Certified Public Accountant CPA Questions + Answers Part 6
Posted: Tue Feb 22, 2022 6:09 pm
QUESTION 112
According to the FASB conceptual framework, which of the following attributes would not be used to measure inventory?
A. Historicalcost.
B. Replacementcost.
C. Net realizable value.
D. Present value of future cash flows.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. The present value of future cash flows is used to measure long-term receivables or payables, not inventory, because inventory is a short-term asset, which has more immediate cash flows. SFAC 5 para. 67
Choice "a" is incorrect. Historical cost can be used to measure inventory because it is a relevant and reliable measurement attribute of current assets such as inventory. Choice "b" is incorrect. Replacement (or current) cost can be used to measure inventory because it is a relevant and reliable measurement attribute of current assets such as inventory. Choice "c" is incorrect. Net realizable value can be used to measure inventory because it is a relevant and reliable measurement attribute of current assets such as inventory.
QUESTION 113
According to the FASB conceptual framework, which of the following situations violates the concept of reliability?
A. Dataonsegmentshavingthesameexpectedrisksandgrowthratesarereportedtoanalystsestimatingfutureprofits.
B. Financialstatementsareissuedninemonthslate.
C. Management reports to stockholders regularly refer to new projects undertaken, but the financial statements never report project results. D. Financial statements include property with a carrying amount increased to management's estimate of market value.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Management's estimate of market value lacks verifiability, which is a component of reliability. SFAC 2 para. 89
Choice "a" is incorrect. Communicating data on segments to analysts does not violate the concept of reliability.
Choice "b" is incorrect. Issuing financial statements nine months late violates timeliness, which is a component of relevance, not reliability. SFAC 2 para. 56 Choice "c" is incorrect. Neglecting to report results of new projects violates full disclosure, not reliability.
QUESTION 114
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List A represents possible clarifications of these transactions as: a change in accounting principle, a change in accounting estimate, a correction of an error in previously presented financial statements, or neither an accounting change nor an accounting error.
Item to Be Answered
Quo changed from FIFO to average cost to account for its raw materials and work in process inventories.
List A (Select one)
A. Changeinaccountingprincipal.
B. Changeinaccountingestimate.
C. Correction of an error in previously presented financial statements.
D. Neither an accounting change nor an accounting error.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Change in inventory pricing method from FIFO to average cost is a change in accounting principle.
QUESTION 115
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List B represents the general accounting treatment required for these transactions. These treatments are:
· Cumulative effect approach - Include the cumulative effect of the adjustment resulting from the accounting change or error correction in the 1993 financial statements, and do not restate the 1992 financial statements.
· Retroactive or retrospective restatement approach - Restate the 1992 financial statements and adjust 1992 beginning retained earnings if the error or change affects a period prior to 1992. · Prospective approach - Report 1993 and future financial statements on the new basis but do not restate 1992 financial statements.
Item to Be Answered
Quo changed from FIFO to average cost to account for its raw materials and work in process inventories.
List B (Select one)
A. Cumulativeeffectapproach.
B. Retroactiveorretrospectiverestatementapproach. C. Prospective approach.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "B" is correct. A change in accounting principle should be shown in the retained earnings statement of the earliest year presented as an adjustment of the beginning balance. All prior year financial statements are recast.
QUESTION 116
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List A represents possible clarifications of these transactions as: a change in accounting principle, a change in accounting estimate, a correction of an error in previously presented financial statements, or neither an accounting change nor an accounting error.
Item to Be Answered
Quo sells extended service contracts on its products. Because related services are performed over several years, in 1993 Quo changed from the cash method to the accrual method of recognizing income from these service contracts.
List A (Select one)
A. Changeinaccountingprincipal.
B. Changeinaccountingestimate.
C. Correction of an error in previously presented financial statements. D. Neither an accounting change nor an accounting error.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Change from the cash method to the accrual method is a correction of an error in previously presented financial statements.
QUESTION 117
Conceptually, interim financial statements can be described as emphasizing:
A. Timelinessoverreliability.
B. Reliabilityoverrelevance.
C. Relevance over comparability. D. Comparability over neutrality.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Interim financial statements emphasize timeliness (an element of relevance) by providing financial information based on actual performance to date and estimates prior to year end. Information must be available when it is needed to be useful. Reliability is impeded by the extensive use of estimates; however, the lag until verifiability is obtained detracts from usefulness. SFAC 2 para. Choice "b" is incorrect. Relevance (particularly timeliness) of information in interim financial statements is emphasized more than reliability. Reliability is impeded by the extensive use of estimates in interim data.
Choice "c" is incorrect. Since comparability is a secondary quality of information, there should be no need to trade off comparability for relevance (a primary quality). Choice "d" is incorrect. Neutrality is an element of reliability (a primary quality of information. There should be NO need for a trade-off for comparability over neutrality.
QUESTION 118
APB Opinion No. 28, Interim Financial Reporting, concluded that interim financial reporting should be viewed primarily in which of the following ways?
A. Asusefulonlyifactivityisspreadevenlythroughouttheyear.
B. Asiftheinterimperiodwereanannualaccountingperiod.
C. As reporting for an integral part of an annual period.
D. As reporting under a comprehensive basis of accounting other than GAAP.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Interim financial reporting should be viewed as reporting for an integral part of an annual period. Choices "a", "b", and "d" are incorrect, per the above rule.
QUESTION 119
During the first quarter of 1993, Tech Co. had income before taxes of $200,000, and its effective income tax rate was 15%. Tech's 1992 effective annual income tax rate was 30%, but Tech expects its 1993 effective annual income tax rate to be 25%. In its first quarter interim income statement, what amount of income tax expense should Tech report?
A. $0
B. $30,000 C. $50,000 D. $60,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Interim period tax expense is the estimated annual effective tax rate (25% in this case) applied to the year-to-date income before taxes minus the tax expense recognized in previous interim periods. Since this question involves the first quarter, there are no previous interim periods.
25% × $200,000 = $50,000. FIN 18, para. 16
Choice "a" is incorrect. Income tax expense is reported in interim income statements. Choice "b" is incorrect. The 1993 annual estimated tax rate, not the first quarter effective tax rate, is used to calculate income tax expense for interim statements. Choice "d" is incorrect. The 1993 annual estimated tax rate, not the 1992 annual effective tax rate, is used to calculate income tax expense for interim statements.
QUESTION 120
A segment of Ace Inc. was discontinued during 1992. Ace's loss from discontinued operations should not:
A. Includeemployeerelocationcostsassociatedwiththedecisiontodispose.
B. Excludeoperatinglossesfromthedatethedecisiontodisposeofthesegmentwasmadeuntiltheendof1992. C. Include additional pension costs associated with the decision to dispose.
D. Include operating losses of the current period up to the date the decision to dispose of the segment was made.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Ace's loss on discontinued operations should not exclude operating losses from the date the decision to dispose of the segment was made until the end of 1992. All 1992 operating losses should be included.
Choice "a" is incorrect. Employee relocation costs associated with the decision to dispose should be included in the loss from discontinued operations.
Choice "c" is incorrect. Additional pension costs associated with the decision to dispose should be included in the loss from discontinued operations.
Choice "d" is incorrect. Ace's loss on discontinued operations should include operating losses of the current period up to the date the decision to dispose of the segment was made and also after that date.
All 1992 operating losses should be included.
QUESTION 121
On December 31, 20X2, the Board of Directors of Maxy Manufacturing, Inc. committed to a plan to discontinue the operations of its Alpha division. Maxy estimated that Alpha's 20X3 operating loss would be $500,000 and that the fair value of Alpha's facilities was $300,000 less than their carrying amounts.
The estimate for 20X3 turned out to be correct. Alpha's 20X2 operating loss was $1,400,000, and the division was actually sold for $400,000 less than its carrying amount. Maxy's effective tax rate is 30%. In its 20X3 income statement, what amount should Maxy report as loss from discontinued operations?
A. $350,000
B. $500,000 C. $420,000 D. $600,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The 20X3 loss from discontinued operations would include both the 20X3 operating loss of $500,000 (which turned out to be a correct estimate) and the "additional" loss (on disposal) of $100,000, net of tax, for a total of $600,000 x .70 or $420,000. Choice "a" is incorrect. It includes the 20X3 operating loss of $500,000 but not the $300,000 impairment loss but does report the 20X3 operating loss net of tax. Choice "b" is incorrect. It includes the 20X3 operating loss of $500,000, but not the $100,000 loss on disposal, and reports the 20X3 operating loss gross of tax and not net of tax. Choice "d" is incorrect. It reports the 20X3 loss from discontinued operations gross of tax and not net of tax. The 20X3 loss from discontinued operations should include both the 20X3 operating loss of $500,000 and the loss on disposal of $100,000, net of tax, for a total of $600,000 x .70 or $420,000.
QUESTION 122
On June 30, 1991, Mill Corp. incurred a $100,000 net loss from disposal of a component of a business. Also, on June 30, 1991, Mill paid $40,000 for property taxes assessed for the calendar year 1991. What amount of the foregoing items should be included in the determination of Mill's net income or loss for the six-month interim period ended June 30, 1991?
A. $140,000 B. $120,000 C. $90,000 D. $70,000
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. $120,000 expense included in the determination of net income or loss for the sixmonth interim period ended June 30, 1991.
QUESTION 123
During 20X5, Dale Corp. made the following accounting changes:
What amount should be shown in the 20X5 retained earnings statement as an adjustment to the beginning balance?
A. $0
B. $30,000 C. $98,000 D. $128,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. $98,000.
The cumulative effect of a change in accounting principle is now shown on the retained earnings statement as an adjustment to the beginning balance of retained earnings, assuming that the cumulative effect can be calculated. A change from LIFO to FIFO for inventory valuation (costing) is a change in accounting principle. An exception is made however, for a change in depreciation method, since a change in depreciation method is no longer considered to be a change in accounting principle. A change in depreciation method is now considered to be both a change in principle and a change in estimate. These changes should now be accounted for as a change in estimate and handled prospectively. The new depreciation method should be used as of the beginning of the year of change and should start with the current book value of the underlying asset. No retroactive or retrospective calculations should be made, and no adjustment should be made to retained
earnings.
Choices "a", "b", and "d" are incorrect, per the above Explanation: .
QUESTION 124
Earnings per share data should be reported on the income statement for:
A. Option A B. OptionB C. Option C D. Option D
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Yes - Yes.
Both the "extraordinary items" and "income before extraordinary items" should be shown with an earnings per share number on the income statement.
QUESTION 125
The effect of a change in accounting principle that is inseparable from the effect of a change in accounting estimate should be reported:
A. Byrestatingthefinancialstatementsofallpriorperiodspresented.
B. Asacorrectionofanerror.
C. As a component of income from continuing operations, in the period of change and future periods if the change affects both.
D. As a separate disclosure after income from continuing operations, in the period of change and future periods if the change affects both.
Correct Answer: C Section: (none)
Explanation Explanation/Reference:
Explanation:
Choice "c" is correct. A change in accounting principle that is inseparable from a change in accounting estimate should now be reported as a change in estimate and thus as a component of income from continuing operations, in the period of change and future periods if the change affects both. Distinguishing between a change in accounting principle and a change in accounting estimate is sometimes difficult. For example, a company may change from deferring and amortizing a cost to recording it as an expense when incurred because future benefits of the cost have become doubtful. The new accounting method is adopted, therefore, in partial or complete recognition of the change in estimated future benefits. The effect of the change in principle is inseparable from the effect of the change in estimate. Changes of this type are often related to the continuing process of obtaining additional information and revising estimates and are therefore considered as changes in estimates. Choice "a" is incorrect. Restating the financial statements of all prior periods would be done in the case of prior period adjustments (corrections of errors), changes in accounting principle (retrospective application), and changes in accounting entity (retrospective application). Choice "b" is incorrect. Correction of an error would be treated as a prior period adjustment. Choice "d" is incorrect. Separate disclosure after income from continuing operations would be done in the case of extraordinary items or discontinued operations. However, this disclosure would not be made "in the period of change and future periods if the change affects both" but only in the period of the extraordinary item or discontinued operation.
QUESTION 126
At December 31, 1998, Off-Line Co. changed its method of accounting for demo costs from writing off the costs over two years to expensing the costs immediately. Off-Line made the change in recognition of an increasing number of demos placed with customers that did not result in sales. Off-Line had deferred demo costs of $500,000 at December 31, 1997, $300,000 of which were to be written off in 1998 and the remainder in 1999. Off-Line's income tax rate is 30%. In its 1998 financial statements, what amount should Off-Line report as cumulative effect of change in accounting principle?
A. $0
B. $200,000 C. $350,000 D. $500,000
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. When a change in accounting principle is considered inseparable from a change in estimate, the change is handled as a change in estimate - prospectively. No cumulative effect adjustment is made.
Choices "b", "c", and "d" are incorrect since no cumulative effect adjustment is made.
QUESTION 127
How should the effect of a change in accounting principle that is inseparable from the effect of a change in accounting estimate be reported?
A. Asacomponentofincomefromcontinuingoperations.
B. Byrestatingthefinancialstatementsofallpriorperiodspresented. C. As a correction of an error.
D. By footnote disclosure only.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. When the effect of a change in accounting principle is inseparable from the effect of a change in accounting estimate, the reporting treatment for the overall effect is as a change in estimate.
Thus, the effect is reported prospectively as a component of income from continuing operations. Under SFAS No. 154, this type of change is now called a change in accounting estimate affected by a change in accounting principle.
Choice "b" is incorrect. Restatement of all prior periods is the retroactive accounting treatment that is applied to the correction of an error and the retrospective accounting treatment given to changes in accounting principle. However, a change in accounting principle that is inseparable from the effect of a change in accounting estimate is now treated as a change in accounting estimate. Choice "c" is incorrect. Correction of an error is given retroactive treatment as a prior period adjustment to retained earnings with restatement of prior periods. This is not the treatment appropriate for the effect of a change in accounting principle that is inseparable from the effect of a change in accounting estimate.
Choice "d" is incorrect. While footnote disclosure is always appropriate for an accounting change, such disclosure alone is never the appropriate accounting treatment.
QUESTION 128
In September 1996, Koff Co.'s operating plant was destroyed by an earthquake. Earthquakes are rare in the area in which the plant was located. The portion of the resultant loss not covered by insurance was $700,000. Koff's income tax rate for 1996 was 40%. In its 1996 income statement, what amount should Koff report as extraordinary loss?
A. $0
B. $280,000 C. $420,000 D. $700,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. For a loss to be reported as an extraordinary loss, the event causing the loss must be both unusual in nature and infrequent in occurrence. The earthquake in this case does meet these criteria so the loss is reported net of income tax effect as an extraordinary loss of $420,000 (60% of the total $700,000 loss). APB 30.11, .19-.26
Choice "a" is incorrect. Review the criteria for reporting an extraordinary loss. Choice "b" is incorrect. This is the tax effect of the loss. Review your calculations. Choice "d" is incorrect. It is not appropriate to report the full loss as an extraordinary loss.
QUESTION 129
In open market transactions, Gold Corp. simultaneously sold its long-term investment in Iron Corp. bonds and purchased its own outstanding bonds. The broker remitted the net cash from the two transactions.
Gold's gain on the purchase of its own bonds exceeded its loss on the sale of the Iron bonds. Assume the transaction to purchase its own outstanding bonds is unusual in nature and has occurred infrequently.
Gold should report the:
A. Neteffectofthetwotransactionsasanextraordinarygain.
B. Neteffectofthetwotransactionsinincomebeforeextraordinaryitems.
C. Effect of its own bond transaction gain in income before extraordinary items, and report the Iron bond transaction as an extraordinary loss. D. Effect of its own bond transaction as an extraordinary gain, and report the Iron bond transaction loss in income before extraordinary items.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct, these are two separate transactions because Gold Corp. (1) sold Iron Corp. bonds (an investment) for a loss, and, (2) bought back its own (Gold) Corp. bonds (a debt) for a gain. This is not a "refinancing" (where one would sell new bond debt to buy back old bond debt outstanding). The gain from the purchase of its own bonds is an "extraordinary gain" because it is both unusual in nature and infrequently occurring (per APB Opinion No. 30 and SFAS No. 145). The Iron Corp. transaction is a loss in "income before extraordinary items." Choices "a" and "b" are incorrect. The two transactions are separate and cannot be
netted. Choice "c" is incorrect. Just the opposite. The sale of the investment is a loss in "income before extraordinary items," while the purchase of its bond debt is an "extraordinary gain" according to the provisions of APB Opinion No. 30.
QUESTION 130
What is the underlying concept that supports the immediate recognition of a contingent loss?
A. Substanceoverform. B. Consistency.
C. Matching.
D. Conservatism.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Conservatism is a prudent reaction to uncertainty to try to ensure that uncertainty and risks inherent in business situations are adequately considereD. Recognition of a contingent loss is the recording of an amount representing uncertainty and risk in a business situation. SFAC 2, SFAS 5 para. 82 Choice "a" is incorrect. The substance over form concept presumes that the transaction form may not dictate the accounting treatment.
Choice "b" is incorrect. Consistency is conformity from period to period with unchanging policies and procedures. SFAC 2
Choice "c" is incorrect. The matching principle dictates that expenses be matched with the related revenues generated or the time period in which the expense is incurred and known. SFAS #5 cites matching as the one concept supporting the immediate recognition of a contingent loss, but it is not the primary underlying concept. SFAS 5 para. 76
QUESTION 131
According to the FASB conceptual framework, the process of reporting an item in the financial statements of an entity is:
A. Allocation. B. Matching. C. Realization. D. Recognition.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Recognition is the process of recording an item in the financial statements of an entity. SFAC 5 para. 6
Choice "a" is incorrect. Allocation is the accounting process of assigning or distributing an amount according to a plan or a formulA. SFAC 6 para. 142
Choice "b" is incorrect. Matching of costs and revenues is simultaneous or combined recognition of the revenues and expenses that result directly and jointly from the same transactions or other events. SFAC 6 para. 146
Choice "c" is incorrect. Realization is the process of converting noncash resources and rights into money. SFAC 6 para. 143
QUESTION 132
What are the Statements of Financial Accounting Concepts intended to establish?
A. Generallyacceptedaccountingprinciplesinfinancialreportingbybusinessenterprises.
B. Themeaningof"Presentfairlyinaccordancewithgenerallyacceptedaccountingprinciples."
C. The objectives and concepts for use in developing standards of financial accounting and reporting. D. The hierarchy of sources of generally accepted accounting principles.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Statements of Financial Accounting Concepts are intended to establish the objectives and concepts that the Financial Accounting Standards Board will use in developing standards of financial accounting and reporting. SFAC 1 para. 3 Choice "a" is incorrect. The Statements of Financial Accounting Concepts do not specify financial accounting standards prescribing accounting procedures or practices. SFAC 1 para. 3 Choice "b" is incorrect. Auditing standards develop the meaning of "Present fairly in accordance with generally accepted accounting principles."
Choice "d" is incorrect. The hierarchy of sources of generally accepted accounting principles is determined by GAAP.
QUESTION 133
During a period when an enterprise is under the direction of a particular management, its financial statements will directly provide information about:
A. Bothenterpriseperformanceandmanagementperformance.
B. Managementperformancebutnotdirectlyprovideinformationaboutenterpriseperformance. C. Enterprise performance but not directly provide information about management performance. D. Neither enterprise performance nor management performance.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Financial reporting, and especially financial statements, usually cannot and do not separate management performance from enterprise performance. Financial reporting provides information about an enterprise during a period when it was under the direction of a particular management but does not directly provide information about that management's performance. SFAC 1 para. 53
QUESTION 134
According to the FASB conceptual framework, which of the following statements conforms to the realization concept?
A. Equipmentdepreciationwasassignedtoaproductiondepartmentandthentoproductunitcosts. B. Depreciatedequipmentwassoldinexchangeforanotereceivable.
C. Cash was collected on accounts receivable.
D. Product unit costs were assigned to cost of goods sold when the units were sold.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Revenues and gains are realized when assets are exchanged for cash or claims to cash. SFAC 5 para. 83.
Choice "a" is incorrect. Assigning depreciation in a production department is an example of allocating overhead. There is no realization associated with the assignment. Choice "c" is incorrect. The realization concept is integral to accounting for revenues and expenses and is not connected to collection of receivables. Choice "d" is incorrect. Assignment of overhead costs to products and thus to cost of goods sold is an example of matching. There is no realization associated with this assignment.
QUESTION 135
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List B represents the general accounting treatment required for these transactions. These treatments are:
· Cumulative effect approach - Include the cumulative effect of the adjustment resulting from the accounting change or error correction in the 1993 financial statements, and do not restate the 1992 financial statements.
· Retroactive or retrospective restatement approach - Restate the 1992 financial statements and adjust 1992 beginning retained earnings if the error or change affects a period prior to 1992. · Prospective approach - Report 1993 and future financial statements on the new basis but do not restate 1992 financial statements.
Item to Be Answered
Quo sells extended service contracts on its products. Because related services are performed over several years, in 1993 Quo changed from the cash method to the accrual method of recognizing income from these service contracts.
List B (Select one)
A. Cumulativeeffectapproach.
B. Retroactiveorretrospectiverestatementapproach. C. Prospective approach.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "B" is correct. If comparative FS are issued, restate prior year's FS. If comparative FS are not issued, restate prior year-end's retained earnings account by "adjusting" (net of tax) the opening balance of the current retained earnings statement. Note that when an error is corrected, retroactive restatement is used, and when there is a change in accounting principle, retrospective restatement is done.
However, this is only a difference in terminology.
QUESTION 136
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List A represents possible clarifications of these transactions as: a change in accounting principle, a change in accounting estimate, a correction of an error in previously presented financial statements, or neither an accounting change nor an accounting error.
Item to Be Answered
During 1993, Quo determined that an insurance premium paid and entirely expensed in 1992 was for the period January 1, 1992, through January 1, 1994.
List A (Select one)
A. Changeinaccountingprincipal.
B. Changeinaccountingestimate.
C. Correction of an error in previously presented financial statements. D. Neither an accounting change nor an accounting error.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Expensing insurance premiums when paid (rather than allocating them to the periods benefited) is a correction of an error in previously presented financial statements.
QUESTION 137
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List B represents the general accounting treatment required for these transactions. These treatments are:
· Cumulative effect approach - Include the cumulative effect of the adjustment resulting from the accounting change or error correction in the 1993 financial statements, and do not restate the 1992 financial statements.
· Retroactive or retrospective restatement approach - Restate the 1992 financial statements and adjust 1992 beginning retained earnings if the error or change affects a period prior to 1992. · Prospective approach - Report 1993 and future financial statements on the new basis but do not restate 1992 financial statements.
Item to Be Answered
During 1993, Quo determined that an insurance premium paid and entirely expensed in 1992 was for the period January 1, 1992, through January 1, 1994.
List B (Select one)
A. Cumulativeeffectapproach.
B. Retroactiveorretrospectiverestatementapproach. C. Prospective approach.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "B" is correct. If comparative FS are issued, restate prior year's FS. If comparative FS are not issued, restate prior year-end's retained earnings account by "adjusting" (net of tax) the opening balance of the current retained earnings statement.
QUESTION 138
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List A represents possible clarifications of these transactions as: a change in accounting principle, a change in
accounting estimate, a correction of an error in previously presented financial statements, or neither an accounting change nor an accounting error.
During 1993, Quo increased its investment in Worth, Inc. from a 10% interest, purchased in 1992, to 30%, and acquired a seat on Worth's board of directors. As a result of its increased investment, Quo changed its method of accounting for investment in Worth, Inc. from the cost method to the equity method.
List A
A. Changeinaccountingprinciple.
B. Changeinaccountingestimate.
C. Correction of an error in previously presented financial statements. D. Neither an accounting change nor an accounting error.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. A change from the cost method (less than 20% ownership) to the equity method (20% or more ownership or a Board seat or other significant influence) of accounting for investment in an investee is neither an accounting change nor an accounting error. If it is not an accounting change, it cannot be a change in accounting principle or a change in accounting estimate since those two types of changes are both accounting changes.
There is a considerable amount of controversy on this particular answer. Some people think that this change is a change in accounting principle (something certainly changed, but was it the accounting principle?), and others think it is a change in accounting entity (which is not one of the available answers; anyway, did the accounting entity actually change or is it the same entity accounted for differently?). Under SFAS No. 154, a change in accounting principle is treated retrospectively and a change in accounting entity is treated retrospectively.
This kind of change (cost to equity) has never been specifically identified in any accounting literature as either a change in accounting principle or a change in accounting entity. The words "cost method" were never mentioned in APB 20 (other than the full cost method for oil & gas companies, which is an entirely different subject), nor was it mentioned in SFAS No. 154. It was, however, discussed in APB 18 (the pronouncement for the equity method) in Paragraph 19m (bold added): "An investment in common stock of an investee that was previously accounted for on other than the equity method may become qualified for use of the equity method by an increase in the level of ownership described in paragraph 17 (i.e., acquisition of additional voting stock by the investor, acquisition or retirement of voting stock by the investee, or other transactions). When an investment qualifies for use of the equity method, the investor should adopt the equity method of accounting. The investment, results of operations (current and prior
periods presented), and retained earnings of the investor should be adjusted retroactively in a manner consistent with the accounting for a step-by-step acquisition of a subsidiary."
What does all this mean? It means that, when there is a change in the percentage of ownership that changes accounting from the cost method to the equity method, the change is treated retroactively (just like changes in accounting entity used to be treated, although they are now treated retrospectively). It does not say that the change is a change in accounting principle or anything else. Nothing in SFAS No.154 changed this treatment. So all this still makes Choice "d" correct. This whole issue might easily be considered to be splitting hairs, at the very least. Some questions on the CPA exam are just that way.
Most are not.
QUESTION 139
On August 31, 1992, Harvey Co. decided to change from the FIFO periodic inventory system to the weighted average periodic inventory system. Harvey is on a calendar year basis. The cumulative effect of the change is determined:
A. AsofJanuary1,1992.
B. AsofAugust31,1992.
C. During the eight months ending August 31, 1992, by a weighted average of the purchases. D. During 1992 by a weighted average of the purchases.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Rule: The cumulative effect of a change in accounting principle equals the difference between retained earnings at the beginning of period of the change and what retained earnings would have been if the change was applied to all affected prior periods.
Choice "a" is correct. As of January 1, 1992, the beginning of the year. This assumes that the company is not presenting comparative financial statements. If comparative financial statements are presented, then the adjustment is made to the beginning retained earnings of the earliest year presented. Choice "b" is incorrect. The cumulative effect of the change is not determined as of the date the decision is made.
Choices "c" and "d" are incorrect. The cumulative effect of the change is not determined by a weighted average. (A far out distractor.)
QUESTION 140
Which of the following is true regarding the presentation of "comprehensive income."
A. Option A
B. OptionB C. Option C D. Option D
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. No - Yes.
Comprehensive income may be shown on the face of a combined "statement of income and comprehensive income" a separate section below net income, or in:
1. Separate "statement of comprehensive income," or as a
2. Component of the "statement of changes of owners' equity." The income tax expense or benefit allocated to components must be disclosed, either on the face of the statement or in notes to the statement.
Choices "a", "b", and "d" are incorrect, per the above rules.
QUESTION 141
Reclassification adjustments must be shown in the financial statement that discloses comprehensive income:
A. Toshowwhatportionofcomprehensiveincomeisfromtherealizationofcurrentassets.
B. Toshowthetaxeffectofitemsofcomprehensiveincome.
C. To avoid double counting in comprehensive income items, which are currently displayed in net income. D. To avoid including transactions with shareholders in items of comprehensive income.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Reclassification entries may be necessary to avoid double counting an item previously reported as comprehensive income (i.e., unrealized gain), which are now reported as part of net income (i.e., realized gain).
Choice "a" is incorrect. The classification of assets as current or non-current has no bearing on reporting comprehensive income.
Choice "b" is incorrect. All items of comprehensive income must be shown net of the related tax effects, but it is not done with reclassification adjustments. Choice "d" is incorrect. Transactions with shareholders such as paying dividends and issuing capital stock are not included in comprehensive income, thus, reclassification adjustments are not necessary to exclude them.
QUESTION 142
Dean Co. acquired 100% of Morey Corp. prior to 1989. During 1989, the individual companies included in their financial statements the following:
What amount should be reported as related party disclosures in the notes to Dean's 1989 consolidated financial statements?
A. $150,000 B. $155,000 C. $175,000 D. $330,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The only related party transaction that would require disclosure (assuming that all amounts are material to the financial statements) would be the loans to officers since they are outside of the ordinary course of business.
Choices "a", "b", and "d" are incorrect. Officers' salaries, officers' expenses and intercompany sales (between entities included in a consolidated set of financial statements) are all transactions in the ordinary course of business and generally would not require disclosure.
QUESTION 143
During the second quarter of 1988, Buzz Company sold a piece of equipment at a $12,000 gain. What portion of the gain should Buzz report in its income statement for the second quarter of 1988?
A. $12,000 B. $6,000 C. $4,000 D. $0
Correct Answer: A
Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. $12,000.
Rule: The entire amount of an "extraordinary gain or loss" or an "unusual or infrequently occurring item," e.g., a gain or loss from sale of fixed assets, should be reported during the period (quarter) incurred.
Choices "b", "c", and "d" are incorrect. The full gain should be reported in the second quarter when it occurred.
Business Environment and Concepts
QUESTION 1
Locke and Vorst were general partners in a kitchen equipment business. On behalf of the partnership, Locke contracted to purchase 15 stoves from Gage. Unknown to Gage, Locke was not authorized by the partnership agreement to make such contracts. Vorst refused to allow the partnership to accept delivery of the stoves and Gage sought to enforce the contract. Gage will:
A. Lose,becauseLocke'sactionwasnotauthorizedbythepartnershipagreement. B. Lose,becauseLockewasnotanagentofthepartnership.
C. Win, because Locke had express authority to bind the partnership.
D. Win, because Locke had apparent authority to bind the partnership.
Correct Answer: D
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Every partner is an agent of the partnership and has apparent authority to bind the partnership to contracts that appear to carry on in the usual way the business of the partnership. It would be usual for a partner in a kitchen equipment business to have authority to purchase stoves. Thus, Gage will win because of Locke's apparent authority. Choice "a" is incorrect. Every partner is an agent for his partnership and has apparent authority to bind the partnership to contracts that appear to carry on in the usual way the business of the partnership. Choice "b" is incorrect. Every partner is an agent of the partnership. Choice "c" is incorrect. Locke did not have express authority to purchase the stoves. The facts state that Locke was not authorized to purchase the stoves and thus lacked express authority.
QUESTION 2
On dissolution of a general partnership, distributions will be made on account of:
A. Partners'capitalaccounts.
II. Amounts owed partners with respect to profits.
III. Amounts owed partners for loans to the partnership. In the following order:
B. III,I,andII.
C. I, II, and III.
D. II, III, and I.
E. III,II,andI.
Correct Answer: A
Section: Business Environment and Concepts (Volume A)
Explanation Explanation/Reference:
Explanation:
Choice "a" is correct.
Rule: On dissolution of a general partnership the "order of distribution" would be as follows:
III. General partner loans.
I. Partners' capital accounts.
II. General partners' profits.
Choices "b", "c", and "d" are incorrect, per the above rule.
QUESTION 3
Which of the following is not necessary to create an express partnership?
A. Executionofawrittenpartnershipagreement.
B. Agreementtoshareownershipofthepartnership.
C. Intention to conduct a business for profit.
D. Intention to create a relationship recognized as a partnership.
Correct Answer: A
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. A written partnership agreement, while certainly desirable, is not usually necessary to form a valid partnership; partnership agreements are not normally subject to the statute of frauds.
Choice "b" is incorrect. A partnership is an association of two or more persons who agree to carry on as co-owners of a business for profit. Thus, an agreement to share ownership of the partnership is a requirement for creating an express partnership.
Choice "c" is incorrect. A partnership is an association of two or more persons who agree to carry on as co-owners of a business for profit. Thus, an intent to carry on a business for a profit is a requirement for creating an express partnership.
Choice "d" is incorrect. A partnership is an association of two or more persons who agree to carry on as co-owners of a business for profit. The intent to create a business relationship recognized as a partnership is a requirement for creating an express partnership.
QUESTION 4
Heather, Erika, and Shelby are members in HES LLC. Heather works 40 hours per week and Erika and Shelby work 20 hours per week. Heather contributed $30,000 to the LLC and Erika and Shelby contributed $60,000 each. Erika and Shelby have each originated 45% of the LLC's business and Heather has originated the other 10%.
If HES were a general partnership, who controls management?
A. Heather,becausesheworksthemost.
B. ErikaandShelbyequallybecausetheycontributedthemost. C. Heather, Erika, and Shelby equally because of state law.
D. Erika and Shelby, because they originate most of the work.
Correct Answer: C
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct.
Rule: Absent an agreement to the contrary, partners have equal management authority. Choices "a", "b", and "d" are incorrect, per the above rule.
QUESTION 5
Rivers and Lee want to form a partnership. For the partnership agreement to be enforceable, it must be in writing if:
A. RiversandLeeresideindifferentstates.
B. Theagreementcannotbecompletedwithinoneyearfromthedateonwhichitwillbeenteredinto. C. Either Rivers or Lee is to contribute more than $500 in capital.
D. The partnership intends to buy and sell real estate.
Correct Answer: B
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. A transaction which cannot be completed within a year must be in writing to be enforceable.
Choice "a" is incorrect. Residence of the prospective partners is not relevant. Choice "c" is incorrect. The statute of frauds $500 threshold applies to the sale of goods only. Choice "d" is incorrect. Transactions in land are within the statute of frauds, but the possibility that a partnership may engage in a real estate transaction is not a transaction in land.
QUESTION 6
Which of the following statements is correct regarding the division of profits in a general partnership when the written partnership agreement only provides that losses be divided equally among the partners?
Profits are to be divided:
A. Basedonthepartners'ratioofcontributiontothepartnership. B. Basedonthepartners'participationinday-to-daymanagement. C. Equally among the partners.
D. Proportionately among the partners.
Correct Answer: C
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct.
Rule: When the partnership agreement is silent as to how profits are to be divided, they are divided equally. Note also that when the agreement is silent, losses are treated similar to profits, there is no reverse rule that profits are treated like losses.
Choices "a", "b", and "d" are incorrect, per the above rule.
QUESTION 7
Downs, Frey, and Vick formed the DFV general partnership to act as manufacturers' representatives. The partners agreed Downs would receive 40% of any partnership profits and Frey and Vick would each receive 30% of such profits. It was also agreed that the partnership would not terminate for five years.
After the fourth year, the partners agreed to terminate the partnership. At that time, the partners' capital accounts were as follows: Downs, $20,000; Frey, $15,000; and Vick, $10,000. There also were undistributed losses of $30,000.
Which of the following statements about the form of the DFV partnership agreement is correct?
A. Itmustbeinwritingbecausethepartnershipwastolastforlongerthanoneyear. B. Itmustbeinwritingbecausepartnershipprofitswouldnotbeequallydivided.
C. It could be oral because the partners had explicitly agreed to do business together. D. It could be oral because the partnership did not deal in real estate.
Correct Answer: A
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Under the statute of frauds, an agreement, which by its terms cannot be performed within a year, must be evidenced by a writing containing the material terms and signed by the parties to be charged. Absent a writing, the partnership will be treated as a partnership at will. Choice "b" is incorrect. There is no requirement that partnership agreements be in writing merely because profits will be divided unequally.
Choice "c" is incorrect. The statute of frauds requires contracts that cannot by their terms be performed within one year to be evidenced by a writing containing the material terms and signed by the parties to be charged.
Choice "d" is incorrect. Whether or not a partnership is to deal in real estate is irrelevant to whether the partnership agreement must be in writing.
QUESTION 8
Downs, Frey, and Vick formed the DFV general partnership to act as manufacturers' representatives. The partners agreed Downs would receive 40% of any partnership profits and Frey and Vick would each receive 30% of such profits. It was also agreed that the partnership would not terminate for five years.
After the fourth year, the partners agreed to terminate the partnership. At that time, the partners' capital accounts were as follows: Downs, $20,000; Frey, $15,000; and Vick, $10,000. There also were undistributed losses of $30,000.
Vick's share of the undistributed losses will be:
A. $0
B. $1,000 C. $9,000 D. $10,000
Correct Answer: C
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Rule: Where the partnership agreement is silent, losses are shared in the same proportion as profits. Choice "c" is correct. Vick was entitled to 30% of the profits and so will be responsible for 30% of the undistributed $30,000 loss, or $9,000.
Choices "a", "b", and "d" are incorrect, per the above rule.
QUESTION 9
Lewis, Clark, and Beal entered into a written agreement to form a partnership. The agreement required that the partners make the following capital contributions: Lewis, $40,000, Clark, $30,000, and Beal, $10,000. It was also agreed that in the event the partnership experienced losses in excess of available capital, Beal would contribute additional capital to the extent of the losses. The partnership agreement was otherwise silent about division of profits and losses. Which of the following statements is correct?
A. Profitsaretobedividedamongthepartnersinproportiontotheirrelativecapitalcontributions.
B. Profitsaretobedividedequallyamongthepartners.
C. Losses will be allocated in a manner different from the allocation of profits because the partners contributed different amounts of capital. D. Beal's obligation to contribute additional capital would have an effect on the allocation of profit or loss to Beal.
Correct Answer: B
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct.
Rule: Regardless of the contributions and obligations of the partners, unless the partnership agreement specifically states otherwise, all partners are entitled to an equal share of the profits. Choices "a", "c", and "d" are incorrect, per the above rule.
QUESTION 10
Gillie, Taft, and Dall are partners in an architectural firm. The partnership agreement is silent about the payment of salaries and the division of profits and losses. Gillie works full-time in the firm, and Taft and Dall each work half time. Taft invested $120,000 in the firm, and Gillie and Dall invested $60,000 each. Dall is responsible for bringing in 50% of the business, and Gillie and Taft 25% each. How should profits of $120,000 for the year be divided?
A. Gillie $60,000, T aft $30,000, Dall $30,000.
B. Gillie $40,000, T aft $40,000, Dall $40,000.
C. Gillie $30,000, Taft $60,000, Dall $30,000.
D. Gillie $30,000, Taft $30,000, Dall $60,000.
Correct Answer: B
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. $40,000 - $40,000 - $40,000 (equally). Rule: In the absence of an agreement to the contrary, the profits will be shared equally regardless of investment of money or time.
Choices "a", "c", and "d" are incorrect, per the above rule.
According to the FASB conceptual framework, which of the following attributes would not be used to measure inventory?
A. Historicalcost.
B. Replacementcost.
C. Net realizable value.
D. Present value of future cash flows.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. The present value of future cash flows is used to measure long-term receivables or payables, not inventory, because inventory is a short-term asset, which has more immediate cash flows. SFAC 5 para. 67
Choice "a" is incorrect. Historical cost can be used to measure inventory because it is a relevant and reliable measurement attribute of current assets such as inventory. Choice "b" is incorrect. Replacement (or current) cost can be used to measure inventory because it is a relevant and reliable measurement attribute of current assets such as inventory. Choice "c" is incorrect. Net realizable value can be used to measure inventory because it is a relevant and reliable measurement attribute of current assets such as inventory.
QUESTION 113
According to the FASB conceptual framework, which of the following situations violates the concept of reliability?
A. Dataonsegmentshavingthesameexpectedrisksandgrowthratesarereportedtoanalystsestimatingfutureprofits.
B. Financialstatementsareissuedninemonthslate.
C. Management reports to stockholders regularly refer to new projects undertaken, but the financial statements never report project results. D. Financial statements include property with a carrying amount increased to management's estimate of market value.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Management's estimate of market value lacks verifiability, which is a component of reliability. SFAC 2 para. 89
Choice "a" is incorrect. Communicating data on segments to analysts does not violate the concept of reliability.
Choice "b" is incorrect. Issuing financial statements nine months late violates timeliness, which is a component of relevance, not reliability. SFAC 2 para. 56 Choice "c" is incorrect. Neglecting to report results of new projects violates full disclosure, not reliability.
QUESTION 114
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List A represents possible clarifications of these transactions as: a change in accounting principle, a change in accounting estimate, a correction of an error in previously presented financial statements, or neither an accounting change nor an accounting error.
Item to Be Answered
Quo changed from FIFO to average cost to account for its raw materials and work in process inventories.
List A (Select one)
A. Changeinaccountingprincipal.
B. Changeinaccountingestimate.
C. Correction of an error in previously presented financial statements.
D. Neither an accounting change nor an accounting error.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Change in inventory pricing method from FIFO to average cost is a change in accounting principle.
QUESTION 115
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List B represents the general accounting treatment required for these transactions. These treatments are:
· Cumulative effect approach - Include the cumulative effect of the adjustment resulting from the accounting change or error correction in the 1993 financial statements, and do not restate the 1992 financial statements.
· Retroactive or retrospective restatement approach - Restate the 1992 financial statements and adjust 1992 beginning retained earnings if the error or change affects a period prior to 1992. · Prospective approach - Report 1993 and future financial statements on the new basis but do not restate 1992 financial statements.
Item to Be Answered
Quo changed from FIFO to average cost to account for its raw materials and work in process inventories.
List B (Select one)
A. Cumulativeeffectapproach.
B. Retroactiveorretrospectiverestatementapproach. C. Prospective approach.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "B" is correct. A change in accounting principle should be shown in the retained earnings statement of the earliest year presented as an adjustment of the beginning balance. All prior year financial statements are recast.
QUESTION 116
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List A represents possible clarifications of these transactions as: a change in accounting principle, a change in accounting estimate, a correction of an error in previously presented financial statements, or neither an accounting change nor an accounting error.
Item to Be Answered
Quo sells extended service contracts on its products. Because related services are performed over several years, in 1993 Quo changed from the cash method to the accrual method of recognizing income from these service contracts.
List A (Select one)
A. Changeinaccountingprincipal.
B. Changeinaccountingestimate.
C. Correction of an error in previously presented financial statements. D. Neither an accounting change nor an accounting error.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Change from the cash method to the accrual method is a correction of an error in previously presented financial statements.
QUESTION 117
Conceptually, interim financial statements can be described as emphasizing:
A. Timelinessoverreliability.
B. Reliabilityoverrelevance.
C. Relevance over comparability. D. Comparability over neutrality.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Interim financial statements emphasize timeliness (an element of relevance) by providing financial information based on actual performance to date and estimates prior to year end. Information must be available when it is needed to be useful. Reliability is impeded by the extensive use of estimates; however, the lag until verifiability is obtained detracts from usefulness. SFAC 2 para. Choice "b" is incorrect. Relevance (particularly timeliness) of information in interim financial statements is emphasized more than reliability. Reliability is impeded by the extensive use of estimates in interim data.
Choice "c" is incorrect. Since comparability is a secondary quality of information, there should be no need to trade off comparability for relevance (a primary quality). Choice "d" is incorrect. Neutrality is an element of reliability (a primary quality of information. There should be NO need for a trade-off for comparability over neutrality.
QUESTION 118
APB Opinion No. 28, Interim Financial Reporting, concluded that interim financial reporting should be viewed primarily in which of the following ways?
A. Asusefulonlyifactivityisspreadevenlythroughouttheyear.
B. Asiftheinterimperiodwereanannualaccountingperiod.
C. As reporting for an integral part of an annual period.
D. As reporting under a comprehensive basis of accounting other than GAAP.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Interim financial reporting should be viewed as reporting for an integral part of an annual period. Choices "a", "b", and "d" are incorrect, per the above rule.
QUESTION 119
During the first quarter of 1993, Tech Co. had income before taxes of $200,000, and its effective income tax rate was 15%. Tech's 1992 effective annual income tax rate was 30%, but Tech expects its 1993 effective annual income tax rate to be 25%. In its first quarter interim income statement, what amount of income tax expense should Tech report?
A. $0
B. $30,000 C. $50,000 D. $60,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Interim period tax expense is the estimated annual effective tax rate (25% in this case) applied to the year-to-date income before taxes minus the tax expense recognized in previous interim periods. Since this question involves the first quarter, there are no previous interim periods.
25% × $200,000 = $50,000. FIN 18, para. 16
Choice "a" is incorrect. Income tax expense is reported in interim income statements. Choice "b" is incorrect. The 1993 annual estimated tax rate, not the first quarter effective tax rate, is used to calculate income tax expense for interim statements. Choice "d" is incorrect. The 1993 annual estimated tax rate, not the 1992 annual effective tax rate, is used to calculate income tax expense for interim statements.
QUESTION 120
A segment of Ace Inc. was discontinued during 1992. Ace's loss from discontinued operations should not:
A. Includeemployeerelocationcostsassociatedwiththedecisiontodispose.
B. Excludeoperatinglossesfromthedatethedecisiontodisposeofthesegmentwasmadeuntiltheendof1992. C. Include additional pension costs associated with the decision to dispose.
D. Include operating losses of the current period up to the date the decision to dispose of the segment was made.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Ace's loss on discontinued operations should not exclude operating losses from the date the decision to dispose of the segment was made until the end of 1992. All 1992 operating losses should be included.
Choice "a" is incorrect. Employee relocation costs associated with the decision to dispose should be included in the loss from discontinued operations.
Choice "c" is incorrect. Additional pension costs associated with the decision to dispose should be included in the loss from discontinued operations.
Choice "d" is incorrect. Ace's loss on discontinued operations should include operating losses of the current period up to the date the decision to dispose of the segment was made and also after that date.
All 1992 operating losses should be included.
QUESTION 121
On December 31, 20X2, the Board of Directors of Maxy Manufacturing, Inc. committed to a plan to discontinue the operations of its Alpha division. Maxy estimated that Alpha's 20X3 operating loss would be $500,000 and that the fair value of Alpha's facilities was $300,000 less than their carrying amounts.
The estimate for 20X3 turned out to be correct. Alpha's 20X2 operating loss was $1,400,000, and the division was actually sold for $400,000 less than its carrying amount. Maxy's effective tax rate is 30%. In its 20X3 income statement, what amount should Maxy report as loss from discontinued operations?
A. $350,000
B. $500,000 C. $420,000 D. $600,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The 20X3 loss from discontinued operations would include both the 20X3 operating loss of $500,000 (which turned out to be a correct estimate) and the "additional" loss (on disposal) of $100,000, net of tax, for a total of $600,000 x .70 or $420,000. Choice "a" is incorrect. It includes the 20X3 operating loss of $500,000 but not the $300,000 impairment loss but does report the 20X3 operating loss net of tax. Choice "b" is incorrect. It includes the 20X3 operating loss of $500,000, but not the $100,000 loss on disposal, and reports the 20X3 operating loss gross of tax and not net of tax. Choice "d" is incorrect. It reports the 20X3 loss from discontinued operations gross of tax and not net of tax. The 20X3 loss from discontinued operations should include both the 20X3 operating loss of $500,000 and the loss on disposal of $100,000, net of tax, for a total of $600,000 x .70 or $420,000.
QUESTION 122
On June 30, 1991, Mill Corp. incurred a $100,000 net loss from disposal of a component of a business. Also, on June 30, 1991, Mill paid $40,000 for property taxes assessed for the calendar year 1991. What amount of the foregoing items should be included in the determination of Mill's net income or loss for the six-month interim period ended June 30, 1991?
A. $140,000 B. $120,000 C. $90,000 D. $70,000
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. $120,000 expense included in the determination of net income or loss for the sixmonth interim period ended June 30, 1991.
QUESTION 123
During 20X5, Dale Corp. made the following accounting changes:
What amount should be shown in the 20X5 retained earnings statement as an adjustment to the beginning balance?
A. $0
B. $30,000 C. $98,000 D. $128,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. $98,000.
The cumulative effect of a change in accounting principle is now shown on the retained earnings statement as an adjustment to the beginning balance of retained earnings, assuming that the cumulative effect can be calculated. A change from LIFO to FIFO for inventory valuation (costing) is a change in accounting principle. An exception is made however, for a change in depreciation method, since a change in depreciation method is no longer considered to be a change in accounting principle. A change in depreciation method is now considered to be both a change in principle and a change in estimate. These changes should now be accounted for as a change in estimate and handled prospectively. The new depreciation method should be used as of the beginning of the year of change and should start with the current book value of the underlying asset. No retroactive or retrospective calculations should be made, and no adjustment should be made to retained
earnings.
Choices "a", "b", and "d" are incorrect, per the above Explanation: .
QUESTION 124
Earnings per share data should be reported on the income statement for:
A. Option A B. OptionB C. Option C D. Option D
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Yes - Yes.
Both the "extraordinary items" and "income before extraordinary items" should be shown with an earnings per share number on the income statement.
QUESTION 125
The effect of a change in accounting principle that is inseparable from the effect of a change in accounting estimate should be reported:
A. Byrestatingthefinancialstatementsofallpriorperiodspresented.
B. Asacorrectionofanerror.
C. As a component of income from continuing operations, in the period of change and future periods if the change affects both.
D. As a separate disclosure after income from continuing operations, in the period of change and future periods if the change affects both.
Correct Answer: C Section: (none)
Explanation Explanation/Reference:
Explanation:
Choice "c" is correct. A change in accounting principle that is inseparable from a change in accounting estimate should now be reported as a change in estimate and thus as a component of income from continuing operations, in the period of change and future periods if the change affects both. Distinguishing between a change in accounting principle and a change in accounting estimate is sometimes difficult. For example, a company may change from deferring and amortizing a cost to recording it as an expense when incurred because future benefits of the cost have become doubtful. The new accounting method is adopted, therefore, in partial or complete recognition of the change in estimated future benefits. The effect of the change in principle is inseparable from the effect of the change in estimate. Changes of this type are often related to the continuing process of obtaining additional information and revising estimates and are therefore considered as changes in estimates. Choice "a" is incorrect. Restating the financial statements of all prior periods would be done in the case of prior period adjustments (corrections of errors), changes in accounting principle (retrospective application), and changes in accounting entity (retrospective application). Choice "b" is incorrect. Correction of an error would be treated as a prior period adjustment. Choice "d" is incorrect. Separate disclosure after income from continuing operations would be done in the case of extraordinary items or discontinued operations. However, this disclosure would not be made "in the period of change and future periods if the change affects both" but only in the period of the extraordinary item or discontinued operation.
QUESTION 126
At December 31, 1998, Off-Line Co. changed its method of accounting for demo costs from writing off the costs over two years to expensing the costs immediately. Off-Line made the change in recognition of an increasing number of demos placed with customers that did not result in sales. Off-Line had deferred demo costs of $500,000 at December 31, 1997, $300,000 of which were to be written off in 1998 and the remainder in 1999. Off-Line's income tax rate is 30%. In its 1998 financial statements, what amount should Off-Line report as cumulative effect of change in accounting principle?
A. $0
B. $200,000 C. $350,000 D. $500,000
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. When a change in accounting principle is considered inseparable from a change in estimate, the change is handled as a change in estimate - prospectively. No cumulative effect adjustment is made.
Choices "b", "c", and "d" are incorrect since no cumulative effect adjustment is made.
QUESTION 127
How should the effect of a change in accounting principle that is inseparable from the effect of a change in accounting estimate be reported?
A. Asacomponentofincomefromcontinuingoperations.
B. Byrestatingthefinancialstatementsofallpriorperiodspresented. C. As a correction of an error.
D. By footnote disclosure only.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. When the effect of a change in accounting principle is inseparable from the effect of a change in accounting estimate, the reporting treatment for the overall effect is as a change in estimate.
Thus, the effect is reported prospectively as a component of income from continuing operations. Under SFAS No. 154, this type of change is now called a change in accounting estimate affected by a change in accounting principle.
Choice "b" is incorrect. Restatement of all prior periods is the retroactive accounting treatment that is applied to the correction of an error and the retrospective accounting treatment given to changes in accounting principle. However, a change in accounting principle that is inseparable from the effect of a change in accounting estimate is now treated as a change in accounting estimate. Choice "c" is incorrect. Correction of an error is given retroactive treatment as a prior period adjustment to retained earnings with restatement of prior periods. This is not the treatment appropriate for the effect of a change in accounting principle that is inseparable from the effect of a change in accounting estimate.
Choice "d" is incorrect. While footnote disclosure is always appropriate for an accounting change, such disclosure alone is never the appropriate accounting treatment.
QUESTION 128
In September 1996, Koff Co.'s operating plant was destroyed by an earthquake. Earthquakes are rare in the area in which the plant was located. The portion of the resultant loss not covered by insurance was $700,000. Koff's income tax rate for 1996 was 40%. In its 1996 income statement, what amount should Koff report as extraordinary loss?
A. $0
B. $280,000 C. $420,000 D. $700,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. For a loss to be reported as an extraordinary loss, the event causing the loss must be both unusual in nature and infrequent in occurrence. The earthquake in this case does meet these criteria so the loss is reported net of income tax effect as an extraordinary loss of $420,000 (60% of the total $700,000 loss). APB 30.11, .19-.26
Choice "a" is incorrect. Review the criteria for reporting an extraordinary loss. Choice "b" is incorrect. This is the tax effect of the loss. Review your calculations. Choice "d" is incorrect. It is not appropriate to report the full loss as an extraordinary loss.
QUESTION 129
In open market transactions, Gold Corp. simultaneously sold its long-term investment in Iron Corp. bonds and purchased its own outstanding bonds. The broker remitted the net cash from the two transactions.
Gold's gain on the purchase of its own bonds exceeded its loss on the sale of the Iron bonds. Assume the transaction to purchase its own outstanding bonds is unusual in nature and has occurred infrequently.
Gold should report the:
A. Neteffectofthetwotransactionsasanextraordinarygain.
B. Neteffectofthetwotransactionsinincomebeforeextraordinaryitems.
C. Effect of its own bond transaction gain in income before extraordinary items, and report the Iron bond transaction as an extraordinary loss. D. Effect of its own bond transaction as an extraordinary gain, and report the Iron bond transaction loss in income before extraordinary items.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct, these are two separate transactions because Gold Corp. (1) sold Iron Corp. bonds (an investment) for a loss, and, (2) bought back its own (Gold) Corp. bonds (a debt) for a gain. This is not a "refinancing" (where one would sell new bond debt to buy back old bond debt outstanding). The gain from the purchase of its own bonds is an "extraordinary gain" because it is both unusual in nature and infrequently occurring (per APB Opinion No. 30 and SFAS No. 145). The Iron Corp. transaction is a loss in "income before extraordinary items." Choices "a" and "b" are incorrect. The two transactions are separate and cannot be
netted. Choice "c" is incorrect. Just the opposite. The sale of the investment is a loss in "income before extraordinary items," while the purchase of its bond debt is an "extraordinary gain" according to the provisions of APB Opinion No. 30.
QUESTION 130
What is the underlying concept that supports the immediate recognition of a contingent loss?
A. Substanceoverform. B. Consistency.
C. Matching.
D. Conservatism.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Conservatism is a prudent reaction to uncertainty to try to ensure that uncertainty and risks inherent in business situations are adequately considereD. Recognition of a contingent loss is the recording of an amount representing uncertainty and risk in a business situation. SFAC 2, SFAS 5 para. 82 Choice "a" is incorrect. The substance over form concept presumes that the transaction form may not dictate the accounting treatment.
Choice "b" is incorrect. Consistency is conformity from period to period with unchanging policies and procedures. SFAC 2
Choice "c" is incorrect. The matching principle dictates that expenses be matched with the related revenues generated or the time period in which the expense is incurred and known. SFAS #5 cites matching as the one concept supporting the immediate recognition of a contingent loss, but it is not the primary underlying concept. SFAS 5 para. 76
QUESTION 131
According to the FASB conceptual framework, the process of reporting an item in the financial statements of an entity is:
A. Allocation. B. Matching. C. Realization. D. Recognition.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Recognition is the process of recording an item in the financial statements of an entity. SFAC 5 para. 6
Choice "a" is incorrect. Allocation is the accounting process of assigning or distributing an amount according to a plan or a formulA. SFAC 6 para. 142
Choice "b" is incorrect. Matching of costs and revenues is simultaneous or combined recognition of the revenues and expenses that result directly and jointly from the same transactions or other events. SFAC 6 para. 146
Choice "c" is incorrect. Realization is the process of converting noncash resources and rights into money. SFAC 6 para. 143
QUESTION 132
What are the Statements of Financial Accounting Concepts intended to establish?
A. Generallyacceptedaccountingprinciplesinfinancialreportingbybusinessenterprises.
B. Themeaningof"Presentfairlyinaccordancewithgenerallyacceptedaccountingprinciples."
C. The objectives and concepts for use in developing standards of financial accounting and reporting. D. The hierarchy of sources of generally accepted accounting principles.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Statements of Financial Accounting Concepts are intended to establish the objectives and concepts that the Financial Accounting Standards Board will use in developing standards of financial accounting and reporting. SFAC 1 para. 3 Choice "a" is incorrect. The Statements of Financial Accounting Concepts do not specify financial accounting standards prescribing accounting procedures or practices. SFAC 1 para. 3 Choice "b" is incorrect. Auditing standards develop the meaning of "Present fairly in accordance with generally accepted accounting principles."
Choice "d" is incorrect. The hierarchy of sources of generally accepted accounting principles is determined by GAAP.
QUESTION 133
During a period when an enterprise is under the direction of a particular management, its financial statements will directly provide information about:
A. Bothenterpriseperformanceandmanagementperformance.
B. Managementperformancebutnotdirectlyprovideinformationaboutenterpriseperformance. C. Enterprise performance but not directly provide information about management performance. D. Neither enterprise performance nor management performance.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Financial reporting, and especially financial statements, usually cannot and do not separate management performance from enterprise performance. Financial reporting provides information about an enterprise during a period when it was under the direction of a particular management but does not directly provide information about that management's performance. SFAC 1 para. 53
QUESTION 134
According to the FASB conceptual framework, which of the following statements conforms to the realization concept?
A. Equipmentdepreciationwasassignedtoaproductiondepartmentandthentoproductunitcosts. B. Depreciatedequipmentwassoldinexchangeforanotereceivable.
C. Cash was collected on accounts receivable.
D. Product unit costs were assigned to cost of goods sold when the units were sold.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Revenues and gains are realized when assets are exchanged for cash or claims to cash. SFAC 5 para. 83.
Choice "a" is incorrect. Assigning depreciation in a production department is an example of allocating overhead. There is no realization associated with the assignment. Choice "c" is incorrect. The realization concept is integral to accounting for revenues and expenses and is not connected to collection of receivables. Choice "d" is incorrect. Assignment of overhead costs to products and thus to cost of goods sold is an example of matching. There is no realization associated with this assignment.
QUESTION 135
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List B represents the general accounting treatment required for these transactions. These treatments are:
· Cumulative effect approach - Include the cumulative effect of the adjustment resulting from the accounting change or error correction in the 1993 financial statements, and do not restate the 1992 financial statements.
· Retroactive or retrospective restatement approach - Restate the 1992 financial statements and adjust 1992 beginning retained earnings if the error or change affects a period prior to 1992. · Prospective approach - Report 1993 and future financial statements on the new basis but do not restate 1992 financial statements.
Item to Be Answered
Quo sells extended service contracts on its products. Because related services are performed over several years, in 1993 Quo changed from the cash method to the accrual method of recognizing income from these service contracts.
List B (Select one)
A. Cumulativeeffectapproach.
B. Retroactiveorretrospectiverestatementapproach. C. Prospective approach.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "B" is correct. If comparative FS are issued, restate prior year's FS. If comparative FS are not issued, restate prior year-end's retained earnings account by "adjusting" (net of tax) the opening balance of the current retained earnings statement. Note that when an error is corrected, retroactive restatement is used, and when there is a change in accounting principle, retrospective restatement is done.
However, this is only a difference in terminology.
QUESTION 136
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List A represents possible clarifications of these transactions as: a change in accounting principle, a change in accounting estimate, a correction of an error in previously presented financial statements, or neither an accounting change nor an accounting error.
Item to Be Answered
During 1993, Quo determined that an insurance premium paid and entirely expensed in 1992 was for the period January 1, 1992, through January 1, 1994.
List A (Select one)
A. Changeinaccountingprincipal.
B. Changeinaccountingestimate.
C. Correction of an error in previously presented financial statements. D. Neither an accounting change nor an accounting error.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Expensing insurance premiums when paid (rather than allocating them to the periods benefited) is a correction of an error in previously presented financial statements.
QUESTION 137
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List B represents the general accounting treatment required for these transactions. These treatments are:
· Cumulative effect approach - Include the cumulative effect of the adjustment resulting from the accounting change or error correction in the 1993 financial statements, and do not restate the 1992 financial statements.
· Retroactive or retrospective restatement approach - Restate the 1992 financial statements and adjust 1992 beginning retained earnings if the error or change affects a period prior to 1992. · Prospective approach - Report 1993 and future financial statements on the new basis but do not restate 1992 financial statements.
Item to Be Answered
During 1993, Quo determined that an insurance premium paid and entirely expensed in 1992 was for the period January 1, 1992, through January 1, 1994.
List B (Select one)
A. Cumulativeeffectapproach.
B. Retroactiveorretrospectiverestatementapproach. C. Prospective approach.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "B" is correct. If comparative FS are issued, restate prior year's FS. If comparative FS are not issued, restate prior year-end's retained earnings account by "adjusting" (net of tax) the opening balance of the current retained earnings statement.
QUESTION 138
On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, working closely with Quo's president and outside accountants, made changes in accounting policies, corrected several errors dating from 1992 and before, and instituted new accounting policies. Quo's 1993 financial statements will be presented in comparative form with its 1992 financial statements.
This question represents one of Quo's transactions. List A represents possible clarifications of these transactions as: a change in accounting principle, a change in
accounting estimate, a correction of an error in previously presented financial statements, or neither an accounting change nor an accounting error.
During 1993, Quo increased its investment in Worth, Inc. from a 10% interest, purchased in 1992, to 30%, and acquired a seat on Worth's board of directors. As a result of its increased investment, Quo changed its method of accounting for investment in Worth, Inc. from the cost method to the equity method.
List A
A. Changeinaccountingprinciple.
B. Changeinaccountingestimate.
C. Correction of an error in previously presented financial statements. D. Neither an accounting change nor an accounting error.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. A change from the cost method (less than 20% ownership) to the equity method (20% or more ownership or a Board seat or other significant influence) of accounting for investment in an investee is neither an accounting change nor an accounting error. If it is not an accounting change, it cannot be a change in accounting principle or a change in accounting estimate since those two types of changes are both accounting changes.
There is a considerable amount of controversy on this particular answer. Some people think that this change is a change in accounting principle (something certainly changed, but was it the accounting principle?), and others think it is a change in accounting entity (which is not one of the available answers; anyway, did the accounting entity actually change or is it the same entity accounted for differently?). Under SFAS No. 154, a change in accounting principle is treated retrospectively and a change in accounting entity is treated retrospectively.
This kind of change (cost to equity) has never been specifically identified in any accounting literature as either a change in accounting principle or a change in accounting entity. The words "cost method" were never mentioned in APB 20 (other than the full cost method for oil & gas companies, which is an entirely different subject), nor was it mentioned in SFAS No. 154. It was, however, discussed in APB 18 (the pronouncement for the equity method) in Paragraph 19m (bold added): "An investment in common stock of an investee that was previously accounted for on other than the equity method may become qualified for use of the equity method by an increase in the level of ownership described in paragraph 17 (i.e., acquisition of additional voting stock by the investor, acquisition or retirement of voting stock by the investee, or other transactions). When an investment qualifies for use of the equity method, the investor should adopt the equity method of accounting. The investment, results of operations (current and prior
periods presented), and retained earnings of the investor should be adjusted retroactively in a manner consistent with the accounting for a step-by-step acquisition of a subsidiary."
What does all this mean? It means that, when there is a change in the percentage of ownership that changes accounting from the cost method to the equity method, the change is treated retroactively (just like changes in accounting entity used to be treated, although they are now treated retrospectively). It does not say that the change is a change in accounting principle or anything else. Nothing in SFAS No.154 changed this treatment. So all this still makes Choice "d" correct. This whole issue might easily be considered to be splitting hairs, at the very least. Some questions on the CPA exam are just that way.
Most are not.
QUESTION 139
On August 31, 1992, Harvey Co. decided to change from the FIFO periodic inventory system to the weighted average periodic inventory system. Harvey is on a calendar year basis. The cumulative effect of the change is determined:
A. AsofJanuary1,1992.
B. AsofAugust31,1992.
C. During the eight months ending August 31, 1992, by a weighted average of the purchases. D. During 1992 by a weighted average of the purchases.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Rule: The cumulative effect of a change in accounting principle equals the difference between retained earnings at the beginning of period of the change and what retained earnings would have been if the change was applied to all affected prior periods.
Choice "a" is correct. As of January 1, 1992, the beginning of the year. This assumes that the company is not presenting comparative financial statements. If comparative financial statements are presented, then the adjustment is made to the beginning retained earnings of the earliest year presented. Choice "b" is incorrect. The cumulative effect of the change is not determined as of the date the decision is made.
Choices "c" and "d" are incorrect. The cumulative effect of the change is not determined by a weighted average. (A far out distractor.)
QUESTION 140
Which of the following is true regarding the presentation of "comprehensive income."
A. Option A
B. OptionB C. Option C D. Option D
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. No - Yes.
Comprehensive income may be shown on the face of a combined "statement of income and comprehensive income" a separate section below net income, or in:
1. Separate "statement of comprehensive income," or as a
2. Component of the "statement of changes of owners' equity." The income tax expense or benefit allocated to components must be disclosed, either on the face of the statement or in notes to the statement.
Choices "a", "b", and "d" are incorrect, per the above rules.
QUESTION 141
Reclassification adjustments must be shown in the financial statement that discloses comprehensive income:
A. Toshowwhatportionofcomprehensiveincomeisfromtherealizationofcurrentassets.
B. Toshowthetaxeffectofitemsofcomprehensiveincome.
C. To avoid double counting in comprehensive income items, which are currently displayed in net income. D. To avoid including transactions with shareholders in items of comprehensive income.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Reclassification entries may be necessary to avoid double counting an item previously reported as comprehensive income (i.e., unrealized gain), which are now reported as part of net income (i.e., realized gain).
Choice "a" is incorrect. The classification of assets as current or non-current has no bearing on reporting comprehensive income.
Choice "b" is incorrect. All items of comprehensive income must be shown net of the related tax effects, but it is not done with reclassification adjustments. Choice "d" is incorrect. Transactions with shareholders such as paying dividends and issuing capital stock are not included in comprehensive income, thus, reclassification adjustments are not necessary to exclude them.
QUESTION 142
Dean Co. acquired 100% of Morey Corp. prior to 1989. During 1989, the individual companies included in their financial statements the following:
What amount should be reported as related party disclosures in the notes to Dean's 1989 consolidated financial statements?
A. $150,000 B. $155,000 C. $175,000 D. $330,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The only related party transaction that would require disclosure (assuming that all amounts are material to the financial statements) would be the loans to officers since they are outside of the ordinary course of business.
Choices "a", "b", and "d" are incorrect. Officers' salaries, officers' expenses and intercompany sales (between entities included in a consolidated set of financial statements) are all transactions in the ordinary course of business and generally would not require disclosure.
QUESTION 143
During the second quarter of 1988, Buzz Company sold a piece of equipment at a $12,000 gain. What portion of the gain should Buzz report in its income statement for the second quarter of 1988?
A. $12,000 B. $6,000 C. $4,000 D. $0
Correct Answer: A
Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. $12,000.
Rule: The entire amount of an "extraordinary gain or loss" or an "unusual or infrequently occurring item," e.g., a gain or loss from sale of fixed assets, should be reported during the period (quarter) incurred.
Choices "b", "c", and "d" are incorrect. The full gain should be reported in the second quarter when it occurred.
Business Environment and Concepts
QUESTION 1
Locke and Vorst were general partners in a kitchen equipment business. On behalf of the partnership, Locke contracted to purchase 15 stoves from Gage. Unknown to Gage, Locke was not authorized by the partnership agreement to make such contracts. Vorst refused to allow the partnership to accept delivery of the stoves and Gage sought to enforce the contract. Gage will:
A. Lose,becauseLocke'sactionwasnotauthorizedbythepartnershipagreement. B. Lose,becauseLockewasnotanagentofthepartnership.
C. Win, because Locke had express authority to bind the partnership.
D. Win, because Locke had apparent authority to bind the partnership.
Correct Answer: D
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Every partner is an agent of the partnership and has apparent authority to bind the partnership to contracts that appear to carry on in the usual way the business of the partnership. It would be usual for a partner in a kitchen equipment business to have authority to purchase stoves. Thus, Gage will win because of Locke's apparent authority. Choice "a" is incorrect. Every partner is an agent for his partnership and has apparent authority to bind the partnership to contracts that appear to carry on in the usual way the business of the partnership. Choice "b" is incorrect. Every partner is an agent of the partnership. Choice "c" is incorrect. Locke did not have express authority to purchase the stoves. The facts state that Locke was not authorized to purchase the stoves and thus lacked express authority.
QUESTION 2
On dissolution of a general partnership, distributions will be made on account of:
A. Partners'capitalaccounts.
II. Amounts owed partners with respect to profits.
III. Amounts owed partners for loans to the partnership. In the following order:
B. III,I,andII.
C. I, II, and III.
D. II, III, and I.
E. III,II,andI.
Correct Answer: A
Section: Business Environment and Concepts (Volume A)
Explanation Explanation/Reference:
Explanation:
Choice "a" is correct.
Rule: On dissolution of a general partnership the "order of distribution" would be as follows:
III. General partner loans.
I. Partners' capital accounts.
II. General partners' profits.
Choices "b", "c", and "d" are incorrect, per the above rule.
QUESTION 3
Which of the following is not necessary to create an express partnership?
A. Executionofawrittenpartnershipagreement.
B. Agreementtoshareownershipofthepartnership.
C. Intention to conduct a business for profit.
D. Intention to create a relationship recognized as a partnership.
Correct Answer: A
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. A written partnership agreement, while certainly desirable, is not usually necessary to form a valid partnership; partnership agreements are not normally subject to the statute of frauds.
Choice "b" is incorrect. A partnership is an association of two or more persons who agree to carry on as co-owners of a business for profit. Thus, an agreement to share ownership of the partnership is a requirement for creating an express partnership.
Choice "c" is incorrect. A partnership is an association of two or more persons who agree to carry on as co-owners of a business for profit. Thus, an intent to carry on a business for a profit is a requirement for creating an express partnership.
Choice "d" is incorrect. A partnership is an association of two or more persons who agree to carry on as co-owners of a business for profit. The intent to create a business relationship recognized as a partnership is a requirement for creating an express partnership.
QUESTION 4
Heather, Erika, and Shelby are members in HES LLC. Heather works 40 hours per week and Erika and Shelby work 20 hours per week. Heather contributed $30,000 to the LLC and Erika and Shelby contributed $60,000 each. Erika and Shelby have each originated 45% of the LLC's business and Heather has originated the other 10%.
If HES were a general partnership, who controls management?
A. Heather,becausesheworksthemost.
B. ErikaandShelbyequallybecausetheycontributedthemost. C. Heather, Erika, and Shelby equally because of state law.
D. Erika and Shelby, because they originate most of the work.
Correct Answer: C
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct.
Rule: Absent an agreement to the contrary, partners have equal management authority. Choices "a", "b", and "d" are incorrect, per the above rule.
QUESTION 5
Rivers and Lee want to form a partnership. For the partnership agreement to be enforceable, it must be in writing if:
A. RiversandLeeresideindifferentstates.
B. Theagreementcannotbecompletedwithinoneyearfromthedateonwhichitwillbeenteredinto. C. Either Rivers or Lee is to contribute more than $500 in capital.
D. The partnership intends to buy and sell real estate.
Correct Answer: B
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. A transaction which cannot be completed within a year must be in writing to be enforceable.
Choice "a" is incorrect. Residence of the prospective partners is not relevant. Choice "c" is incorrect. The statute of frauds $500 threshold applies to the sale of goods only. Choice "d" is incorrect. Transactions in land are within the statute of frauds, but the possibility that a partnership may engage in a real estate transaction is not a transaction in land.
QUESTION 6
Which of the following statements is correct regarding the division of profits in a general partnership when the written partnership agreement only provides that losses be divided equally among the partners?
Profits are to be divided:
A. Basedonthepartners'ratioofcontributiontothepartnership. B. Basedonthepartners'participationinday-to-daymanagement. C. Equally among the partners.
D. Proportionately among the partners.
Correct Answer: C
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct.
Rule: When the partnership agreement is silent as to how profits are to be divided, they are divided equally. Note also that when the agreement is silent, losses are treated similar to profits, there is no reverse rule that profits are treated like losses.
Choices "a", "b", and "d" are incorrect, per the above rule.
QUESTION 7
Downs, Frey, and Vick formed the DFV general partnership to act as manufacturers' representatives. The partners agreed Downs would receive 40% of any partnership profits and Frey and Vick would each receive 30% of such profits. It was also agreed that the partnership would not terminate for five years.
After the fourth year, the partners agreed to terminate the partnership. At that time, the partners' capital accounts were as follows: Downs, $20,000; Frey, $15,000; and Vick, $10,000. There also were undistributed losses of $30,000.
Which of the following statements about the form of the DFV partnership agreement is correct?
A. Itmustbeinwritingbecausethepartnershipwastolastforlongerthanoneyear. B. Itmustbeinwritingbecausepartnershipprofitswouldnotbeequallydivided.
C. It could be oral because the partners had explicitly agreed to do business together. D. It could be oral because the partnership did not deal in real estate.
Correct Answer: A
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Under the statute of frauds, an agreement, which by its terms cannot be performed within a year, must be evidenced by a writing containing the material terms and signed by the parties to be charged. Absent a writing, the partnership will be treated as a partnership at will. Choice "b" is incorrect. There is no requirement that partnership agreements be in writing merely because profits will be divided unequally.
Choice "c" is incorrect. The statute of frauds requires contracts that cannot by their terms be performed within one year to be evidenced by a writing containing the material terms and signed by the parties to be charged.
Choice "d" is incorrect. Whether or not a partnership is to deal in real estate is irrelevant to whether the partnership agreement must be in writing.
QUESTION 8
Downs, Frey, and Vick formed the DFV general partnership to act as manufacturers' representatives. The partners agreed Downs would receive 40% of any partnership profits and Frey and Vick would each receive 30% of such profits. It was also agreed that the partnership would not terminate for five years.
After the fourth year, the partners agreed to terminate the partnership. At that time, the partners' capital accounts were as follows: Downs, $20,000; Frey, $15,000; and Vick, $10,000. There also were undistributed losses of $30,000.
Vick's share of the undistributed losses will be:
A. $0
B. $1,000 C. $9,000 D. $10,000
Correct Answer: C
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Rule: Where the partnership agreement is silent, losses are shared in the same proportion as profits. Choice "c" is correct. Vick was entitled to 30% of the profits and so will be responsible for 30% of the undistributed $30,000 loss, or $9,000.
Choices "a", "b", and "d" are incorrect, per the above rule.
QUESTION 9
Lewis, Clark, and Beal entered into a written agreement to form a partnership. The agreement required that the partners make the following capital contributions: Lewis, $40,000, Clark, $30,000, and Beal, $10,000. It was also agreed that in the event the partnership experienced losses in excess of available capital, Beal would contribute additional capital to the extent of the losses. The partnership agreement was otherwise silent about division of profits and losses. Which of the following statements is correct?
A. Profitsaretobedividedamongthepartnersinproportiontotheirrelativecapitalcontributions.
B. Profitsaretobedividedequallyamongthepartners.
C. Losses will be allocated in a manner different from the allocation of profits because the partners contributed different amounts of capital. D. Beal's obligation to contribute additional capital would have an effect on the allocation of profit or loss to Beal.
Correct Answer: B
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct.
Rule: Regardless of the contributions and obligations of the partners, unless the partnership agreement specifically states otherwise, all partners are entitled to an equal share of the profits. Choices "a", "c", and "d" are incorrect, per the above rule.
QUESTION 10
Gillie, Taft, and Dall are partners in an architectural firm. The partnership agreement is silent about the payment of salaries and the division of profits and losses. Gillie works full-time in the firm, and Taft and Dall each work half time. Taft invested $120,000 in the firm, and Gillie and Dall invested $60,000 each. Dall is responsible for bringing in 50% of the business, and Gillie and Taft 25% each. How should profits of $120,000 for the year be divided?
A. Gillie $60,000, T aft $30,000, Dall $30,000.
B. Gillie $40,000, T aft $40,000, Dall $40,000.
C. Gillie $30,000, Taft $60,000, Dall $30,000.
D. Gillie $30,000, Taft $30,000, Dall $60,000.
Correct Answer: B
Section: Business Environment and Concepts (Volume A) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. $40,000 - $40,000 - $40,000 (equally). Rule: In the absence of an agreement to the contrary, the profits will be shared equally regardless of investment of money or time.
Choices "a", "c", and "d" are incorrect, per the above rule.