Exam 2 ACC 250

What does an income statement measure?

Financial performance over a period of time.

What is the net income formula?

Revenues + gains − expenses − losses.

What is a single-step income statement?

All revenues/gains grouped; all expenses/losses grouped.

What is the advantage of a multiple-step income statement?

Separately reports levels of profitability and operating results.

What is the gross profit formula?

Net sales − cost of goods sold.

What is the operating income formula?

Gross profit − operating expenses.

What is income before taxes?

Operating income + net nonoperating income (expense).

What is operating income?

Income from the company's primary business activities.

What is nonoperating income?

Income and expenses from peripheral activities.

Name common nonoperating items.

Interest revenue, interest expense, investment gains/losses.

Where is income tax expense shown?

Separately, after income before taxes.

What is the matching principle?

Recognize expenses in the periods related to revenue generation.

What is earnings quality?

How useful reported earnings are for predicting future earnings.

What are permanent earnings?

Earnings likely to continue in future periods.

What are temporary earnings?

Earnings unlikely to recur in future periods.

What is income smoothing?

Using accounting estimates to reduce fluctuations in reported earnings.

What is classification shifting?

Reclassifying operating expenses as nonoperating to inflate operating income.

Where are restructuring costs generally reported?

Within operating expenses.

Where are PP&E impairment losses generally reported?

Within operating expenses.

What are non-GAAP earnings?

Adjusted earnings measures excluding certain GAAP items.

When does a component qualify as discontinued operations?

Disposal or held-for-sale classification representing a major strategic shift.

How are discontinued operations presented?

Separately from continuing operations, net of tax.

What is included when a discontinued component is sold?

Operating income/loss plus gain/loss on disposal.

Can an expected gain be recognized for a component held for sale?

No; expected disposal losses may be recognized, not gains.

What is basic earnings per share (EPS)?

(Net income − preferred dividends) ÷ weighted-average common shares.

What is diluted EPS?

EPS reflecting potentially dilutive common shares.

What is comprehensive income?

Net income + other comprehensive income (OCI).

Does comprehensive income include owner transactions?

No. It reflects nonowner changes in equity.

Name four OCI categories in the notes.

Currency translation, debt securities, PBO losses, derivatives.

Where is accumulated OCI (AOCI) reported?

Stockholders' equity on the balance sheet.

Where does net income ultimately accumulate?

Retained earnings, after closing entries.

What are the three cash flow activity categories?

Operating, investing, and financing.

What are operating cash flows?

Cash flows from primary operations, including customer receipts and wages.

What are investing cash flows?

Cash from acquiring or disposing of long-term assets and investments.

What are financing cash flows?

Cash from borrowing, repaying principal, issuing shares, and dividends.

How does the indirect cash flow method begin?

Start with net income and adjust to operating cash flows.

How are increases in current assets treated under the indirect method?

Subtract the increase, for typical operating current assets.

How are increases in current operating liabilities treated?

Add the increase under the indirect method.

What is the inventory turnover formula?

Cost of goods sold ÷ average inventory.

What is the average days in inventory formula?

365 ÷ inventory turnover.

What are the four profitability levels in a multiple-step income statement?

Gross profit, operating income, income before tax, net income.

Are gains on sales of investments generally operating income?

No. They are generally nonoperating gains.

Does a nonoperating expense reduce operating income?

No. It reduces income before taxes, not operating income.

How do you calculate income from continuing operations after tax?

Income from continuing operations before tax − related income tax.

How are income taxes on discontinued operations reported?

Separately from taxes on continuing operations.

What is the net-of-tax amount of a $100,000 loss at a 25% tax rate?

$75,000 loss; $25,000 tax benefit.

Why are discontinued operations separated from continuing operations?

To distinguish results of a major disposed component from ongoing earnings.

Should estimated future operating losses be recognized before they occur?

No. Recognize operating losses in the periods incurred.

How is a held-for-sale disposal loss determined?

Carrying amount minus fair value less costs to sell, if positive.

How is a $200,000 disposal gain combined with a $300,000 operating loss?

$100,000 pretax discontinued-operations loss.

What does a major strategic shift mean for discontinued operations?

A disposal with a major effect on operations and financial results.

Does an ordinary sale of equipment qualify as discontinued operations?

No. It generally does not represent a major strategic shift.

How does classification shifting affect total net income?

It may leave net income unchanged while overstating operating income.

Why might temporary gains reduce earnings quality?

They may not recur and therefore poorly predict future earnings.

What are examples of expenses excluded from some non-GAAP earnings?

Restructuring costs, impairment charges, stock-based compensation.

What is the denominator of basic EPS?

Weighted-average common shares outstanding.

Why are preferred dividends subtracted in basic EPS?

They are not earnings available to common shareholders.

What is the usual effect of dilutive stock options on EPS?

They increase potential common shares, reducing EPS.

Does issuing common stock increase comprehensive income?

No. Stock issuance is an owner transaction.

Does paying dividends reduce comprehensive income?

No. Dividends are owner distributions.

How does a gain reported in OCI affect current net income?

It does not affect current net income.

How does an OCI gain affect total comprehensive income?

It increases comprehensive income.

Where does OCI accumulate over time?

Accumulated other comprehensive income (AOCI) within equity.

Does a gain on selling investments normally enter OCI?

No. A realized sale gain generally enters net income.

Can comprehensive income be presented in two separate statements?

Yes. An income statement followed by a comprehensive income statement.

How does a $10 NI gain plus a $20 OCI gain affect comprehensive income?

It increases comprehensive income by $30.

How is cash paid for equipment classified?

Investing cash outflow.

How is cash borrowed through a note payable classified?

Financing cash inflow.

How is repayment of a loan's principal classified?

Financing cash outflow.

How is cash paid for interest classified in your notes?

Operating cash outflow.

How are cash dividends paid classified in your notes?

Financing cash outflow.

How are dividends received on investments classified in your notes?

Operating cash inflow.

What does the direct method report?

Operating cash receipts and operating cash payments directly.

Why is depreciation added back in the indirect method?

It reduced net income without using cash.

Why is a gain on sale of equipment subtracted under the indirect method?

The gain raised net income; related sale proceeds are investing cash flows.

What happens when accounts receivable decreases under the indirect method?

Add the decrease to net income.

What happens when inventory increases under the indirect method?

Subtract the increase from net income.

How is buying equipment by issuing debt reported?

As a significant noncash investing and financing transaction.

What is asset turnover?

Net sales ÷ average total assets.

What is receivables turnover?

Net sales ÷ average net accounts receivable.

What is average collection period?

365 ÷ receivables turnover.

What is profit margin?

Net income ÷ net sales.

What is return on assets (ROA)?

Net income ÷ average total assets.

What is return on equity (ROE)?

Net income ÷ average shareholders' equity.

How do you calculate an average balance for turnover ratios?

(Beginning balance + ending balance) ÷ 2.

If COGS is $900,000 and average inventory is $202,500, what is turnover?

4.44 times.

If inventory turnover is 4.44, what is average days in inventory?

Approximately 82.21 days.

What does a higher receivables turnover generally suggest?

Faster collection of receivables.

What does a higher profit margin indicate?

More net income earned per dollar of sales.

What is the difference between liquidity and profitability ratios?

Liquidity measures short-term payment ability; profitability measures earnings.