000
Solution: Choice "d" is correct. The contract overall has a minimum total guarantee of 600,000 units, and only 80,000 units will be purchased. At $.10 per unit, the company is responsible for 520,000 units at $.10 per unit. The loss as a result will be $52,000 (520,000 x $0.10). Choice "a" is incorrect. Because the contract is non-cancelable and there is a minimum guarantee, there will be a loss resulting from not honoring that guarantee. Choice "b" is incorrect. This represents the amount actually purchased. Choice "c" is incorrect. This only accounts for the current year, and fails to account for the remaining two years when no purchases will be made.
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20. In Soan County's general fund statement of revenues, expenditures, and changes in fund balances, which of the following has an effect on the excess of revenues over expenditures? a. b. c. d. Purchase of fixed assets. Payment to a debt-service fund. Special items. Proceeds from the sale of capital assets.
Solution: Choice "a" is correct. Fixed assets are not expected to contribute to the generation of revenue and are therefore expensed. This will serve to reduce the excess of revenue over expense. Choice "b" is incorrect. This is considered a contribution of equity/revenue and will not fall into the excess of revenues over expenses. Choice "c" is incorrect. Special items are reported separately after non-operating revenues and expenses. Choice "d" is incorrect. Capital asset sale proceeds do not fall under either revenues or expenses on the general fund statement of revenues, expenses, and changes in fund balances.
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21. How should state appropriations to a state university choosing to report as engaged only in business-type activities be reported in its statement of revenues, expenses, and changes in net assets? a. b. c. d. Operating revenues. Nonoperating revenues. Capital contributions. Other financing sources.
Solution: Choice "b" is correct. A state university will follow governmental accounting policies. Receiving state appropriations represents a non-exchange transaction and will therefore be treated as nonoperating revenues.
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22. What is the major difference between an exchange transaction and a non-exchange transaction for governmental units? a. b. c. d. The relationship between the amount of value given and received. Time requirements and whether the transaction is required by law. Purpose restrictions placed upon fund balances. Whether resources acquired can be further exchanged.
Solution: Choice "a" is correct. An exchange transaction is a reciprocal transfer in which each party receives and sacrifices something of approximately equal value. A non-exchange transaction involves giving/receiving value without receiving/giving equal value in return.
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23. A nongovernmental not-for-profit animal shelter receives contributed services from the following individuals valued at their normal billing rate: Veterinarian provides volunteer animal care Board members volunteer to prepare books for audit Registered nurse volunteers as receptionist Teacher provides volunteer dog walking What amount should the shelter record as contribution revenue? a. b. c. d. $8,000 $11,000 $12,500 $14,500 $8,000 4,500 3,000 2,000
Solution: Choice "c" is correct. Donated services are recorded at fair value if they create/enhance a non-financial asset or the required specialized skills the provider possesses and would otherwise have been purchased by the organization receiving the services. The services provided by the veterinarian and the board members represents specialized skills that would have required the shelter to purchase the services in the absence of the volunteers. The nurse volunteering as a receptionist and volunteer dog walking do not require specialized skills so they are not recorded as revenue.
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24. Whitestone, a nongovernmental not-for-profit organization, received a contribution in December, Year 1. The donor restricted use of the contribution until March, Year 2. How should Whitestone record the contribution? a. b. c. d. Footnote the contribution in Year 1 and record as income when it becomes available in Year 2. No entry required in Year 1 and record as income in Year 2 when it becomes available. Report as income in Year 1. Report as deferred income in Year 1.
Solution: Choice "c" is correct. It will be recorded as revenue in Year 1, and within that classification the revenue will be considered temporarily restricted until the time period for the restriction has passed. Choice "a" is incorrect. The revenue will need to be recorded in Year 1. Choice "b" is incorrect. In Year 2, the revenue already booked in Year 1 will move from temporarily restricted to unrestricted. Choice "d" is incorrect. Deferred income will be treated as a liability. This contribution should be recorded as revenue in Year 1.
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25. A nongovernmental, not-for-profit organization received the following donations of corporate stock during the year: Donation 1 Number of shares Adjusted basis Fair market value at time of donation Fair market value at year end 2,000 $8,000 8,500 10,000 Donation 2 3,000 $5,500 6,000 4,000
What net value of investments will the organization report at the end of the year? a. b. c. d. $12,000 $13,500 $14,000 $14,500
Solution: Choice "c" is correct. The corporate stock is equity that has a readily determinable fair value. As such, it should be measured at fair value at the year-end statement of financial position. Choice "a" is incorrect. The stock should be recorded at fair value. Choice "b" is incorrect. This represents the combined basis. Fair value is the appropriate measure to use both when the stock is initially recorded and each year. Choice "d" is incorrect. This is the fair value reported when the stock is contributed rather than at yearend.
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26. According to the FASB conceptual framework, which of the following correctly pairs a primary qualitative characteristic of accounting information with one of its components? a. b. c. d. Relevance and Timeliness. Relevance and Verifiability. Reliability and Predictive Value. Reliability and Feedback Value.
Solution: Choice "a" is correct. Relevance is a primary qualitative characteristic and timeliness (along with predictive value and feedback value) is one of its components. Choice "b" is incorrect. Verifiability is a component under reliability. Choice "c" is incorrect. Predictive value is a component under relevance. Choice "d" is incorrect. Feedback value is a component under relevance.
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27. Which of the following is included in other comprehensive income? a. Unrealized holding gains and losses on trading securities. b. Unrealized holding gains and losses that result from a debt security being transferred into the held-tomaturity category from the available-for-sale category. c. Foreign currency translation adjustments. d. The difference between the accumulated benefit obligation and the fair value of pension plan assets.
Solution: Choice "c" is correct. The four main components of other comprehensive income include: Pension changes in funded status: due to gains/losses, prior service costs, and net transition assets or obligations. Unrealized gains and losses: unrealized holding gains/losses on available for sale securities and unrealized holding gains and losses on debt securities transferred from the held to maturity to available for sale classification. Foreign currency items, including translation adjustments. The effective portion of cash flow hedges.
Choice "a" is incorrect. Unrealized gains/losses on trading securities go on the income statement. Choice "b" is incorrect. A transfer from the available for sale category to the held to maturity classification would be a move out of other comprehensive income. Choice "d" is incorrect. The difference between the fair value of plan assets and the accumulated benefit obligation is not reported on the financial statements and does not impact other comprehensive income.
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28. Which of the following transactions should be classified as investing activities on an entity's statement of cash flows? a. b. c. d. Increase in accounts receivable. Sale of property, plant and equipment. Payment of cash dividend to the shareholders. Issuance of common stock to the shareholders.
Solution: Choice "b" is correct. The purchase and sale of property, plant, and equipment will fall under cash flow from investing. Choice "a" is incorrect. An increase in accounts receivable will be a decrease in cash flow from operations under the indirect method. Choice "c" is incorrect. A cash dividend payment will be a cash outflow from financing. Choice "d" is incorrect. An issuance of common stock will be a cash inflow from financing.
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29. A company provides the following information: Year 1 Cash receipts from customers: From Year 1 sales From Year 2 sales From Year 3 sales $95,000 Year 2 $120,000 200,000 50,000 Year 3
$75,000 225,000
What is the accrual-based revenue for Year 2? a. b. c. d. $200,000 $275,000 $320,000 $370,000
Solution: Choice "b" is correct. Accrual-based revenue will count all sales applicable to Year 2, regardless of when they are collected. Year 2 sales include the cash receipts in Year 2 ($200,000) plus the Year 3 cash receipts applicable to Year 2 ($75,000). Choice "a" is incorrect. This choice fails to account for Year 3 cash receipts applicable to Year 2 sales. Choice "c" is incorrect. This choice counts cash received in Year 2 for Year 1 and 2 sales. This is not how accrued revenues are calculated. Choice "d" is incorrect. This equals all cash received in Year 2. The question asks for accrual-based revenue, not cash-based revenue.
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30. Milton Co. pledged some of its accounts receivable to Good Neighbor Financing Corporation in return for a loan. Which of the following statements is correct? a. Good Neighbor Financing cannot take title to the receivables if Milton does not repay the loan. Title can only be taken if the receivables are factored. b. Good Neighbor Financing will assume the responsibility of collecting the receivables. c. Milton will retain control of the receivables. d. Good Neighbor Financing will take title to the receivables, and will return title to Milton after the loan is paid.
Solution: Choice "c" is correct. When a company pledges (assigns) receivables in return for a loan, the assigning company (Milton in this example) will retain title to the receivables and will use the proceeds collected from the receivables to repay the loan. Choice "a" is incorrect. Factoring is not the only means by which title can be passed. Choice "b" is incorrect. Milton still assumes the responsibility of collecting the receivables. Choice "d" is incorrect. Milton will retain title to the receivables.
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31. On April 1, Aloe, Inc. factored $80,000 of its accounts receivable without recourse. The factor retained 10% of the accounts receivable as an allowance for sales returns and charged a 5% commission on the gross amount of the factored receivables. What amount of cash did Aloe receive from the factored receivables? a. b. c. d. $68,000 $68,400 $72,000 $76,000
Solution: Choice "a" is correct. Factoring involves a company converting its receivables into cash by assigning them to a "factor" either with or without recourse. Aloe factored its receivables without recourse, meaning the sale is final and the factor assumes the risk of any losses. Of the $80,000 factored, 10% was retained by the factor ($80,000 x 10% = $8,000) and another 5% for commission is taken off ($80,000 x 5% = $4,000) to get to cash received of $68,000 ($80,000 - $8,000 $4,000). Choice "b" is incorrect. This choice incorrectly applies the commission rate to the net amount after accounting for the amount retained by the factor. Choice "c" is incorrect. This choice doesn't account for the 5% commission. Choice "d" is incorrect. This choice doesn't account for the 10% retained by the factor.
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32. What is the appropriate treatment for goods held on consignment? a. b. c. d. The goods should be included in ending inventory of the consignor. The goods should be included in ending inventory of the consignee. The goods should be included in cost of goods sold of the consignee only when sold. The goods should be included in cost of goods sold of the consignor when transferred to the consignee.
Solution: Choice "a" is correct. While an agent (consignee) will hold and sell goods on behalf of the consignor, until the inventory is sold, the seller (consignor) will include in his/her inventory because title and risk of loss are retained by the consignor. Choice "b" is incorrect. The consignor will count the inventory in his/her ending inventory. Choice "c" is incorrect. The goods should be included in the COGS of the consignor only when sold. Choice "d" is incorrect. When the goods are sold to a third party, then the consignor will include them in COGS.
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33. Talton Co. installed new assembly line production equipment at a cost of $185,000. Talton had to rearrange the assembly line and remove a wall to install the equipment. The rearrangement cost $12,000 and the wall removal cost $3,000. The rearrangement did not increase the life of the assembly line but it did make it more efficient. What amount of these costs should be capitalized by Talton? a. b. c. d. $185,000 $188,000 $197,000 $200,000
Solution: Choice "d" is correct. The amount capitalized should include the cost ($185,000), the rearrangement cost (installation charge) of $12,000, and the wall removal cost (which is considered an improvement/betterment designed to increase usefulness) of $3,000 ($185,000 + $12,000 + $3,000 = $200,000). Choice "a" is incorrect. This choice leaves out the rearrangement and wall removal costs. Choice "b" is incorrect. This choice leaves out the rearrangement cost. Choice "c" is incorrect. This choice leaves out the wall removal cost.
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34. Newt Co. sold a warehouse and used the proceeds to acquire a new warehouse. The excess of the proceeds over the carrying amount of the warehouse sold should be reported as a(an): a. b. c. d. Reduction of the cost of the new warehouse. Gain from discontinued operations, net of income taxes. Part of continuing operations. Extraordinary gain, net of taxes.
Solution: Choice "c" is correct. The net gain from the sale of a warehouse and purchase of a new warehouse will fall under continuing operations on the income statement, under "other" revenues and gains. Choice "a" is incorrect. The fact that the proceeds exceeded the carrying amount of the warehouse sold would not serve to reduce the cost basis of the new warehouse. Choice "b" is incorrect. The sale of a warehouse and consequent replacement with a new warehouse do not qualify as discontinued operation. Choice "d" is incorrect. This transaction does not meet the unusual and infrequent criteria of an extraordinary item.
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35. When should a long-lived asset be tested for recoverability? a. b. c. d. When external financial statements are being prepared. When events or changes in circumstances indicate that its carrying amount may not be recoverable. When the asset's carrying amount is less than its fair value. When the asset's fair value has decreased, and the decrease is judged to be permanent.
Solution: Choice "b" is correct. The carrying amount of fixed assets should be tested for recoverability at least annually or whenever events or changes in circumstances indicate the carrying amount may not be recoverable. Choice "a" is incorrect. This choice leaves out the fact that events or changes in circumstances may dictate the carrying amount may not be recoverable. Choice "c" is incorrect. This is not problematic. Choice "d" is incorrect. Even if the fair value has decreased, it may still be above carrying value.
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36. A company recently acquired a copyright that now has a remaining legal life of 30 years. The copyright initially had a 38-year useful life assigned to it. An analysis of market trends and consumer habits indicated that the copyrighted material will generate positive cash flows for approximately 25 years. What is the remaining useful life, if any, over which the company can amortize the copyright for accounting purposes? a. b. c. d. 0 years. 25 years. 30 years. 38 years.
Solution: Choice "b" is correct. Intangible assets should be amortized over the lesser of the useful economic life or the legal life. The useful economic life is 25 years and the legal life is 30 years, so the copyright will be amortized over 25 years. Choice "a" is incorrect. If the useful life is expected to be infinite, then there would be no amortization. Choice "c" is incorrect. Intangible assets should be amortized over the lesser of the useful economic life or the legal life. The useful economic life is 25 years and the legal life is 30 years, so the copyright will be amortized over 25 years. Choice "d" is incorrect. The initial useful life of 38 years is irrelevant because the analysis indicates that the materials have a useful life of only 25 years.
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37. A company reported $6 million of goodwill in last year's statement of financial position. How should the company account for the reported goodwill in the current year? a. Determine the current year's amortizable amount and report the current-year's amortization expense. b. Determine whether the fair value of the reporting unit is greater than the carrying amount and report a gain on goodwill in the income statement. c. Determine whether the fair value of the reporting unit is less than the carrying amount and report an impairment loss on goodwill in the income statement. d. Determine whether the fair value of the reporting unit is greater than the carrying amount and report the recovery of any previous impairment in the income statement.
Solution: Choice "c" is correct. At a reporting unit level, when the fair value is less than the carrying amount, a loss on impairment is booked on the income statement (a debit) and a reduction in goodwill (credit) is booked to the balance sheet. Choice 'a" is incorrect. Goodwill is not amortized. Choice "b" is incorrect. Goodwill "gains" are not booked to the income statement or balance sheet. Choice "d" is incorrect. Restoration of previously recognized impairment losses is prohibited under U.S. GAAP, unless the asset is held for disposal. This is not applicable here, as goodwill is not "disposable."
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38. The senior accountant for Carlton Co., a public company with a complex capital structure, has just finished preparing Carlton's income statement for the current fiscal year. While reviewing the income statement, Carlton's finance director noticed that the earnings per share data has been omitted. What changes will have to be made to Carlton's income statement as a result of the omission of the earnings per share data? a. No changes will have to be made to Carlton's income statement. The income statement is complete without the earnings per share data. b. Carlton's income statement will have to be revised to include the earnings per share data. c. Carlton's income statement will only have to be revised to include the earnings per share data if Carlton's market capitalization is greater than $5,000,000. d. Carlton's income statement will only have to be revised to include the earnings per share data if Carlton's net income for the past two years was greater than $5,000,000.
Solution: Choice "b" is correct. All public entities must present earnings per share on the face of the income statement. In a simple capital structure, basic EPS for income from continuing operations and net income are presented. In a complex capital structure, basic and diluted EPS must be presented for income from continuing operations and net income.
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39. A derivative financial instrument is best described as: a. b. c. d. Evidence of an ownership interest in an entity such as shares of common stock. A contract that has its settlement value tied to an underlying notional amount. A contract that conveys to a second entity a right to receive cash from a first entity. A contract that conveys to a second entity a right to future collections on accounts receivable from a first entity.
Solution: Choice "b" is correct. A derivative is an instrument that derives its value from the value of some other instrument. Choice "a" is incorrect. Evidence of an ownership interest in an entity such as shares of common stock is a financial instrument, but not a derivative. A derivative is an instrument that derives its value from the value of some other instrument. Choice "c" is incorrect. A contract that conveys to a second entity a right to receive cash from a first entity is a financial instrument, but not a derivative. A derivative is an instrument that derives its value from the value of some other instrument. Choice "d" is incorrect. A contract that conveys to a second entity a right to future collections on accounts receivable from a first entity is a financial instrument, but not a derivative. A derivative is an instrument that derives its value from the value of some other instrument.
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40. In Year 2, Ajax, Inc. reported taxable income of $400,000 and pretax financial statement income of $300,000. The difference resulted from $60,000 of nondeductible premiums on Ajax's officers' life insurance and $40,000 of rental income received in advance. Rental income is taxable when received. Ajax's effective tax rate is 30%. In its Year 2 income statement, what amount should Ajax report as income tax expense-current portion? a. b. c. d. $90,000 $102,000 $108,000 $120,000
Solution: Choice "d" is correct. Income tax expense-current portion only accounts for the taxable income multiplied by the tax rate. For Ajax, that is $400,000 x 30% = $120,000. Choice "a" is incorrect. This choice incorrectly calculates income tax expense based on pretax income (from the financial statements). Choice "b" is incorrect. This is the overall income tax expense if the nondeductible premiums were temporary differences and the rental income was permanent. Choice "c" is incorrect. This equals overall income tax expense (included income tax expense-deferred).
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41. When accounting for income taxes, a temporary difference occurs in which of the following scenarios? a. An item is included in the calculation of net income, but is neither taxable nor deductible. b. An item is included in the calculation of net income in one year and in taxable income in a different year. c. An item is no longer taxable due to a change in the tax law. d. The accrual method of accounting is used.
Solution: Choice "b" is correct. A temporary difference arises in situations where items of revenue and expense enter into pretax GAAP financial income in a period before or after they enter into taxable income. Choice "a" is incorrect. This represents a permanent difference. Choice "c" is incorrect. This represents a permanent difference. Choice "d" is incorrect. This is not a scenario that creates a temporary difference.
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42. How are discontinued operations and extraordinary items that occur at midyear initially reported? a. b. c. d. Disclosed only in the notes to the year-end financial statements. Included in net income and disclosed in the notes to the year-end financial statements. Included in net income and disclosed in the notes to interim financial statements. Disclosed only in the notes to interim financial statements.
Solution: Choice "c" is correct. To adequately capture the impact of discountinued operations and extraordinary items, both should be included (prorated) in net income and disclosed in the interim financial statement notes.
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43. Able Co. leased equipment to Baker under a noncancellable lease with a transfer of title. Will Able record depreciation expense on the leased asset and interest revenue related to the lease? Depreciation expense a. b. c. d. Yes Yes No No Interest revenue Yes No No Yes
Solution: Choice "d" is correct. Baker, the lessee, will capitalize the lease (due to the transfer of title) and will incur both depreciation and interest expense. Able will earn and book interest income when the payments from Baker are received. Able will remove the asset from its books at the inception of the lease and will not depreciate the asset.
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44. During the current year, Beta Motor Co. incurred the following costs related to a new solar-powered car: Salaries of laboratory employees researching how to build the new car Legal fees for the patent application for the new car Engineering follow-up during the early stages of commercial production (the follow-up occurred during the current year) Marketing research to promote the new car Design, testing, and construction of a prototype $250,000 20,000 50,000 30,000 400,000
What amount should Beta Motor report as research and development expense in its income statement for the current year? a. b. c. d. $250,000 $650,000 $720,000 $750,000
Solution: Choice "b" is correct. Personnel costs and design/testing/construction both fall under R&D expenses. Choice "a" is incorrect. This choice leaves out the design, testing, and prototype construction. Choice "c" is incorrect. This choice counts the legal fees (which should be capitalized) and the engineering follow-up (which is not classified as R&D). Choice "d" is incorrect. This choice counts the legal fees (which should be capitalized) and the engineering follow-up and marketing research (which are not classified as R&D).
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45. An enterprise must separately report information about an operating segment when the segment's revenue meets what minimum percentage of the combined revenue of all reported operating segments? a. b. c. d. 5% 10% 20% 50%
Solution: Choice "b" is correct. The 10% "Size" test is the quantitative threshold for reportable segments. Any of the three criteria are applicable: 1. Reported revenue (sales to external customers and intersegment sales) greater than or equal to 10% of combined revenue (internal and external) of all operating segments. 2. Reported profit/loss greater than or equal to 10% of the greater (absolute value) of: a. Combined profit of all operating segments that did not report a loss. b. Combined reported loss of all operating segments that did report a loss. 3. Assets greater than or equal to 10% of the combined assets of all operating segments.
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46. King City Council will be establishing a library fund. Library fees are expected to cover 55% of the library's annual resource requirements. King has decided that an annual determination of net income is desirable in order to maintain management control and accountability over library. What type of fund should King establish in order to meet their measurement objectives? a. b. c. d. Special revenue fund. General fund. Internal service fund. Enterprise fund.
Solution: Choice "d" is correct. An enterprise fund is used to account for operations financed and operated in a manner similar to a private business enterprise. This fund is also used for governmental facilities and services intended to be primarily (> 50%) self-supported by user charges. Choice "a" is incorrect. This is a fund used to account for revenues from specific taxes or other earmarked sources designated to finance particular activities of the government. Choice "b" is incorrect. This fund accounts for ordinary operations of a government unit that are financed from taxes and other general revenue. Choice "c" is incorrect. This fund accounts for goods/services provided by designated departments on a fee basis to other departments and agencies within a single government unit or to other government units.
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47. Which of the following statements are required to be presented for special-purpose governments engaged only in business-type activities (such as utilities)? a. b. c. d. Statement of net assets only. Management's Discussion and Analysis (MD&A) and Required Supplementary Information (RSI) only. The financial statements required for governmental funds, including MD&A. The financial statements required for enterprise funds, including MD&A and RSI.
Solution: Choice "d" is correct. Enterprise funds are often used for utilities, and the required financial statements will be a statement of net assets (balance sheet), statement of revenues and expenses (income statement), statement of cash flows, and footnotes. In addition, Management's Discussion and Analysis (MD&A) and Required Supplementary Information (RSI) must also be included.
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48. Brandon County's general fund had the following transactions during the year: Transfer to a debt service fund Payment to a pension trust fund Purchase of equipment $100,000 500,000 300,000
What amount should Brandon County report for the general fund as other financing uses in its governmental funds statement of revenues, expenditures, and changes in fund balances? a. b. c. d. $100,000 $400,000 $800,000 $900,000
Solution: Choice "a" is correct. The transfer to a debt service fund is a transfer out, which will fall under "other financing uses" on the statement of revenues, expenditures, and changes in fund balances. Choice "b" is incorrect. The purchase of equipment is an expenditure. Choice "c" is incorrect. This choice includes both the payment to a pension trust fund and the purchase of equipment (both expenditures) but fails to include the transfer to a debt service fund (an "other financing use"). Choice "d" is incorrect. The payment to a pension trust fund and the purchase of equipment are both classified as expenditures.
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49. During the current year, the local humane society, a nongovernmental not-for-profit organization, received a $100,000 permanent endowment from Cobb. Cobb stipulated that the income must be used to care for older horses that can no longer race. The endowment reported income of $8,000 in the current year. What amount of unrestricted contribution revenue should the humane society report for the current year? a. b. c. d. $108,000 $100,000 $8,000 $0
Solution: Choice "d" is correct. The $100,000 is permanently restricted, and the income derived from the endowment is also donor restricted and will be reported as increases in either temporarily or permanently restricted net assets. None of the funds will be unrestricted.
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50. How should operating expenses for a nongovernmental not-for-profit organization be reported? a. b. c. d. Change in temporarily restricted net assets. Change in unrestricted net assets. Change in permanently restricted net assets. Contra-account to associated revenues.
Solution: Choice "b" is correct. Operating expenses are decreases in unrestricted (as opposed to temporarily or permanently restricted) net assets. Also, operating expenses are listed separately under "Expenses and Losses" in the Statement of Activities (as opposed to being listed as a contra-revenue account).
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51. A company is an accelerated filer that is required to file Form 10-K with the United States Securities and Exchange Commission (SEC). What is the maximum number of days after the company's fiscal year end that the company has to file Form 10-K with the SEC? a. b. c. d. 60 days. 75 days. 90 days. 120 days.
Solution: Choice "b" is correct. In 2002, the SEC approved a deadline of 75 days for Form 10-K "accelerated filers." An accelerated filer is an issuer: With a public float of greater than or equal to $75 million, Subject to the Securities Exchange Act's reporting requirements for greater than or equal to 12 months, That previously filed at least 1 report, Which is not eligible to file quarterly and annual reports on Forms 10-QSB and 10-KSB.
Choice "a" is incorrect. This is the correct filing period for "large accelerated filers" (those with floats over $700 million). Choice "c" is incorrect. This is the time period for non-accelerated filers. Choice "d" is incorrect. This answer is not applicable.
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52. A company is required to file quarterly financial statements with the United States Securities and Exchange Commission on Form 10-Q. The company operates in an industry that is not subject to seasonal fluctuations that could have a significant impact on its financial condition. In addition to the most recent quarter end, for which of the following periods is the company required to present balance sheets on Form 10-Q? a. The end of the corresponding fiscal quarter of the preceding fiscal year. b. The end of the preceding fiscal year and the end of the corresponding fiscal quarter of the preceding fiscal year. c. The end of preceding fiscal year. d. The end of the preceding fiscal year and the end of the prior two fiscal years.
Solution: Choice "c" is correct. Due to the absence of seasonal fluctuations, the end of the preceding fiscal year is the appropriate period to include in addition to the most recent quarter end.
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53. How should a first-time adopter of IFRS recognize the adjustments required to present its opening IFRS statement of financial position? a. All of the adjustments should be recognized in profit or loss. b. Adjustments that are capital in nature should be recognized in retained earnings and adjustments that are revenue in nature should be recognized in profit or loss. c. Current adjustments should be recognized in profit or loss and noncurrent adjustments should be recognized in retained earnings. d. All of the adjustments should be recognized directly in retained earnings or, if appropriate, in another category of equity.
Solution: Choice "d" is correct. Per IFRS 1 (First-Time Adoption of International Financial Reporting Standards), Section 1.11, adjustments go directly to retained earnings or if appropriate, another category of equity at the date of transition to IFRS.
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54. Which of the following is the minimum reporting requirement for a company that is preparing its first IFRS financial statements? a. b. c. d. Three statements of financial position. Two statements of financial position. One statement of comprehensive income. One statement of cash flows.
Solution: Choice "a" is correct. Per IFRS 1 (First-Time Adoption of International Financial Reporting Standards), an entity's first financial statements should include at least: Three balance sheets (statements of financial position), Two statements of comprehensive income, Two separate income statements, Two statements of cash flows, Two statements of changes in equity, and Related notes, including comparative information.
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