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69 Cards in this Set
- Front
- Back
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On December 2, Year 1, Flint Corp.'s board of directors voted to discontinue operations of its frozen food division and to sell the division's assets on the open market as soon as possible. This decision represents a major strategic shift for Flint and will have a significant effect on operations and financial results. The division reported net operating losses of $20,000 in December and $30,000 in January. On February 26, Year 2, sale of the division's assets resulted in a gain of $90,000. Assuming that the frozen foods division qualifies as a component of the business and ignoring income taxes, what amount of gain/loss from discontinued operations should Flint recognize in its income statement for Year 2? a. $0 b. $40,000 c. $60,000 d. $90,000
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Choice "c" is correct. The $60,000 gain from discontinued operations would be reported in Flint's Year 2 income statement. The operating loss for January would offset the gain from disposal in February, and the net amount would be reported as a gain (in this case) from discontinued operations. The operating losses for December would have been reported in Flint's Year 1 income statement. Choice "a" is incorrect per the above. It would be correct if all of the gains and losses were included in Year 1 instead of Year 2. However, gains and losses from discontinued operations are included in the year they occur. Choice "b" is incorrect. It includes the operating loss for December, Year 1 in with the Year 2 amounts. Choice "d" is incorrect. It ignores the January operating loss. Operating losses are included in gain/loss from discontinued operations, along with impairment losses and gains/losses on disposal. |
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At December 31, Year 2, 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, Year 1, $300,000 of which were to be written off in Year 2 and the remainder in Year 3. Off-Line's income tax rate is 30%. In its Year 3 financial statements, what amount should Off-Line report as cumulative effect of change in accounting principle? a. $200,000 b. $500,000 c. $350,000 d. $0
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Explanation Choice "d" is correct. A change in method of accounting for demo costs is a change in accounting principle inseparable from a change in estimate. 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 "a", "c", and "b" are incorrect since no cumulative effect adjustment is made. |
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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. By footnote disclosure only. b. As a correction of an error. c. As a component of income from continuing operations. d. By restating the financial statements of all prior periods presented.
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Explanation Choice "c" 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. Choice "d" 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 "b" 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 "a" is incorrect. While footnote disclosure is always appropriate for an accounting change, such disclosure alone is never the appropriate accounting treatment. |
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In September, 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 year-end income statement, what amount should Koff report as extraordinary loss under U.S. GAAP? a. $280,000 b. $420,000 c. $0 d. $700,000
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Explanation Choice "b" is correct. For a loss to be reported as an extraordinary loss under U.S. GAAP, 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). Choice "c" is incorrect. Review the criteria for reporting an extraordinary loss. Choice "a" 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. |
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During January Year 3, Doe Corp. agreed to sell the assets and product line of its Hart division. The decision represents a major strategic shift for Doe and will have a significant effect on its operations and financial results. The sale was completed on January 15, Year 4 and resulted in a gain on disposal of $900,000. Hart's operating losses were $600,000 for Year 3 and $50,000 for the period January 1 through January 15, Year 4. Disregarding income taxes, what amount of net gain (loss) should be reported in Doe's comparative Year 4 and Year 3 income statements? Year 3 a. $(600,000) $850,000 b. $0 $250,000 c. $250,000 $0 d. $(650,000) $900,000
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Explanation Choice "a" is correct. The Year 3 operating losses would be reported in the Year 3 income statement. The Year 4 operating losses and the gain on disposal would be netted and reported in the Year 4 income statement. Each amount would be reported in the period it occurred. Choice "b" is incorrect. It reports the total projected gains and losses in Year 4 and nothing in Year 3. Each amount should be reported in the period it occurred. Choice "c" is incorrect. It reports the total projected gains and losses in Year 3 and nothing in Year 4. Each amount should be reported in the period it occurred. Choice "d" is incorrect. It reports the total projected losses in Year 3 and the gain in Year 4. Each amount should be reported in the period it occurred. |
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On April 30, Deer Corp. approved a plan to dispose of a component of its business. The decision represents a major strategic shift for Deer and will have a significant effect on its operations and financial results. For the period January 1 through April 30, the component had revenues of $500,000 and expenses of $800,000. The assets of the component were sold on October 15 at a loss. In its income statement for the year ended December 31, how should Deer report the component's operations from January 1 to April 30? a. $500,000 and $800,000 should be included with revenues and expenses, respectively, as part of continuing operations. b. $300,000 should be reported as an extraordinary loss. c. $300,000 should be reported as a loss from operations of a component and included in loss from discontinued operations. d. $300,000 should be reported as part of the loss on disposal of a component and included as part of continuing operations.
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Explanation Choice "c" is correct. Once the decision has been made to dispose of a component of a business and that component meets the criteria to be classified as held for sale, the operating results of the component for the period reported on, and any gain or loss from the disposal, should be reported separately from continuing operations, net of tax. In this question, the component was classified as held for sale and was sold in the same year. Thus, the results of operations, the $300,000 ($500,000-$800,000) loss, are reported as a loss from discontinued operations. The loss on disposal would be reported as part of that loss from discontinued operations also. Choice "a" is incorrect. The results of operations prior to the decision date, and also after the decision date, are reported separately from the results of continuing operations as a part of discontinued operations. Choice "d" is incorrect. The results of operations prior to the decision date, and also after the decision date, are reported separately from the results of continuing operations as a loss from operations of a component and included in loss from discontinued operations. Choice "b" is incorrect. The results of discontinued operations are not reported as an extraordinary item. |
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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. Under U.S. GAAP, Gold should report the: a. Effect of its own bond transaction gain in income before extraordinary items, and report the Iron bond transaction as an extraordinary loss. b. Net effect of the two transactions in income before extraordinary items. c. Net effect of the two transactions as an extraordinary gain. d. Effect of its own bond transaction as an extraordinary gain, and report the Iron bond transaction loss in income before extraordinary items.
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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. The Iron Corp. transaction is a loss in "income before extraordinary items" under U.S. GAAP. Choices "c" and "b" are incorrect. The two transactions are separate and cannot be netted. Choice "a" 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" under U.S. GAAP. |
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During the current year, both Raim Co. and Cane Co. suffered losses due to the flooding of the Mississippi River. Raim is located two miles from the river and sustains flood losses every two to three years. Cane, which has been located 50 miles from the river for the past 20 years, has never before had flood losses. How should the flood losses be reported in each company's income statement under U.S. GAAP? |
Raim
As a component of income
Cane
As an extraordinary item |
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Lore Co. changed from the cash basis of accounting to the accrual basis of accounting during the current year. The cumulative effect of this change should be reported in Lore's current year financial statements as a: a. Prior period adjustment resulting from the correction of an error. b. Prior period adjustment resulting from the change in accounting principle. c. Component of income before extraordinary item. d. Component of income after extraordinary item. |
Explanation Choice "a" is correct. The cash basis for financial reporting is not a generally accepted accounting basis of accounting (GAAP); therefore, it is an error. Correction of an error from a prior period is a reported as prior period adjustment to retained earnings. Choice "b" is incorrect. Cash basis reporting is not an accounting principle under accrual accounting principles. Thus, the change from cash basis is not reported as a change in accounting principle. In addition, changes in accounting principle are not prior period adjustments; instead, they are treated retrospectively. Choices "c" and "d" are incorrect. Correction of prior period errors has no effect on the current year's income statement. |
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Which of the following should be included in general and administrative expenses? Interest |
None
Explanation Choice "c" is correct. Interest expense is classified as a separate line item on the income statement. Advertising is classified as a selling expense. |
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Under U.S. GAAP, a material loss should be presented separately as a component of income from continuing operations when it is: a. Not unusual in nature but infrequent in occurrence. b. Unusual in nature and infrequent in occurrence. c. An extraordinary item. d. A cumulative effect type change in accounting principle.
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Explanation Choice "a" is correct. Gains or losses that are unusual in nature or occur infrequently but not both, are presented as a component of income from continuing operations. Choice "c" is incorrect. Under U.S. GAAP, extraordinary items are shown net of tax in a separate section of the income statement after income from continuing operations. Choice "d" is incorrect. Cumulative effects of changes in accounting principle are now shown net of tax as an adjustment to the opening balance of retained earnings in the retained earnings statement. This treatment is called retrospective application. There really are no longer any cumulative effect types of changes in accounting principle. The cumulative effect is merely how the amount of the change is measured. Choice "b" is incorrect. This is the definition of an extraordinary item under U.S. GAAP. |
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On October 1, 20X4, Host Co. approved a plan to dispose of one of the company's operating segments. The decision represents a major strategic shift for Host and will have a significant effect on its operations and financial results. Host expected that the sale would occur on April 1, 20X5 at an estimated gain of $350,000. The segment had actual and estimated operating losses as follows: 1/1/X4 to 9/30/X4 $(300,000) 10/1/X4 to 12/31/X4 (200,000) 1/1/X5 to 3/31/X5 (400,000) In its 20X4 income statement, what should Host report as a loss from discontinued operations before income taxes? a. $550,000 b. $200,000 c. $500,000 d. $900,000
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Explanation Choice "c" is correct. In its 20X4 income statement, Host would include in its loss from discontinued operations the 20X4 losses but not the projected 20X5 operating losses and not the projected gain on disposal. The 20X4 losses are $500,000 in total. The projected 20X5 operating loss of $400,000 and the projected gain on disposal would be included in its 20X5 income statement. Choice "b" is incorrect. It includes only a portion of the 20X4 operating losses in the 20X4 loss from discontinued operations. Each amount should be reported in the period it occurred, and the entire 20X4 operating loss, not just the portion that occurred after the decision date, would be included. Choice "a" is incorrect. It includes all of the projected operating losses and the projected gain in the 20X4 loss from discontinued operations. Each amount should be reported in the period it occurred. Choice "d" is incorrect. It includes all of the projected operating losses in the 20X4 loss from discontinued operations. Each amount should be reported in the period it occurred. |
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During Year 2, Orca Corp. decided to change from the FIFO method of inventory valuation to the weighted-average method. Inventory balances under each method were as follows:
January 1, Year 2 $71,000 $77,000 December 31, Year 2 79,000 83,000 Orca's income tax rate is 30%. Orca should report the cumulative effect of this accounting change as a(n): a. Adjustment to beginning retained earnings. b. Extraordinary item. c. Component of income after extraordinary items. d. Component of income from continuing operations. Explanation |
Explanation Choice "a" is correct. The cumulative effect of a change in accounting principle is shown as an adjustment to beginning retained earnings. Choice "d" is incorrect. The cumulative effect of a change in accounting principle is now presented as a separate category on the retained earnings statement and is not a component of net income. Choice "b" is incorrect. Extraordinary items are unusual and infrequent in nature. Extraordinary items have nothing to do with changes in accounting principle. Choice "c" is incorrect. A change in accounting principle affects retained earnings, not the income statement. |
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On October 1, Year 1, Wand, Inc. committed itself to a formal plan to sell its Kam division's assets early in Year 2. The decision represents a major strategic shift and will have a significant effect on its operations and financial results. On that date, Wand estimated that the fair value of the component's assets was $25,000 less than the carrying value. Wand also estimated that Kam would incur operating losses of $100,000 for the period of October 1, Year 1 through December 31, Year 1 and $50,000 for the period January 1, Year 2 through February 28, Year 2. All estimates proved to be materially correct. Disregarding income taxes, what should Wand report as loss from discontinued operations in its comparative Year 1 and Year 2 income statements? Year 1 a. $125,000 $50,000 b. $175,000 $0 c. $0 $175,000 d. $100,000 $75,000
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Explanation Choice "a" is correct. The loss from discontinued operations for Year 1 includes the Year 1 operating losses of $100,000 and the impairment loss of $25,000. Since the fair value of the component's assets is less than the carrying value, there has been an impairment of the assets of the component, and the impairment loss is recognized in Year 1, the year in which the component is classified as held for sale. Thus, disregarding income taxes, the Year 1 loss from discontinued operations is $125,000. The loss from discontinued operations for Year 2 includes the Year 2 operating losses of $50,000. If there had been a loss on disposal larger than what had been estimated as the $25,000 difference between the fair value and carrying value of the component's assets, that "additional" loss would have been included in Year 2, the year in which it occurred. Choice "b" is incorrect. It includes all projected losses in the earlier of the two years. The results of operations should be reported in the period in which they occur; projected losses from operations are not anticipated. Choice "d" is incorrect. It excludes the impairment loss of $25,000 from Year 1. The results of operations of the component, including any loss recognized in recording impairment of the component, are reported in discontinued operations in the period in which the component is either disposed of or classified as held for sale. In this question, the plan to sell the assets was committed to in Year 1, and that would be the period in which the assets were held for sale. At that date, the impairment had already occurred, and the impairment loss is recognized in that period and not in the later period of disposal. Choice "c" is incorrect. It includes all projected losses in the later of the two years. |
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Under U.S. GAAP, a transaction that is unusual in nature and infrequent in occurrence should be reported separately as a component of income: a. After discontinued operations of a segment of a business. b. After cumulative effect of accounting changes and before discontinued operations of a segment of a business. c. After cumulative effect of accounting changes and after discontinued operations of a segment of a business. d. Before cumulative effect of accounting changes and before discontinued operations of a segment of a business.
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Explanation Choice "a" is correct. An extraordinary item (a transaction that is both "unusual in nature" and "infrequent in occurrence") should be reported separately as a component of income after discontinued operations of a segment of a business. The cumulative effect of a change in accounting principle is shown on the retained earnings statement. This is why memorizing the mnemonic "idea" is so important. |
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How should the effect of a change in accounting estimate be accounted for? a. By restating amounts reported in financial statements of prior periods. b. By reporting pro forma amounts for prior periods. c. As a prior period adjustment to beginning retained earnings. d. In the period of change and future periods if the change affects both.
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Explanation Choice "d" is correct, a "change in accounting estimate" affects only the current and subsequent (future) periods, if the change affects both. It does not affect "prior periods," nor "retained earnings." Choice "a" is incorrect. Restating prior years' financial statements is required when comparative financial statements are shown for prior period adjustments of "corrections of errors," "changes in entities," and changes in accounting principle. Choices "b" and "c" are incorrect. A "change in accounting estimate" does not affect prior periods. |
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Foy Corp. failed to accrue warranty costs of $50,000 in its December 31, Year 1, financial statements. In addition, a $30,000 change from straight-line to accelerated depreciation was made at the beginning of Year 2. Both the $50,000 and the $30,000 are net of related income taxes. What amount should Foy report as prior period adjustments in Year 2? a. $50,000 b. $0 c. $80,000 d. $30,000
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Explanation Choice "a" is correct. $50,000. The cumulative effect of a change in accounting principle is now shown on the retained earnings statement as an adjustment to the beginning balance of retained earnings, assuming that the cumulative effect can be calculated. An exception is made however, for a change in depreciation method, since a change in depreciation method is no longer considered to be a change in accounting principle. A change in depreciation method is now considered to be both a change in method and a change in estimate. These changes should now be accounted for as a change in estimate and handled prospectively. The new depreciation method should be used as of the beginning of the year of change and should start with the current book value of the underlying asset. No retroactive or retrospective calculations should be made, and no adjustment should be made to retained earnings. The correction of the failure to accrue warranty costs is treated as a correction of an error and thus as a prior period adjustment. Choices "b", "d", and "c" are incorrect, per the above explanation. |
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The following question is based on the following: Vane Co.'s trial balance of income statement accounts for the year ended December 31, Year 1, included the following: DebitCredit
Sales$ 575,000
Cost of sales$ 240,000
Administrative expenses70,000
Loss on sale of equipment10,000
Sales commissions50,000
Interest revenue25,000
Freight out15,000
Loss on early retirement of long-term debt (unusual & infrequent item)20,000
Uncollectible accounts expense15,000
Total$ 420,000$ 600,000 Other information Finished goods inventory:
January 1, Year 1 $400,000 December 31, Year 1 $360,000 Vane's income tax rate is 30%. In Vane's Year 1 multiple-step income statement, what amount should Vane report as income from continuing operations? a. $126,000 b. $140,000 c. $129,500 d. $147,000
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Explanation Choice "b" is correct, $140,000.
Net of credits over debits ($600-420)$ 180,000
add: extraordinary item - loss on early retirement of long-term debt20,000
Income from continuing operations200,000
"Net of tax" rate (100%-30% tax)x 70%
Income after income taxes from continuing operations$ 140,000 Choice "a" is incorrect. The $20,000 loss on the early retirement of long-term debt is an extraordinary item that will be reported after income from continuing operations. It should not be included in income from continuing operations. Choice "c" is incorrect. The interest revenue of $25,000 and the $10,000 loss on the sale of equipment should be included in income from continuing operations. Choice "d" is incorrect. The $10,000 loss on the sale of equipment is not an extraordinary item and should be included in income from continuing operations. |
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Per U.S. GAAP, which of the following statements is correct regarding accounting changes that result in financial statements that are, in effect, the statements of a different reporting entity? a. No restatements or adjustments are required if the changes involve the cost or equity methods of accounting for investments. b. No restatements or adjustments are required if the changes involve consolidated methods of accounting for subsidiaries. c. The financial statements of all prior periods presented should be restated. d. Cumulative-effect adjustments should be reported as separate items on the income statement in the year of change. |
Explanation Choice "c" is correct. Financial statements of all prior periods presented should be restated when there is a "change in entity" such as resulting from: Changing companies in consolidated financial statements. Consolidated financial statements vs. Previous individual financial statements. Choice "d" is incorrect. Cumulative-effect adjustments are reported in the retained earnings statement in the year of change. Choice "b" is incorrect. Restatements are required for changes in entity (of subsidiaries). Choice "a" is incorrect. Per GAAP, changes involving the cost and equity methods of accounting for investments are not considered to be changes in accounting principle. A change from the cost method to the equity method requires restatement; however, a change from the equity method to the cost method does not require restatement and is accounted for prospectively. Note: IFRS does not discuss the accounting for changes in reporting entity. |
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Under U.S. GAAP, the effect of a material transaction that is infrequent in occurrence but not unusual in nature should be presented separately as a component of income from continuing operations when the transaction results in a: |
Gain
Yes
Yes
Explanation Choice "a" is correct, Yes - Yes. Under U.S. GAAP, a material transaction that is "infrequent in occurrence" but not "unusual in nature" should be presented separately as a component of "income from continuing operations" when the transaction results in a gain or loss, while transactions that are unusual and infrequent are reported as extraordinary items. |
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Under U.S. GAAP, an extraordinary item should be reported separately on the income statement as a component of income: Net of Before discontinued |
Net of
Yes
Before discontinued
No
Explanation Choice "c" is correct, Yes - No. Under U.S. GAAP, an extraordinary item should be reported separately on the income statement as a component of income: Yes - net of income taxes. No - after (not before) "discontinued operations of a segment of a business." |
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On January 2, Year 3, to better reflect the variable use of its only machine, Holly, Inc. elected to change its method of depreciation from the straight-line method to the units of production method. The original cost of the machine on January 2, Year 1, was $50,000, and its estimated life was 10 years. Holly estimates that the machine's total life is 50,000 machine hours. Machine hours usage was 8,500 during Year 2 and 3,500 during Year 1. Holly's income tax rate is 30%. Holly should report the accounting change in its Year 3 financial statements as a(n): a. Cumulative effect of a change in accounting principle of $1,400 in its income statement. b. Cumulative effect of a change in accounting principle of $2,000 in its income statement. c. Adjustment to beginning retained earnings of $2,000. d. None of the above.
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Explanation Choice "d" is correct. A change in the method of depreciation is now considered to be both a change in method and a change in estimate. These changes should be accounted for as changes 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 "b", "c", and "a" are incorrect, per the above explanation. |
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On November 1, Year 1, Smith Co. contracted to dispose of an industry segment. Throughout Year 1 the segment had operating losses. These losses were expected to continue until the segment's disposition. If a loss is projected on final disposition, how much of the operating losses should be included in the loss from discontinued operations reported in Smith's Year 1 income statement? I. Operating losses for the period January 1 to October 31, Year 1. II. Operating losses for the period November 1 to December 31, Year 1. III. Estimated operating losses for the period January 1 to February 28, Year 2. a. II only. b. I and III only. c. I and II only. d. II and III only.
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Explanation Choice "c" is correct. The operating losses to be included in Smith's Year 1 income statement would be the total Year 1 operating losses, regardless of whether those losses occurred before or after the date the decision to dispose of the component was made, and not any Year 2 operating losses. Projected operating losses are not anticipated and accrued. Choice "a" is incorrect. The operating losses to be included in Smith's Year 1 income statement would be the total Year 1 operating losses, regardless of whether those losses occurred before or after the date the decision to dispose of the component was made, and not any Year 2 operating losses. Choice "d" is incorrect. The operating losses to be included in Smith's Year 1 income statement would be the total Year 1 operating losses, regardless of whether those losses occurred before or after the date the decision to dispose of the component was made, and not any Year 2 operating losses. Choice "b" is incorrect. The operating losses to be included in Smith's Year 1 income statement would be the total Year 1 operating losses, regardless of whether those losses occurred before or after the date the decision to dispose of the component was made, and not any Year 2 operating losses. |
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Under U.S. GAAP, if a company is not presenting comparative financial statements, the correction of an error in the financial statements of a prior period should be reported, net of applicable income taxes, in the current: a. Retained earnings statement as an adjustment of the opening balance. b. Retained earnings statement after net income but before dividends. c. Income statement after income from continuing operations and after extraordinary items. d. Income statement after income from continuing operations and before extraordinary items. |
Explanation Choice "a" is correct. The correction of an error in the financial statements of a prior period should be reported, net of tax, in the current statement of retained earnings as an adjustment of the opening balance. Choice "b" is incorrect. The adjustment is before net income, not after net income. Choices "d" and "c" are incorrect. Corrections of errors of prior periods go to retained earnings and do not affect the income statement. |
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The cumulative effect of a change in accounting estimate should be shown separately: a. It should not be recorded separately on any financial statement. b. On the income statement after income from continuing operations and before extraordinary items. c. On the income statement above income from continuing operations. d. On the retained earnings statement as an adjustment to the beginning balance. |
Explanation Choice "a" is correct. A change in estimate is handled prospectively. No cumulative effect adjustment is made and no separate line item presentation is made on any financial statement. If a material change is being made, appropriate footnote disclosure is necessary. Choices "c", "b", and "d" are incorrect, per the above explanation. |
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The following costs were incurred by Griff Co., a manufacturer, during the current year: Accounting and legal fees $25,000 Freight-in 175,000 Freight-out 160,000 Officers salaries 150,000 Insurance 85,000 Sales representatives salaries 215,000 What amount of these costs should be reported as general and administrative expenses for the current year? a. $260,000 b. $635,000 c. $550,000 d. $810,000
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Explanation Choice "a" is correct. General and administrative expenses include:
Accounting and legal$ 25,000
Officers salaries150,000
Insurance85,000
Total$ 260,000 Freight-in is part of cost of sales; freight-out is a selling expense; and sales salaries are selling expenses. Choice "c" is incorrect. Freight-in is part of cost of inventory; freight-out is a selling expense; and sales salaries are selling expenses. Choice "b" is incorrect. Freight-in is part of cost of inventory; freight-out is a selling expense; and sales salaries are selling expenses. Choice "d" is incorrect. Freight-in is part of cost of inventory; freight-out is a selling expense; and sales salaries are selling expenses. |
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On January 2, Year 1, Union Co. purchased a machine for $264,000 and depreciated it by the straight-line method using an estimated useful life of eight year s with no salvage value. On January 2, Year 4, Union determined that the machine had a useful life of six years from the date of acquisition and will have a salvage value of $24,000. An accounting change was made in Year 4 to reflect the additional data. The accumulated depreciation for this machine should have a balance at December 31, Year 4, of: a. $154,000 b. $160,000 c. $146,000 d. $176,000
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Explanation Choice "c" is correct, $146,000 accumulated depreciation balance at Dec. 31, Year 4.
Depreciable
Useful
Annual
Years
Accumulated Original $264 ÷ 8 yrs = $33 × 3 yrs = $99 (Year 1 - Year 3) Accum. deprec. (99)
NBV
12/31/Year 3 165
Salvage (24)
Revised 141 ÷ 3 yrs = 47 × 1 yr = 47 (Year 4)
Balance, 12/31/Year 4
$146 |
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During the current year, Krey Co. increased the estimated quantity of copper recoverable from its mine. Krey uses the units of production depletion method. As a result of the change, which of the following should be reported in Krey's year-end financial statements?
Cumulative effect
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Cumulative effect
No
No
Explanation Choice "c" is correct, No - No. This is a change in "accounting estimate," which affects only the current and subsequent periods (not prior periods and not retained earnings). "Cumulative effect of a change in accounting principle" is only used for changes in "accounting principle." |
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On August 31, Year 1, Harvey Co. decided to change from the FIFO periodic inventory system to the weighted average periodic inventory system. Harvey uses U.S. GAAP, is on a calendar year basis, and does not present comparative financial statements. The cumulative effect of the change is determined: a. As of January 1, Year 1. b. As of August 31, Year 1. c. During Year 1 by a weighted average of the purchases. d. During the eight months ending August 31, Year 1, by a weighted average of the purchases.
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Explanation Choice "a" is correct, as of January 1, Year 1, the beginning of the year. 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, assuming comparative financial statements are not presented. Beginning retained earnings of the earliest year presented is adjusted for the cumulative effect of the change. Choice "b" is incorrect. The cumulative effect of the change is not determined as of the date the decision is made. Choices "d" and "c" are incorrect. The cumulative effect of the change is not determined by a weighted average. |
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On December 31, Year 1, the Board of Directors of Maxy Manufacturing, Inc. committed to a plan to discontinue the operations of its Alpha division. The decision represents a major strategic shift and will have a significant effect on its operations and financial results. Maxy estimated that Alpha's Year 2 operating loss would be $500,000 and that the fair value of Alpha's facilities was $300,000 less than their carrying amounts. Alpha's Year 1 operating loss was $1,400,000, and the division was actually sold for $400,000 less than its carrying amount in Year 2. Maxy's effective tax rate is 30%. In its Year 1 income statement, what amount should Maxy report as loss from discontinued operations? a. $980,000 b. $1,700,000 c. $1,190,000 d. $1,400,000
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Explanation Choice "c" is correct. Since the fair value of Alpha's facilities was $300,000 less than its carrying value, there has been an impairment loss, and that loss should be recognized in Year 1. That $300,000 impairment loss plus the $1,400,000 Year 1 operating loss would be recognized in Year 1 net of tax. The total loss would be $1,700,000 x 70% (100% - 30%) or $1,190,000. Choice "a" is incorrect. It includes the Year 1 operating loss of $1,400,000 but not the $300,000 impairment loss but does report the Year 1 operating loss net of tax. Choice "d" is incorrect. It includes the Year 1 operating loss of $1,400,000, but not the $300,000 impairment loss, and reports the Year 1 operating loss gross of tax and not net of tax. Choice "b" is incorrect. It reports the Year 1 loss from discontinued operations gross of tax and not net of tax. |
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On December 31, Year 1, the Board of Directors of Maxy Manufacturing, Inc. committed to a plan to discontinue the operations of its Alpha division. The decision represents a major strategic shift and will have a significant effect on its operations and financial results. Maxy estimated that Alpha's Year 2 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 Year 2 turned out to be correct. Alpha's Year 1 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 Year 2 income statement, what amount should Maxy report as loss from discontinued operations? a. $420,000 b. $600,000 c. $500,000 d. $350,000
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Explanation Choice "a" is correct. The Year 2 loss from discontinued operations would include both the Year 2 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 0.70 or $420,000. Choice "d" is incorrect. It includes the Year 2 operating loss of $500,000 but not the $300,000 impairment loss but does report the Year 2 operating loss net of tax. Choice "c" is incorrect. It includes the Year 2 operating loss of $500,000, but not the $100,000 loss on disposal, and reports the Year 2 operating loss gross of tax and not net of tax. Choice "b" is incorrect. It reports the Year 2 loss from discontinued operations gross of tax and not net of tax. The Year 2 loss from discontinued operations should include both the Year 2 operating loss of $500,000 and the loss on disposal of $100,000, net of tax, for a total of $600,000 x 0.70 or $420,000. |
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Explanation Choice "a" is correct. The Year 2 loss from discontinued operations would include both the Year 2 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 0.70 or $420,000. Choice "d" is incorrect. It includes the Year 2 operating loss of $500,000 but not the $300,000 impairment loss but does report the Year 2 operating loss net of tax. Choice "c" is incorrect. It includes the Year 2 operating loss of $500,000, but not the $100,000 loss on disposal, and reports the Year 2 operating loss gross of tax and not net of tax. Choice "b" is incorrect. It reports the Year 2 loss from discontinued operations gross of tax and not net of tax. The Year 2 loss from discontinued operations should include both the Year 2 operating loss of $500,000 and the loss on disposal of $100,000, net of tax, for a total of $600,000 x 0.70 or $420,000. |
Choice "c" is correct. A change in estimated useful life is a change in accounting estimate, and is therefore accounted for prospectively. The revised useful life should be used as of the beginning of the year of the change and should be applied to the current book value of the fixed asset. The first step in determining the depreciation expense in the year of the change in estimate is to determine the book value of the labeling machine at the time of the change: Original cost $ 46,000
Accumulated depreciation (15,000) = [(46,000 - 1,000) ÷ 12] × 4 Current book value $ 31,000
This book value is then depreciated over the remaining life of the fixed asset based on the new estimated life. In this problem, the new estimated life is 10 years, four of which have already passed, so the asset must be depreciated over the remaining 6 years: ($31,000 - 1,000) / 6 = $5,000 Choice "b" is incorrect. This answer is incorrectly calculated by adding the salvage value to the current book value, and by using the entire 10 year revised estimated life. Salvage value should always be subtracted and the asset should only be depreciated over the remaining life of the asset. Choice "a" is incorrect. This is the annual depreciation before the change in estimated life ($46,000 - $1,000) / 12 = $3,750]. The depreciation after the change in estimate should be calculated as described above. Choice "d" is incorrect. This would have been the annual straight-line depreciation if the original useful life of the asset had been 10 years rather than 12 years. The change in estimated life is applied prospectively, as described above, not retrospectively. |
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Scott Corporation sold a fixed asset used for operations for greater than its carrying amount. Scott should report the transaction in the income statement using the: a. Net concept, showing the total gain as part of discontinued operations, net of income taxes. b. Net concept, showing the total amount as an extraordinary item, net of income taxes. c. Gross concept, showing the proceeds as part of revenues and the carrying amount as part of expenses in the continuing operations section. d. Net concept, showing the total gain as part of continuing operations, not net of income taxes. |
Explanation Choice "d" is correct. The transaction resulted in a gain, which should be reported using the net concept (i.e., proceeds less carrying amount). This gain resulted in the recognition of an asset not in the ordinary course of business, but it did not qualify as an extraordinary item or as part of discontinued operations. Choice "c" is incorrect. Gains (and losses) are reported using the net concept. Choice "b" is incorrect. Gains and losses from fixed asset sales are reported using the net concept, but are not included in extraordinary items because such gains and losses do not meet the definition of unusual and infrequent. Choice "a" is incorrect. Gains and losses from fixed asset sales are reported using the net concept, but are not included in discontinued operations because a fixed asset is not considered a component of an entity. Discontinued operations are only reported for the disposal of a component of an entity. |
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Under U.S. GAAP, an extraordinary gain should be reported as a direct increase to which of the following? a. Income from continuing operations, net of tax. b. Income from discontinued operations, net of tax. c. Net income. d. Comprehensive income. |
Explanation Choice "c" is correct. Under U.S. GAAP, extraordinary items are reported as a component of net income, after income from continuing operations and discontinued operations. The reporting of gains/losses as extraordinary is prohibited under IFRS. Choice "d" is incorrect. An extraordinary gain (or loss) only indirectly affects comprehensive income as a component of net income. Choice "a" is incorrect. Extraordinary items are reported net of tax after income from continuing operations and discontinued operations. Choice "b" is incorrect. Extraordinary items are reported net of tax after income from continuing operations and discontinued operations. |
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Which of the following is a cost associated with exit and disposal activities? a. Costs to relocate employees. b. Costs to terminate a capital lease. c. Costs associated with the retirement of a fixed asset. d. Benefits related to voluntary employee termination. |
Explanation Choice "a" is correct. Costs to relocate employees are costs associated with exit and disposal activities. Choice "d" is incorrect. Exit and disposal activities include benefits related to involuntary (not voluntary) employee termination. Choice "b" is incorrect. Exit and disposal activities include costs to terminate a contract that is not a capital lease. Capital lease termination costs are accounted for separately from exit and disposal activities. Choice "c" is incorrect. The cost of retiring a fixed asset is not considered an exit or disposal cost. |
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Which of the following is not a criteria for recognizing a liability associated with exit or disposal activities? a. A commitment to an exit plan. b. The entity has no discretion to avoid the future transfer of assets. c. The existence of a present obligation to transfer assets in the future. d. The occurrence of an obligating event. |
Which of the following is not a criteria for recognizing a liability associated with exit or disposal activities? a. A commitment to an exit plan. b. The entity has no discretion to avoid the future transfer of assets. c. The existence of a present obligation to transfer assets in the future. d. The occurrence of an obligating event. |
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On March 1 of the current year, the board of directors of Lockwood Inc. voted to discontinue the operations of its fresh produce division, a reportable segment of the entity's operations. The sale of the division, which was finalized on December 15, resulted in a gain of $150,000. The division had operating losses of $500,000 during the current year and also paid employee termination benefits of $200,000 and $20,000 to terminate an operating lease. Ignoring income taxes, what is the loss from discontinued operations that Lockwood should recognize on its current year income statement? a. $570,000. b. $720,000. c. $550,000. d. $350,000.
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Explanation Choice "a" is correct. The net loss from discontinued operations will include the gain from the sale of the division, the operating loss, the employee termination benefits and the cost to terminate the operating lease. Exit and disposal costs related to discontinued operations are reported in discontinued operations on the income statement:
Gain on sale$ 150,000
Operating loss(500,000)
Termination benefits(200,000)
Cost to terminate the lease(20,000)
Loss on discontinued operations$ (570,000) Choice "d" is incorrect. The employee termination benefits and the cost to terminate the operating lease are exit and disposal costs related to discontinued operations that must be reported in discontinued operations on the income statement. Choice "c" is incorrect. Both the employee termination benefits and the cost to terminate the operating lease are exit and disposal costs related to discontinued operations that must be reported in discontinued operations on the income statement. Choice "b" is incorrect. The gain on the sale of the division must be reported in discontinued operations. The gain will offset the losses of the discontinued operation. |
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Adam Corp. uses IFRS and had the following infrequent transactions during Year 1: A $190,000 gain on reacquisition and retirement of bonds. The material event is also considered unusual for Adam Corp. A $260,000 gain on the disposal of a component of a business. Adam continues similar operations at another location. A $90,000 loss on the abandonment of equipment. In its Year 1 income statement, what amount should Adam report as total infrequent net gains that are not considered extraordinary? a. $100,000. b. $170,000. c. $450,000. d. $360,000.
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Explanation Choice "d" is correct. IFRS prohibits the reporting of gains/losses as extraordinary. Therefore, none of the infrequent items are extraordinary under IFRS:
Gain on reacquisition and retirement of bonds$ 190,000
Gain on disposal of component260,000
Loss on abandonment of equipment(90,000)
Total$ 360,000 |
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On June 15 of the current year, Solid Co. decided to change from moving average inventory system to the FIFO inventory system. Solid uses IFRS, is on a calendar year basis, and complies with IFRS minimum comparative reporting requirements. The cumulative effect of the change is shown as an adjustment to beginning retained earnings on the balance sheet for: a. June 15 of the current year. b. January 1 of the current year. c. January 1 of the prior year. d. December 31 of the current year.
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Explanation Choice "c" is correct. Under IFRS, when an entity records a change in accounting principle, the entity must (at a minimum) present three balance sheets (end of current period, end of prior period, and beginning of prior period) and two of each other financial statement (current period and prior period). The cumulative effect adjustment is shown as an adjustment to beginning retained earnings on the balance sheet for the beginning of the prior period, which would be January 1 of the prior year. Choice "b" is incorrect. Under IFRS, when an entity records a change in accounting principle, the entity must (at a minimum) present three balance sheets (end of current period, end of prior period, and beginning of prior period) and two of each other financial statement (current period and prior period). The cumulative effect adjustment would be shown as an adjustment of the beginning retained earnings on the balance sheet for the beginning of the prior period, which would be January 1 of the prior year, not January 1 of the current year. Choice "a" is incorrect. The cumulative effect of the change is not reported as an adjustment to beginning retained earnings as of the date the decision is made. Choice "d" is incorrect. The cumulative effect of the change is not reported as an adjustment to beginning retained earnings at the end of the period in which the decision is made. |
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In Dart Co.'s Year 2 single-step income statement, as prepared by Dart's controller, the section titled "Revenues" consisted of the following:
Sales$ 250,000
Purchase discounts3,000
Recovery of accounts written off10,000
Total revenues$ 263,000 In its Year 2 single-step income statement, what amount should Dart report as total revenues? a. $253,000 b. $250,000 c. $260,000 d. $263,000
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Explanation Choice "b" is correct. The single-step income statement will include in total revenues all sales of goods, services, and rentals. Purchase discounts are not included in revenue, but instead reduce cost of goods sold. The recovery of accounts written off does not hit the revenue account. Choice "a" is incorrect. Sales are appropriately included, but purchase discounts are not. Choice "c" is incorrect. Revenues are not impacted by the recovery of accounts written off. When accounts written off are recovered, the first entry is to debit accounts receivable and credit the allowance for doubtful accounts. Then, to record the collection of the cash, the debit is to cash and the credit is to accounts receivable. Choice "d" is incorrect. Purchase discounts are not included in revenue and the recovery of accounts written off does not hit the revenue account. |
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Which of the following transactions qualify as a discontinued operation? a. Changes related to technological improvements. b. Phasing out of a production line. c. Disposal of part of a line of business. d. Planned and approved sale of a segment. |
Explanation Choice "d" is correct. The planned and approved sale of a segment qualifies as a discontinued operation because a segment is a component of the entity. Segments may be functional in nature, like a major product category or service division, or they can be geographical as well. Additionally, to qualify as a discontinued operation, the sale must represent a strategic shift and must have a significant effect on its operations and financial results. A discontinued operation can also be a group of components, a business or a nonprofit activity. Choice "c" is incorrect. The disposal of part of a line of business would not qualify as a discontinued operation, although it's possible that the elimination of the "entire" line could qualify as one if the business line meets the definition of a component of the entity, a group of components, a business or nonprofit activity. Choice "b" is incorrect. Phasing out a production line is not the discontinuation of a component of the entity and does not qualify as a discontinued operation. Choice "a" is incorrect. Changes related to "technological" improvements are not the discontinuation of a component of the entity and does not qualify as discontinued operations. |
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A company decided to sell an unprofitable division of its business. The company can sell the entire operation for $800,000, and the buyer will assume all assets and liabilities of the operations. The tax rate is 30%. The assets and liabilities of the discontinued operation are as follows: Buildings $5,000,000 Accumulated depreciation 3,000,000 Mortgage on buildings 1,100,000 Inventory 500,000 Accounts payable 600,000 Accounts receivable 200,000 What is the after-tax net loss on the disposal of the division? a. $200,000 b. $2,200,000 c. $140,000 d. $1,540,000
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Explanation Choice "c" is correct. The value of the assets is $2,000,000 building + 500,000 inventory + 200,000 AR, or $2,700,000. The value of the liabilities, which are to be assumed by the buyer, is $1,100,000 mortgage + 600,000 AP, or $1,700,000. So the value of the net assets, or assets less liabilities, is $1,000,000. The before tax loss from the sale is $200,000 ($800,000 sales price - $1,000,000 book value of division), and the after-tax loss is $140,000 [$200,000 x (1 – 30%)]. Choices "a", "d", and "b" are incorrect as per explanation above. |
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On January 1, year 1, Newport Corp. purchased a machine for $100,000. The machine was depreciated using the straight-line method over a 10-year period with no residual value. Because of a bookkeeping error, no depreciation was recognized in Newport's year 1 financial statements, resulting in a $10,000 overstatement of the book value of the machine on December 31, year 1. The oversight was discovered during the preparation of Newport's year 2 financial statements. What amount should Newport report for depreciation expense on the machine in the year 2 financial statements? a. $20,000 b. $11,000 c. $10,000 d. $9,000
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Explanation Choice "c" is correct. This error should be corrected by restating the opening balance of retained earnings by $10,000 for Year 2, if only Year 2 financial statements are being presented. If Year 1 financial statements are being presented, then they should be corrected to reflect the proper Year 1 depreciation expense. In either case, this would have NO effect on the Year 2 depreciation expense, which is $10,000. Choices "d", "b", and "a" are incorrect. An error is not correct by spreading the difference into future years or by double-counting the error in the following year. The error is corrected by adjusting beginning retained earnings if the year of the error is not presented, or by correcting the error in the year of the error if that year is presented. Year 2 depreciation expense should be shown as if the error did not occur. |
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A company's activities for year 2 included the following: Gross sales $ 3,600,000 Cost of goods sold 1,200,000 Selling and administrative expense 500,000 Adjustment for a prior-year understatement of amortization expense 59,000 Sales returns 34,000 Gain on sale of available-for-sale securities 8,000 Gain on disposal of a discontinued business segment 4,000 Unrealized gain on available-for-sale securities 2,000 The company has a 30% effective income tax rate. What is the company's net income for year 2? a. $1,316,000 b. $1,267,700 c. $1,273,300 d. $1,314,600
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Explanation Choice "d" is correct. Net sales $ 3,566,000 = $3,600,000 gross sales - $34,000 sales returns Cost of goods sold (1,200,000)
Gross profit 2,366,000
Selling and administrative (500,000)
Operating income 1,866,000
Other income (gain on sale) 8,000
Income from continuing operations 1,874,000
Income tax expense (562,200) = $1,874,000 × 30% Income before discontinued operations 1,311,800
Gain from discounted segment (after tax) 2,800 = $4,000 × (1 – 30%) Net income $ 1,314,600
The adjustment for the prior year understatement of amortization expense is a prior period adjustment that will be reflected in beginning retained earnings, not on the income statement. The unrealized gain on the available for sale security will be reported in other comprehensive income. |
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Under IFRS, which of the following would be included in income from continuing operations on the income statement? I. A large loss from a foreign currency transaction. II. A union strike that shuts down operations for three months. III. A foreign government takes possession of a company's only plant. IV. Damage to a factory due to an earthquake in an area that had not previously experienced earthquakes. a. I, II, IV. b. I, II, III, IV. c. I, II. d. III, I |
Explanation Choice "b" is correct. Under IFRS, all of these items would be included in income from continuing operations. Note that under U.S. GAAP, items III. and IV. would be classified as extraordinary items. IFRS does not permit the reporting of extraordinary items. |
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Timber Co., was evaluating the likelihood of collecting various accounts receivable currently on its books. This evaluation resulted in the decision to change from the direct recognition method to the installment method for recognizing receivables. The accounting treatment for this change is best characterized as: a. Retroactive. b. Prospective. c. Cumulative. d. Restatement.
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Explanation Choice "b" is correct. A change from direct recognition to the installment method is a change in accounting principle inseparable from a change in accounting estimate that is treated like a change in accounting estimate, prospectively. Choice "c" is incorrect. Although changes in accounting principle are often displayed as a cumulative effect adjustment to beginning retained earnings, a change on the face of the financial statements, a change in accounting principle inseparable from a change in accounting estimate is treated like a change in accounting estimate, prospectively. Choice "a" is incorrect. Changes in accounting principle inseparable from changes in accounting estimate are given prospective rather than retroactive treatment. Choice "d" is incorrect. Changes in accounting principle inseparable from changes in accounting estimate are given prospective rather than retroactive treatment requiring restatement. |
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Exeter International owns a foreign subsidiary, Albo Corporation. Exeter formed Albo to manufacture insulation on its behalf, and imports the goods for resale in the United States. Exeter and its subsidiary experienced the following events during the current fiscal year: Event The government in the country in which Albo operates expropriated all of $500,000 The unrest in the country in which Albo operated caused foreign $150,000 The goods manufactured by Albo contain a material discovered to be $100,000 Construction companies purchasing insulation from Exeter have $200,000 Exeter's CEO received a pre-negotiated severance package. $ 80,000 Before considering taxes, what is the amount of Exeter's extraordinary loss under U.S. GAAP? a. $500,000 b. $750,000 c. $600,000 d. $950,000
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Explanation Choice "c" is correct. The expropriation of plant by a foreign government and the discovered illegality of its product represent extraordinary items. The extraordinary losses would be computed as follows: ExtraordinaryNot
Loss on expropriation$ 500,000
Foreign exchange loss$ 150,000
Loss relative to illegality of product100,000
Loss relative to default on A/R200,000
Severance agreement with CEO80,000
Total$ 600,000$ 430,000 Choice "d" is incorrect. Foreign exchange losses and losses on accounts receivable are not considered extraordinary because such losses are not unusual (or infrequent). Choice "b" is incorrect. The foreign exchange loss is not considered extraordinary and should be reported in income from continuing operations. Choice "a" is incorrect. The loss relative to the product illegality should be included in extraordinary items because such losses are unusual and infrequent. Note: IFRS prohibits the reporting of gains and losses as extraordinary. |
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Dingo Dog Food is a component of Conglomeration, Inc. and has been losing $50,000 per month. On April 1, Year 1, Conglomeration's management committed to a plan for the immediate sale of Dingo and fully expected to find a buyer for the component by March of Year 2. The book value of the component's assets is $800,000, while the fair market value of the assets is $650,000. Conglomeration sold Dingo on February 28, Year 2 for $550,000. Conglomeration's loss from discontinued operations before consideration of taxes for the year ended December 31, Year 1, would be: a. 750,000 b. 850,000 c. 600,000 d. 950,000
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Explanation Choice "a" is correct. Conglomeration would compute the loss from discontinued operations based upon the operating losses for the entire Year 1, and the loss on disposal as of the end of Year 2, as follows: Dingo Dog Food
Year 1 Loss from operations $ 50,000 $ 50,000 Months of operation × 12 × 2 Annual loss from operations 600,000 100,000 Book value of assets 800,000 650,000 Fair market value of assets 650,000 550,000 Impairment loss 150,000
Loss on disposal
100,000 Total $ 750,000 $ 200,000 Choice "c" is incorrect. Conglomeration would include all 12 months of operating losses in its Year 1 financial statements, not 9 months as implied by this answer ($50,000 x 9 = $450,000; $450,000 + $150,000 = $600,000). Choice "b" is incorrect. Conglomeration would only consider the Year 1 loss and would not include the Year 2 actual loss on disposal. Choice "d" is incorrect. Conglomeration would only consider the Year 1 loss and would not include the combined loss on operations for the Year 2 interim period or the actual loss on disposal, as implied by this answer. |
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Gusto Manufacturing changed its inventory costing method from last-in, first-out (LIFO) to first-in, first-out (FIFO). Assuming there is adequate justification for the change, Gusto would: a. Report the cumulative effect of the change on its income statement, net of tax, after income from continuing operations but before discontinued operations or extraordinary items. b. Report the change on its income statement as a component of income from continuing operations, before tax. c. Report the cumulative effect of the change on its income statement, net of tax, after income from continuing operations, discontinued operations, and extraordinary items. d. Report the cumulative effect of the change as an adjustment to beginning retained earnings, net of tax. |
Explanation Choice "d" is correct. The cumulative effect of a change in accounting principle is reported net of tax as an adjustment to beginning retained earnings in the earliest year presented. The order of presentation of income statement and retained earnings components is summarized using the IDEA mnemonic as follows:
Choices "b", "a", and "c" are incorrect, per the above explanation. |
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A transaction that is unusual in nature or infrequent in occurrence should be reported as a(an): a. Extraordinary item, but not net of applicable income taxes. b. Component of income from continuing operations, but not net of applicable income taxes. c. Extraordinary item, net of applicable income taxes. d. Component of income from continuing operations, net of applicable income taxes.
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Explanation Choice "b" is correct. Items of income or loss that are either unusual OR infrequent are not extraordinary. These items should be reported as part of income from continuing operations and not net of tax. Choice "d" is incorrect. Items reported as part of continuing operations are not reported net of income taxes. Choice "c" is incorrect. Items that are either unusual or infrequent are not extraordinary. Under U.S. GAAP, an extraordinary item is one that is both unusual in nature and infrequent in occurrence. Choice "a" is incorrect. Items that are either unusual or infrequent are not extraordinary. Under U.S. GAAP, an extraordinary item is one that is both unusual in nature and infrequent in occurrence. |
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Cuthbert Industrials, Inc. prepares three-year comparative financial statements. In Year 3, Cuthbert discovered an error in the previously issued financial statements for Year 1. The error affects the financial statements that were issued in Years 1 and 2. How should the company report the error? a. The financial statements for Years 1 and 2 should not be restated; the cumulative effect of the error on Years 1 and 2 should be reflected in the carrying amounts of assets and liabilities as of the beginning of Year 3. b. The financial statements for Years 1 and 2 should not be restated; financial statements for Year 3 should disclose the fact that the error was made in prior years. c. The financial statements for Years 1 and 2 should be restated; the cumulative effect of the error on Years 1 and 2 should be reflected in the carrying amounts of assets and liabilities as of the beginning of Year 3. d. The financial statements for Years 1 and 2 should be restated; an offsetting adjustment to the cumulative effect of the error should be made to the comprehensive income in the Year 3 financial statements. |
Explanation Choice "c" is correct. Financial statements for Years 1 and 2 should be restated. The carrying amounts of the assets and liabilities for these years will be corrected in each year's financial statements and shown as restated in the three year comparative financial statements. As of the beginning of Year 3, the cumulative effect of the error will have been corrected and reflected in the carrying amounts of the affected assets and liabilities. Choice "d" is incorrect. When correcting an accounting error, the financial statements must be restated, however, an offsetting adjustment to the cumulative effect of the error is not made to comprehensive income to correct the error. Choices "b" and "a" are incorrect. Financial statements must be restated to correct an accounting error. |
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Which of the following statements is correct as it relates to changes in accounting estimates? a. It is easier to differentiate between a change in accounting estimate and a change in accounting principle than it is to differentiate between a change in accounting estimate and a correction of an error. b. Whenever it is impossible to determine whether a change in an estimate or a change in accounting principle occurred, the change should be considered a change in principle. c. Whenever it is impossible to determine whether a change in accounting estimate or a change in accounting principle has occurred, the change should be considered a change in estimate. d. Most changes in accounting estimates are accounted for retrospectively. |
Explanation Choice "c" is correct. If a change in accounting estimate cannot be distinguished from a change in accounting principle, the change is considered a change in accounting estimate treated as a change in accounting principle and is accounted for prospectively. Choice "d" is incorrect. Changes in accounting estimates are accounted for prospectively, not retrospectively. Choice "b" is incorrect. If a change in accounting estimate cannot be distinguished from a change in accounting principle, the change is considered a change in estimate. Choice "a" is incorrect. Differentiating between a change in accounting estimate and a change in accounting principle is more difficult than differentiating between a change in accounting estimate and a correction of an error, because a change can be essentially both a change in accounting estimate and a change in accounting principle. An example of this situation is a change in depreciation method. It is a change in accounting principle, but also a change in the estimated future benefits of the asset |
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A company recently moved to a new building. The old building is being actively marketed for sale, and the company expects to complete the sale in four months. Each of the following statements is correct regarding the old building, except: a. It will be classified as a current asset. b. It will be reclassified as an asset held for sale. c. It will be valued at historical cost. d. It will no longer be depreciated. |
Explanation Choice "c" is correct. The old building being actively marketed for sale will be valued at the lower of its book value or net realizable value (fair value less the costs to sell). Choice "b" is incorrect. It is a correct statement that the old building being actively marketed for sale will be reclassified as an "asset held for sale." Choice "a" is incorrect. Because the company expects that the sale of the old building will be completed in a four month time period, the old building will be classified as a current asset. Choice "d" is incorrect. Assets held for sale are no longer depreciated. |
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When there is a change in the reporting entity, how should the change be reported in the financial statements? a. Retrospectively, including note disclosures, and application to all prior period financial statements presented. b. Prospectively, including note disclosures. c. Note disclosures only. d. Currently, including note disclosures. |
Explanation Choice "a" is correct. If comparative financial statements are presented and a change of reporting entity has occurred, all previous financial statements that are presented in the comparative financial statements should be restated. Choice "b" is incorrect. The appropriate treatment for a change in reporting entity is to prospectively report the change, including note disclosures, and to restate all previous financial statements presented. Choice "d" is incorrect. A change in reporting entity must be reported currently, but also retrospectively if comparative financial statements are presented. Choice "c" is incorrect. When there is a change in the reporting entity, only reporting the change in the note disclosures is not the correct treatment. |
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Under IFRS, each of the following is a disclosure requirement related to the correction of a material prior period error, except: a. The amount of the correction at the beginning of the earliest period presented. b. A description of the internal controls put in place to prevent the occurrence of the error in the future periods. c. The impact of the correction on basic and diluted earnings per share for each period presented. d. The nature of the error. |
Explanation Choice "b" is correct. For a material prior period error, IFRS does not require a description of the internet controls put in place to prevent the occurrence of the error in the future periods. Choice "c" is incorrect. The impact of the correction on basic and diluted earnings per share for each period presented is a disclosure requirement under IFRS when a material prior period error is being reported. Choice "d" is incorrect. Under IFRS, the nature of the error must be disclosed where there is a correction of a material prior period error. Choice "a" is incorrect. The amount of the correction at the beginning of the earliest period presented is required under IFRS when there is a correction of a material prior period error. |
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A company that issues quarterly financial statements incurs an extraordinary loss in one of the first three quarters. In which of the following ways would the company report the extraordinary loss? a. Prorated over the remaining quarters of the current year. b. Only in the annual report. c. Disclosed only by a note in the quarter that the loss occurs. d. Entirely in the quarter that the loss occurs. |
Explanation Choice "d" is correct. An extraordinary loss is to be reported entirely in the quarter that the loss occurs. Choice "b" is incorrect. An extraordinary loss is not just reported in the annual report but must be disclosed in the quarter in which it occurred in the quarterly financial statements. Choice "a" is incorrect. It is not correct to prorate the extraordinary loss over the remaining quarters of the year. Choice "c" is incorrect. It is not appropriate to only disclose the extraordinary item in the quarter the loss occurs. Extraordinary items must be separately disclosed in the income statement, net of any related tax effects, after discontinued operations. |
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Althouse Co. discovered that equipment purchased on January 2 for $150,000 was incorrectly expensed at the time. The equipment should have been depreciated over five years with no salvage value. What amount, if any, should be adjusted to Althouse's depreciation expense at January 2, the beginning of the third year, when the error was discovered? a. $30,000 b. $60,000 c. $150,000 d. $0 |
Explanation Choice "d" is correct. The correct answer is $0. At the beginning of Year 3 when the error is discovered, a prior period adjustment is needed. The prior period adjustment would not include an increase to depreciation expense. The debit would be to retained earnings (net of income taxes) and a credit to accumulated depreciation. Choice "a" is incorrect. $30,000 is the amount of depreciation expense that should be taken in each year of the five year service life. This will be the amount of depreciation expense reported for the end of Year 3 when an adjusting entry is made to record depreciation expense for Year 3, but is not the amount that will be taken at the beginning of the year to correct the error. Choice "b" is incorrect. $60,000 represents the cumulative amount of depreciation expense that should have been taken in Years 1 and 2, but is not the adjustment to depreciation expense at the beginning of Year 3 when the error is discovered. Choice "c" is incorrect. Depreciation expense will not be adjusted for $150,000 at the beginning of Year 3. There will be no adjustment to depreciation expense at the beginning of Year 3 because the transaction represents a correction of an error. |
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For Year 1, Pac Co. estimated its two-year equipment warranty costs based on $100 per unit sold in Year 1. Experience during Year 2 indicated that the estimate should have been based on $110 per unit. The effect of this $10 difference from the estimate is reported: a. As an accounting change requiring Year 1 financial statements to be restated. b. In Year 2 income from continuing operations. c. As an accounting change, net of tax, below Year 2 income from continuing operations. d. As a correction of an error requiring Year 1 financial statements to be restated.
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Explanation Choice "b" is correct. The effect of the new estimate of warranty costs (from $100 to $110) is a change in estimate and will be reported in Year 2 income from continuing operations. Rule: Changes in estimates affect only the current and subsequent periods (not prior periods and not retained earnings). Choice "c" is incorrect. An accounting change of principle is shown net of tax on the retained earnings statement. Choice "a" is incorrect. Restating prior years financial statements is only required when comparative financial statements are shown for prior period adjustments of subsequently discovered corrections of errors, changes in entity or changes in accounting principle. Choice "d" is incorrect. The facts stating a new estimate of warranty costs indicate a change of estimate, not a correction of an error. |
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In Year 1, hail damaged several of Toncan Co.'s vans. Hailstorms had frequently inflicted similar damage to Toncan's vans. Over the years, Toncan had saved money by not buying hail insurance and either paying for repairs, or selling damaged vans and then replacing them. In Year 1, the damaged vans were sold for less than their carrying amount. How should the hail damage cost be reported in Toncan's Year 1 financial statements under U.S. GAAP? a. The expected average hail damage loss in continuing operations, with no separate disclosure. b. The actual Year 1 hail damage loss in continuing operations, with no separate disclosure. c. The expected average hail damage loss in continuing operations, with separate disclosure. d. The actual Year 1 hail damage loss as an extraordinary loss, net of income taxes. |
Explanation Choice "b" is correct. Actual hail damage must be reported. Since the hailstorms are frequent, the damage is not considered an extraordinary gain/loss. Thus, the damages would be shown in continuing operations. No separate disclosure is necessary since hail damage is a common occurrence. Choice "d" is incorrect. Hailstorms are not unusual and infrequent so the loss could not be classified as extraordinary. Choice "a" is incorrect. Actual hail damage must be reported. Estimated hail damage may be probable but is not estimable; so it should not be included in income calculations. Choice "c" is incorrect. Estimated hail damage may be probable but is not estimable; so it should not be included in income calculations. |
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A segment of Ace Inc. was discontinued during Year 1. Ace's loss from discontinued operations should not: a. Include operating losses of the current period up to the date the decision to dispose of the segment was made. b. Include employee relocation costs associated with the decision to dispose. c. Include additional pension costs associated with the decision to dispose. d. Exclude operating losses from the date the decision to dispose of the segment was made until the end of Year 1.
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Explanation Choice "d" 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 Year 1. All Year 1 operating losses should be included. Choice "b" 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 "a" 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 Year 1 operating losses should be included. |
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Midway Co. had the following transactions during the current year: $1,200,000 pretax loss on foreign currency exchange due to a major unexpected devaluation by the foreign government. $500,000 pretax loss from discontinued operations of a division. $800,000 pretax loss on equipment damaged by a hurricane. This was the first hurricane ever to strike in Midway's area. Midway also received $1,000,000 from its insurance company to replace a building, with a carrying value of $300,000 that had been destroyed by the hurricane. What amount should Midway report in its year-end income statement as extraordinary loss before income taxes under U.S. GAAP? a. $2,500,000 b. $1,800,000 c. $1,300,000 d. $100,000
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Explanation Choice "d" is correct. Foreign currency devaluations and losses from discontinued operations are not extraordinary items. The hurricane is an extraordinary item and the loss, net of insurance, is $100,000: Equipment loss $ 800,000 Building loss 300,000 Insurance proceeds (1,000,000) Hurricane loss $ 100,000 Choice "c" is incorrect. Only the loss from the hurricane ($100,000) will count as an extraordinary loss, as the loss from devaluation is not considered to be extraordinary. Choice "b" is incorrect. This answer choice includes the foreign currency devaluation and the loss from discontinued operations, as well as the loss from the hurricane. Only the $100,000 loss from the hurricane will be considered an extraordinary loss. Choice "a" is incorrect. Foreign currency devaluations and losses from discontinued operations are not extraordinary items. When the loss on the hurricane is reported, it should include the $800,000 equipment loss and the $300,000 building loss, net of the $1,000,000 insurance proceeds. Note: Under IFRS, the reporting of gains/losses as extraordinary is prohibited. |
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In which of the following situations should a company report a prior-period adjustment? a. A change in the estimated useful lives of fixed assets purchased in prior years. b. A switch from the straight-line to double-declining balance method of depreciation. c. The correction of a mathematical error in the calculation of prior years' depreciation. d. The scrapping of an asset prior to the end of its expected useful life. |
Explanation Choice "c" is correct. An error correction is accounted for by adjusting prior period financial statements to correct the error. Choice "a" is incorrect. This change is a change in accounting estimate that is handled prospectively, not as a prior period adjustment. Choice "b" is incorrect. This change is a change for one GAAP method of depreciation to another GAAP method of depreciation, that it is treated as a change in accounting estimate effected by a change in accounting principle and is handled prospectively, and not as a prior-period adjustment. Choice "d" is incorrect. This is a business activity ordinary in nature that does not require adjustment of prior period financial statements. |
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Mellow Co. depreciated a $12,000 asset over five years, using the straight-line method with no salvage value. At the beginning of the fifth year, it was determined that the asset will last another four years. What amount should Mellow report as depreciation expense for year 5? a. $600 b. $2,400 c. $1,500 d. $900
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Explanation Choice "a" is correct. Over the first 4 years, the asset would be depreciated down to $2,400. Once it was determined that the asset would last for another 4 years, $600 would be depreciated each year of that 4-year period. This change is a change in accounting estimate (the estimate being the life of the asset). Changes in accounting estimate are accounted for in the current year and future years if the change affects both. Choice "d" is incorrect. This answer is the annual difference between the depreciation expense IF depreciation expense had been retroactively restated ($24,000 / 8 = $1,500) and the correct depreciation expense. Retroactive restatement is not appropriate for changes in accounting estimate. Choice "c" is incorrect. This answer is the depreciation expense IF depreciation had been retroactively restated ($24,000 / 8 = $1,500). Retroactive restatement is not appropriate for changes in accounting estimate. Choice "b" is incorrect. This answer is the undepreciated amount at the beginning of the fifth year or the amount of the annual depreciation expense for each of the first 4 years. Either way, it certainly is not going to be the depreciation expense for that year because the remaining cost will depreciated over the remaining period. |
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Envoy Co. manufactures and sells household products. Envoy experienced losses associated with its small appliance group. Operations and cash flows for this group can be clearly distinguished from the rest of Envoy's operations. Envoy plans to sell the small appliance group with its operations. What is the earliest point at which Envoy should report the small appliance group as a discontinued operation? a. When Envoy sells the majority of the assets of the segment. b. When Envoy classifies it as held for sale. c. When Envoy receives an offer for the segment. d. When Envoy first sells any of the assets of the segment. |
Explanation Choice "b" is correct. The earliest period that a component of an entity can be reported in discontinued operations is when the component meets the following "held for sale" criteria: Management commits to a plan to sell the component. The component is available for immediate sale in its present condition. An active program to locate a buyer has been initiated. The sale of the component is probable and the sale is expected to be completed within one year. The sale of the component is being actively marketed. It is unlikely that significant change to the plan to sell will be made or that the plan will be withdrawn. Choices "c", "d", and "a" are incorrect, per the explanation above. |
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Belle Co. determined after four years that the estimated useful life of its labeling machine should be 10 years rather than 12 years. The machine originally cost $46,000 and had an estimated salvage value of $1,000. Belle uses straight-line depreciation. What amount should Belle report as depreciation expense for the current year? a. $3,200 b. $4,500 c. $3,750 d. $5,000
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Explanation Choice "d" is correct. A change in estimated useful life is a change in accounting estimate, and is therefore accounted for prospectively. The revised useful life should be used as of the beginning of the year of the change and should be applied to the current book value of the fixed asset. The first step in determining the depreciation expense in the year of the change in estimate is to determine the book value of the labeling machine at the time of the change: Original cost $ 46,000
Accumulated depreciation (15,000) = [(46,000 - 1,000) ÷ 12] × 4 Current book value $ 31,000
This book value is then depreciated over the remaining life of the fixed asset based on the new estimated life. In this problem, the new estimated life is 10 years, four of which have already passed, so the asset must be depreciated over the remaining 6 years: ($31,000 - 1,000) / 6 = $5,000 Choice "a" is incorrect. This answer is incorrectly calculated by adding the salvage value to the current book value, and by using the entire 10 year revised estimated life. Salvage value should always be subtracted and the asset should only be depreciated over the remaining life of the asset. Choice "c" is incorrect. This is the annual depreciation before the change in estimated life ($46,000 - $1,000) / 12 = $3,750]. The depreciation after the change in estimate should be calculated as described above. Choice "b" is incorrect. This would have been the annual straight-line depreciation if the original useful life of the asset had been 10 years rather than 12 years. The change in estimated life is applied prospectively, as described above, not retrospectively. |
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Jordan Co. had the following gains during the current period: Gain on disposal of business segment $500,000 Foreign currency translation gain 100,000 Under U.S. GAAP, what amount of extraordinary gain should be presented on Jordan's income statement for the current period? a. $600,000 b. $100,000 c. $0 d. $500,000
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Explanation Choice "c" is correct. Based on this information, Jordan Company will not report an extraordinary gain for the current period. The $500,000 gain on the disposal of the business segment will be reported as discontinued operations. The $100,000 foreign currency translation gain will be reported as a component of income from continuing operations. Foreign currency-related gains and losses are never considered to be extraordinary. Choices "b", "d", and "a" are incorrect, per the above. |
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How should a company report its decision to change from a cash-basis of accounting to accrual-basis of accounting? a. As an extraordinary item (net of tax). b. Prospectively, with no amounts restated and no cumulative adjustment. c. As an error correction (net of tax), by adjusting the beginning balance of retained earnings. d. As a change in accounting principle, requiring the cumulative effect of the change (net of tax) to be reported in the income statement. |
Explanation Choice "c" is correct. A change from a non-GAAP/IFRS method to a GAAP/IFRS method is an error correction that is accounted for by adjusting beginning retained earnings. Choice "d" is incorrect. A change from the cash basis to the accrual basis cannot be reported as a change in accounting principle because it is a change from a non-GAAP method of accounting to a GAAP method of accounting. A change in accounting principle must be a change from one acceptable GAAP method to another acceptable GAAP method. Additionally, when a change in accounting principle is recorded, beginning retained earnings is adjusted for the cumulative effect of the change. Net income is no longer adjusted for the cumulative effect of a change in accounting principle. Choice "b" is incorrect. A change from the cash basis to the accrual basis is a prior-period adjustment. Prior-period adjustments are accounted using retroactive restatement. Prior-period adjustments are never accounted for prospectively. Choice "a" is incorrect. A change from the cash basis to the accrual basis is a prior-period adjustment. Prior-period adjustments are not reported as extraordinary items. |
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On January 2, Year 4, Raft Corp. discovered that it had incorrectly expensed a $210,000 machine purchased on January 2, Year 1. Raft estimated the machine's original useful life to be 10 years and its salvage value at $10,000. Raft uses the straight-line method of depreciation and is subject to a 30% tax rate. In its December 31, Year 4, financial statements, what amount should Raft report as a prior period adjustment? a. $102,900 b. $105,000 c. $168,000 d. $165,900
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Explanation Choice "b" is correct. If the machine had been correctly capitalized in Year 1, Raft would have recorded annual depreciation of $20,000 [($210,000 cost - $10,000 salvage)/10 year life] in Year 1, Year 2 and Year 3, for total accumulated depreciation of $60,000. The prior period adjustment is the difference between the $60,000 in total expense that should have been reflected in retained earnings on January 1, Year 4 and the $210,000 that was incorrectly recorded: Correct accounting - Depreciation expense Year 1 - Year 3 $ 60,000 Incorrect accounting - Asset purchased expense in Year 1 -210,000 Prior period adjustment, before tax $ 150,000 The prior period adjustment must be reported net of tax: $150,000 x (1 - 30%) = $105,000 |
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Which of the following describes the appropriate reporting treatment for a change in accounting estimate? a. By restating amounts reported in financial statements of prior periods. b. In the period of change with no future consideration. c. By reporting pro forma amounts for prior periods. d. In the period of change and future periods if the change affects both.
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Explanation Choice "d" is correct. A change in accounting estimate is accounted for prospectively, in current and future periods. |
