2008 financial released MC questions wit

Following are multiple choice questions recently released by the AICPA These questions were released by the AICPA with letter answers only Our editorial board has provided the accompanying explanations Please note that the AICPA generally releases questions that it does NOT intend to use again These questions and content may or may not be representative of questions you may see on any upcoming exams 2008 AICPA Newly Released Questions – Financial According to the FASB conceptual framework, certain assets are reported in financial statements at the amount of cash or its equivalent that would have to be paid if the same or equivalent assets were acquired currently What is the name of the reporting concept? a b c d Replacement cost Current market value Historical cost Net realizable value ANSWER: Choice "a" is correct Replacement cost is defined as the amount of cash or its equivalent that would be paid to acquire or replace an asset currently Replacement cost is an acquisition cost Choice "b" is incorrect Current market value, or fair value, is the price to sell (not acquire) an asset Choice "c" is incorrect Historical cost is the amount paid by a company to acquire an asset Choice "d" is incorrect Net realizable value is the selling price of an asset less any disposal costs 2008 AICPA Newly Released Questions – Financial To be relevant, information should have which of the following? a b c d Verifiability Feedback value Understandability Costs and benefits ANSWER: Choice "b" is correct To be relevant, information should be timely and have predictive value and/or feedback value Choice "a" is incorrect Verifiability is a quality of reliability, along with neutrality and representational faithfulness Choice "c" is incorrect Understandability is a qualitative characteristic of accounting information separate from relevance Choice "d" is incorrect The trade-off between the cost of providing financial information and the benefits received from such information is a constraint on accounting information, not an aspect of relevance 2008 AICPA Newly Released Questions – Financial Which of the following items is not classified as "other comprehensive income?" a b c d Extraordinary gains from extinguishment of debt Foreign currency translation adjustments Minimum pension liability equity adjustment for a defined-benefit pension plan Unrealized gains for the year on available-for-sale marketable securities ANSWER: Choice "a" is correct Extraordinary gains from extinguishment of debt are a component of net income, not a component of other comprehensive income Comprehensive income is the sum of net income plus other comprehensive income Other comprehensive income include changes in the funded status of a pension plan, unrealized gains and losses on available-for-sale securities, foreign currency items and the effective portion of cash flow hedges Choice "b" is incorrect Foreign currency translation adjustments are a component of other comprehensive income Choice "c" is incorrect Before SFAS No 158, the minimum pension liability adjustment was a component of other comprehensive income SFAS No 158 eliminated the need for the minimum pension liability adjustment Under SFAS No 158, changes in the funded status of a pension plan due to net pension gains/losses and prior service costs are recorded as components of other comprehensive income Choice "d" is incorrect Unrealized gains (and losses) on available-for-sale securities are included in other comprehensive income 2008 AICPA Newly Released Questions – Financial A company's year-end balance sheet is shown below: Assets Cash Accounts receivable Inventory Property, plant and equipment (net) $ 300,000 350,000 600,000 2,000,000 $3,250,000 Liabilities and shareholder equity Current liabilities Long-term liabilities Common stock Retained earnings $ 700,000 600,000 800,000 1,150,000 $3,250,000 What is the current ratio as of December 31? a b c d 1.79 0.93 0.67 0.43 ANSWER: Choice "a" is correct The current ratio is equal to current assets divided by current liabilities This company’s current assets include cash, accounts receivable and inventory, so total current assets is: Current assets = $300,000 + $350,000 + $600,000 = $1,250,000 This company’s current liabilities are given as $700,000 The current ratio is therefore calculated as: Current Ratio = Current Assets $1,250,000 = = 1.79 Current Liabilities $700,000 Choice "b" is incorrect This answer incorrectly excludes inventory from current assets, Choice "c" is incorrect This answer incorrectly includes retained earnings in current liabilities Choice "d" is incorrect This answer incorrectly excludes accounts receivable and inventory from current assets 2008 AICPA Newly Released Questions – Financial TGR Enterprises provided the following information from its statement of financial position for the year ended December 31, year 1: Cash Accounts receivable Inventories Prepaid expenses Accounts payable Accrued liabilities January $10,000 120,000 200,000 20,000 175,000 25,000 December 31 $50,000 100,000 160,000 10,000 120,000 30,000 TGR's sales and cost of sales for year were $1,400,000 and $840,000, respectively What is the accounts receivable turnover, in days? a b c d 26.1 28.7 31.3 41.7 ANSWER: Choice "b" is correct Accounts receivable turnover in days is calculated as: Average Net Receivables AR Turnover in Days = = Net Credit Sales/365 (120,000 + 100,000) = 28.7 $1,400,000 / 365 Choice "a" is incorrect This answer incorrectly uses the December 31, year accounts receivable balance of $100,000, rather than the average accounts receivable balance of $110,000 Choice "c" is incorrect This answer incorrectly uses the January 1, year accounts receivable balance of $120,000, rather than the average accounts receivable balance of $110,000 Choice "d" is incorrect This answer incorrectly uses the December 31, year inventory balance of $160,000, rather than the average accounts receivable balance of $110,000 2008 AICPA Newly Released Questions – Financial Which inventory costing method would a company that wishes to maximize profits in a period of rising prices use? a b c d FIFO Dollar-value LIFO Weighted average Moving average ANSWER: Choice "a" is correct Under FIFO, the first costs inventoried are the first costs transferred to cost of goods sold In a period of rising prices, FIFO results in the lowest cost of goods sold and the highest net income Choice "b" is incorrect Under all LIFO methods, the last costs inventoried are the first costs transferred to cost of goods sold In a period of rising prices, LIFO results in the highest cost of goods sold and the lowest net income Choice "c" is incorrect In a periodic inventory system, the weighted average method results in net income that is lower than FIFO net income and higher than LIFO net income Choice "d" is incorrect In a perpetual inventory system, the moving average method results in net income that is lower than FIFO net income and higher than LIFO net income 2008 AICPA Newly Released Questions – Financial At the end of the year, Ian Co determined its inventory to be $258,000 on a FIFO (first in, first out) basis The current replacement cost of this inventory was $230,000 Ian estimates that it could sell the inventory for $275,000 at a disposal cost of $14,000 If Ian's normal profit margin for its inventory was $10,000, what would be its net carrying value? a b c d $244,000 $251,000 $258,000 $261,000 ANSWER: Choice "b" is correct Under the lower of cost or market, the net carrying value of inventory is the lesser of the cost of the inventory determined using one of the inventory costing methods (LIFO, FIFO, etc.) and the market value of the inventory Market value is the middle value of replacement cost, net realizable value (the market ceiling) and net realizable value less costs to complete and dispose (the market floor) The cost of Ian Co.'s inventory is $258,000 Market value is $251,000, determined as follows: Replacement cost = $230,000 Market ceiling = $275,000 - $14,000 = $261,000 Market floor = $261,000 – $10,000 = $251,000 The market floor of $251,000 is the middle value and therefore market value Because the market value of $251,000 is less than the cost of $258,000, the inventory will be reported at $251,000 2008 AICPA Newly Released Questions – Financial The following costs pertain to Den Co.'s purchase of inventory: 700 units of product A Freight-in Cost of materials and labor incurred to bring product A to saleable condition Insurance cost during transit of purchased goods Total $3,750 175 900 100 $4,925 What amount should Den record as the cost of inventory as a result of this purchase? a b c d $3,925 $4,650 $4,825 $4,925 ANSWER: Choice "d" is correct The cost of the 700 units of product A, the freight-in, the cost of the materials and labor to make product A saleable and the insurance costs are all included in the cost of inventory 2008 AICPA Newly Released Questions – Financial A manufacturing firm purchased used equipment for $135,000 The original owners estimated that the residual value of the equipment was $10,000 The carrying amount of the equipment was $120,000 when ownership transferred The new owners estimate that the expected remaining useful life of the equipment was 10 years, with a salvage value of $15,000 What amount represents the depreciable base used by the new owners? a b c d $105,000 $110,000 $120,000 $125,000 ANSWER: Choice "c" is correct The depreciable base of an asset is cost minus salvage value The cost of the equipment to the manufacturing firm was $135,000 and the salvage value estimate by the manufacturing firm was $15,000, so the depreciable base is $120,000 ($135,000 - $15,000) AICPA Newly Released Questions – Financial 36 On July 28, Vent Corp sold $500,000 of 4%, eight-year subordinated debentures for $450,000 The purchasers were issued 2,000 detachable warrants, each of which was for one share of $5 par common stock at $12 per share Shortly after issuance, the warrants sold at a market price of $10 each What amount of discount on the debentures should Vent record at issuance? a b c d $50,000 $60,000 $70,000 $74,000 ANSWER: Choice "c" is correct When bonds are issued with detachable warrants, the purchase price must be allocated between the bonds and the warrants Because only the fair value of the warrants is known, that fair value is allocated to APIC – Warrants and the remaining purchase price is allocated to the bonds, as follows: DR DR CR CR Cash $450,000 Discount $ 70,000 Bonds payable APIC Warrants $500,000 $ 20,000 (2,000 warrants x $10 each) 36 AICPA Newly Released Questions – Financial 37 Which of the following statements characterizes convertible debt? a b c d The holder of the debt must be repaid with shares of the issuer's stock No value is assigned to the conversion feature when convertible debt is issued The transaction should be recorded as the issuance of stock The issuer's stock price is less than market value when the debt is converted ANSWER: Choice "b" is correct Because the conversion feature cannot be sold or transferred separate from the bonds themselves, no value is assigned to the conversion feature when the bonds are issued Choice "a" is incorrect Convertible bonds can be repaid with cash at maturity, like traditional bonds, or can be converted to stock at the option of the bondholder The issuer does not "repay" the debt with stock Choice "c" is incorrect Convertible bonds are considered to be debt, not equity, and are recorded in the same manner as non-convertible bonds Choice "d" is incorrect Generally, an investor has an incentive to convert the convertible bonds to equity when the value of the stock received is greater than, not less than, the market value of the debt 37 AICPA Newly Released Questions – Financial 38 The following is the stockholders' equity section of Harbor Co.'s balance sheet at December 31: Common stock $10 par, 100,000 shares authorized, 50,000 shares issued of which 5,000 have been reacquired, and are held in treasury Additional paid-in capital common stock Retained earnings Subtotal Less treasury stock Total stockholders' equity $ 450,000 1,100,000 800,000 $2,350,000 (150,000) $2,200,000 Harbor has insignificant amounts of convertible securities, stock warrants, and stock options What is the book value per share of Harbor's common stock? a b c d $31 $44 $46 $49 ANSWER: Choice "d" is correct Book value per common share is computed as follows: Book value per common share = Common stockholders' equity Common shares outstanding = $2, 200, 000 45, 000 = $48.88 ≈ $49 Common shareholders' equity includes the reduction for treasury stock Common shares outstanding is computed as total shares issued less treasury shares (50,000 issued – 5,000 treasury = 45,000 outstanding) 38 AICPA Newly Released Questions – Financial 39 Sayon Co issues 200,000 shares of $5 par value common stock to acquire Trask Co in a purchasebusiness combination The market value of Sayon's common stock is $12 Legal and consulting fees incurred in relationship to the purchase are $110,000 Registration and issuance costs for the common stock are $35,000 What should be recorded in Sayon's additional paid-in capital account for this business combination? a b c d $1,545,000 $1,400,000 $1,365,000 $1,255,000 ANSWER: Choice "c" is correct In a business combination, direct costs such as legal and consulting fees are capitalized to the investment account Registration and issuance costs are recorded as a direct reduction to the value of the stock issued by reducing APIC This business combination will be recorded as follows: DR CR CR CR Investment in Trask Cash Common stock APIC $2,510,000 [(200,000 shares x $12/share) + $110,000] $ 145,000 ($110,000 + $35,000) $1,000,000 (200,000 shares x $5 par) $1,365,000 [200,000 shares x ($12 - $5)] - $35,000 39 AICPA Newly Released Questions – Financial 40 A corporation entered into a purchase commitment to buy inventory At the end of the accounting period, the current market value of the inventory was less than the fixed purchase price, by a material amount Which of the following accounting treatments is most appropriate? a Describe the nature of the contract in a note to the financial statements, recognize a loss in the income statement, and recognize a liability for the accrued loss b Describe the nature of the contract and the estimated amount of the loss in a note to the financial statements, but not recognize a loss in the income statement c Describe the nature of the contract in a note to the financial statements, recognize a loss in the income statement, and recognize a reduction in inventory equal to the amount of the loss by use of a valuation account d Neither describe the purchase obligation, nor recognize a loss on the income statement or balance sheet ANSWER: Choice "a" is correct When the current market value of the inventory is less than the fixed purchase price in a purchase commitment, the loss must be recognized at the time of the decline in price, a liability must be recognized on the balance sheet and a description of the losses must be described in the footnotes Choice "b" is incorrect In addition to footnote disclosure, a loss must be reported on the income statement and a liability must be recognized on the balance sheet Choice "c" is incorrect The loss on the purchase commitment is recognized on the balance sheet as a liability, not as a valuation account offsetting inventory Choice "d" is incorrect When the current market value of the inventory is less than the fixed purchase price in a purchase commitment, the loss must be recognized at the time of the decline in price, a liability must be recognized on the balance sheet and a description of the losses must be described in the footnotes 40 AICPA Newly Released Questions – Financial 41 The following information is relevant to the computation of Chan Co.'s earnings per share to be disclosed on Chan's income statement for the year ending December 31: Net income for 2002 is $600,000 $5,000,000 face value 10-year convertible bonds outstanding on January The bonds were issued four years ago at a discount which is being amortized in the amount of $20,000 per year The stated rate of interest on the bonds is 9%, and the bonds were issued to yield10% Each $1,000 bond is convertible into 20 shares of Chan's common stock Chan's corporate income tax rate is 25% Chan has no preferred stock outstanding, and no other convertible securities What amount should be used as the numerator in the fraction used to compute Chan's diluted earnings per share assuming that the bonds are dilutive securities? a b c d $130,000 $247,500 $952,500 $1,070,000 ANSWER: Choice "c" is correct The numerator in the diluted EPS computation is equal to income available to common shareholders plus the after-tax interest expense that would not have been incurred if the bonds had been converted Note that the company is using straight-line amortization rather than effective interest amortization Under straight-line amortization, interest expense of $470,000 is reported each period The interest expense is equal to the interest payment of $450,000 ($5,000,000 face x 9% stated rate) plus the discount amortization of $20,000 Therefore, the numerator is calculated as: Income Available to Common Shareholders + Interest of dilutive securities = $600,000 + [$470,000 x (1 – 25%)] = $600,000 + $352,500 = $952,500 41 AICPA Newly Released Questions – Financial 42 Which of the following is the characteristic of a perfect hedge? a b c d No possibility of future gain or loss No possibility of future gain only No possibility of future loss only The possibility of future gain and no future loss ANSWER: Choice "a" is correct A perfect hedge results in neither gains nor losses In a perfect hedge, the gain or loss on the derivative instrument exactly offsets the loss or gain on the item or transaction being hedged 42 AICPA Newly Released Questions – Financial 43 Gordon Ltd., a 100% owned British subsidiary of a U.S parent company, reports its financial statements in local currency, the British pound A local newspaper published the following U.S exchange rates to the British pound at year end: Current rate Historical rate (acquisition) Average rate Inventory (FIFO) $1.50 1.70 1.55 1.60 Which currency rate should Gordon use to convert its income statement to U.S dollars at year end? a b c d 1.50 1.55 1.60 1.70 ANSWER: Choice "b" is correct Absent any information to the contrary, the functional currency of the British subsidiary must be the British pound To convert from the British pound to the U.S dollar (the reporting currency), the all-current method is used and all income statement items are translated using the average exchange rate Choice "a" is incorrect Under the all-current method, the assets and liabilities on the balance sheet are translated using the current exchange rate and the income statement is translated using the average exchange rate Choice "c" is incorrect The exchange rate specifically associated with FIFO inventory would be used to remeasure inventory on the balance sheet and cost of goods sold on the income statement if the temporal method was used The temporal method should be used when the subsidiary operates in a highly inflationary economy or the local currency of the subsidiary is not the functional currency Neither of these situations is indicated in the facts Choice "d" is incorrect The historical exchange rate would be used to translate common stock/APIC under both the all-current method and the temporal method 43 AICPA Newly Released Questions – Financial 44 On January 16, Tree Co paid $60,000 in property taxes on its factory for the current calendar year On April 2, Tree paid $240,000 for unanticipated major repairs to its factory equipment The repairs will benefit operations for the remainder of the calendar year What amount of these expenses should Tree include in its third quarter interim financial statements for the three months ended September 30? a b c d $0 $15,000 $75,000 $95,000 ANSWER: Choice "d" is correct For interim reporting purposes, costs the benefit multiple periods should be allocated equally to those periods The $60,000 in property taxes will benefit the entire calendar year and therefore must be allocated equally to each calendar quarter: $60,000 / quarters = $15,000 per quarter The $240,000 in equipment repairs will benefit the company from April – December and therefore should be allocated equally to each the three quarters contained in that period: $240,000 / quarters = $80,000 per quarter Therefore, the total of these expenses to be recognized in the quarter ended September 30 is $95,000 ($15,000 allocated property taxes + $80,000 allocated equipment repairs) 44 AICPA Newly Released Questions – Financial 45 Stam Co incurred the following research and development project costs during the current year: Equipment purchased for current and future projects Equipment purchased for current projects only Research and development salaries for current projects Legal fees to obtain patent Material and labor costs for prototype product $100,000 200,000 400,000 50,000 600,000 The equipment has a five-year useful life and is depreciated using the straight-line method What amount should Stam recognize as research and development expense at year end? a b c d $450,000 $1,000,000 $1,220,000 $1,350,000 ANSWER: Choice "c" is correct Research and development expense is calculated as follows: Depreciation of equipment for current & future periods Equipment for current projects only R&D salaries Material and labor costs for prototype Total R&D Expense $ 20,000 200,000 400,000 600,000 $1,220,000 Research and development expense does not include the amount paid for the equipment purchased for current and future projects because the equipment has alternate future uses This equipment will be capitalized, but the related depreciation expense will be allocated to R&D while the equipment is being used for R&D The legal fees to obtain the patent are capitalized as an intangible asset 45 AICPA Newly Released Questions – Financial 46 A state had general obligation bonds outstanding that required payment of interest on July and January of each year State law allowed for the general fund to make debt payments without the use of a fiscal agent The fiscal year ended June 30 Which of the following accounts would have decreased when the state paid the interest due on July 1? a b c d Interest expenditures Interest payable Interest expense Fund balance ANSWER: Choice "d" is correct The general fund is a governmental fund When interest is paid using a governmental fund, interest expenditure is increased and cash is decreased The interest expenditure decreases fund balance on the general fund balance sheet, just as interest expense decreases the retained earnings of a commercial enterprise Choice "a" is incorrect Interest expenditure is increased, not decreased, when an interest payment is made Choice "b" is incorrect Under governmental fund accounting, interest payable is only recorded when interest is not paid on the due date Because the state pays the interest due on July on July 1, it is not necessary to record interest payable Choice "c" is incorrect The general fund is a governmental fund Governmental funds report expenditures, not expenses 46 AICPA Newly Released Questions – Financial 47 On March 1, Wag City issued $1,000,000, ten-year, 6% general obligation bonds at par with no bond issue costs The bonds pay interest September and March What amount of interest expense and bond interest payable should Wag report in its government-wide financial statements at the close of the fiscal year on December 31? a b c d Interest expense, $50,000; interest payable, $20,000 Interest expense, $50,000; interest payable, $0 Interest expense, $60,000; interest payable, $10,000 Interest expense, $30,000; interest payable, $0 ANSWER: Choice "a" is correct The government-wide financial statements are prepared using the economic resources measurement focus and the full accrual basis of accounting Therefore, interest expense should include all interest accrued from March through December 31 (ten months) and interest payable should include the amount accrued after the interest payment on September (four months) Interest expense = $1,000,000 x 6% x 10/12 = $50,000 Interest payable = $1,000,000 x 6% x 4/12 = $20,000 47 AICPA Newly Released Questions – Financial 48 All of the following statements regarding notes to the basic financial statements of governmental entities are true, except: a The notes contain disclosures related to required supplementary information b Some notes presented by governments are identical to notes presented in business financial statements c Notes that are considered essential to the basic financial statements need to be presented d It is acceptable to present notes in a very extensive format ANSWER: Choice "a" is correct This is the only statement that is not true Information related to required supplementary information is reported before (MD&A) or after (budget, infrastructure, pension) the footnotes, not as part of the footnotes 48 AICPA Newly Released Questions – Financial 49 How should unconditional pledges received by a nongovernmental not-for-profit organization that will be collected over more than one year be reported? a b c d Long-term pledges receivable, valued at the expected collection amount Pledges receivable, valued at their present values Deferred revenue, valued at present value Pledges receivable, valued at the amount pledged ANSWER: Choice "b" is correct Unconditional pledges that will be collected over more than one year should be reported as pledges receivable, valued at their present value 49 AICPA Newly Released Questions – Financial 50 How should a nongovernmental, not-for-profit organization report donor-restricted cash contributions for long-term-purposes in its statement of cash flows? a b c d Operating activity inflow Investing activity inflow Financing activity inflow As a noncash transaction ANSWER: Choice "c" is correct Cash contributions restricted by the donor for long-term-purposes must be reported as a cash inflow in the financing activities section of the statement of cash flows, segregated from other financing activities 50 ... 17 2008 AICPA Newly Released Questions – Financial 18 A corporation issues quarterly interim financial statements and uses the lower cost or market method to value its inventory in its annual financial. .. 20 2008 AICPA Newly Released Questions – Financial 21 What is the measurement focus and the basis of accounting for the government-wide financial statements? a b c d Measurement focus Current financial. .. receivable and inventory from current assets 2008 AICPA Newly Released Questions – Financial TGR Enterprises provided the following information from its statement of financial position for the year ended