D196 Principles of Financial and Managerial Accounting

Questions a

How is it possible for an accountant to intentionally deceive financial statement users and yet still technically be in compliance with generally accepted accounting principles (GAAP)?

1. There is conflict between FASB rules and SEC rules.

2. There is flexibility inherent in the assumptions underlying the preparation of financial statements.

3. The mismatch between the timing of the filing of tax returns and the deadlines for the completion of the financial statements leaves room for dishonesty.

4. An accountant can use a computerized accounting system to cover up deceptive practices.

There is flexibility inherent in the assumptions underlying the preparation of financial statements

Correct! The flexibility inherent in the assumptions underlying the preparation of financial statements means that an accountant can intentionally deceive financial statement users and yet still technically be in compliance with GAAP.

Alliah Company just released its public accounting data for 20X9. Which user of accounting information will monitor this data to ensure that the company is providing sufficient information for investors?

1. Customers

2. Company managers

3. Government agencies

4. Lenders

Government agencies

Correct! This is the role of the SEC, a federal government agency.

A new product line manager approaches the accounting department in order to understand the past performance of the product line he has been asked to manage in the future. Which role of accounting involves obtaining and using financial information to determine the financial health and performance of a business or product line?

1. Analysis

2. Decision-making

3. Evaluation

4. Bookkeeping

Evaluation

Correct! This is an example of evaluation.

What is the correct summary sequence in the accounting cycle?

1. Prepare, Record, Analyze, Summarize

2. Analyze, Record, Summarize, Prepare

3. Summarize, Prepare, Record, Analyze

4. Prepare, Summarize, Record, Analyze

Analyze, Record, Summarize, Prepare

What is a transaction in accounting?

a. An exchange in which one party sells a good or service and the other pays cash

b. An interaction in which one party gives something of value in exchange for something of greater value

c. A record of business activity

d. An interaction in which two parties exchange something of value

d. An interaction in which two parties exchange something of value

In the context of the financial accounting cycle, what is the definition of an account?

a. A relationship with a customer reflecting past sales, cash collections, and future orders

b. A specific accounting record that provides an efficient way to categorize similar types of transactions

c. A purchase of an item without paying cash immediately, agreeing to pay later

d. A written description of an event, summarizing both the positive and the negative aspects of the event

b. A specific accounting record that provides an efficient way to categorize similar types of transactions

Correct! An account is a specific accounting record that provides an efficient way to categorize similar transactions. You can think of an individual account as a summary of every transaction affecting a certain item, such as cash. Examples of asset accounts are cash, inventory, and equipment. Liability accounts include accounts payable and notes payable.

What is an arm’s-length transaction?

a. An exchange between two related parties

b. An exchange between two independent parties

c. An exchange of inventory for employee wages

d. An exchange of cash for some other asset

b. An exchange between two independent parties

What is an example of an internal transaction?

a. An employee purchases supplies from another company.

b. A company pays rent to its landlord.

c. A company sells goods to a customer.

d. An employee is transferred from one department to another.

d. An employee is transferred from one department to another.

Correct! An internal transaction occurs within the company instead of with an external party, and it is not recorded in the company’s books.

• not a government agency

• sets accounting standards for publicly listed companies (GAAP)

• has no legal power to enforce the rules it sets

Financial Accounting Standards Board (FASB)

• sets the accounting and financial reporting standards for state and local government

• follows GAAP

Governmental Accounting Standards Board (GASB)

• Has legal authority to regulate financial markets and accounting

• Makes sure that investors are provided with full and fair information about publicly traded companies.

Securities and Exchange Commission (SEC)

• Oversees all accounting firms

Public Company Accounting Oversight Board (PCAOB)

• Professional association for CPAs

American Institute of Certified Public Accounting (AICPA)

• US gov't agency that collects and regulates income taxes

• companies are required to have 2 sets of books (financial and income tax)

Internal Revenue Service (IRS)

• Think of it as the FASB of the entire world….except the US

• Based in London

International Accounting Standards Board (IASB)

Which resource or tool is used to identify unique companies in the SEC’s 10-K filing database?

a. Code of Federal Regulations

b. Central Index Key (CIK)

c. EDGAR

d. Securities Exchange Act

b. Central Index Key (CIK)

Correct! The Central Index Key (CIK) is a unique identifying number for each company in the SEC’s EDGAR system.

Why does the balance sheet not reflect the current value or worth of a company?

a. Many assets are recorded at cost, and some economic assets are not recorded at all.

b. The amount of cash is not reported in the balance sheet.

c. SEC regulations do not require most publicly traded companies to use the accounting equation.

d. SEC regulations require recorded balance sheet values to be greater than the current value or worth of a company.

a. Many assets are recorded at cost, and some economic assets are not recorded at all.

Correct! The balance sheet does not reflect the current value or worth of a company because many assets are recorded at cost, and some economic assets are not recorded at all.

What is a gain?

a. Making money from an activity that is part of the normal activities of a business

b. Making money from an excess of sales over cost of goods sold

c. Making money from an excess of total revenues over total expenses

d. Making money from an activity outside the normal activities of a business

d. Making money from an activity outside the normal activities of a business

What is the equation for the multi-step income statement?

Revenues
- COGS
= Gross Profit
- Operating Expenses
= Operating Income
- Interest and Taxes
= Net Income

What is the formula for Earnings per Share?

EPS = Net income / # of shares outstanding

What are retained earnings?

earnings that have stayed in the business (accumulated over time) rather than being paid out to shareholders (owners) as dividends.

What is the formula for Retained Earnings?

Beginning Retained Earnings

+ Net income for Period

- Dividends paid during period

= Ending Retained Earnings

Which statement best characterizes the elements and purposes of a statement of retained earnings?

a. A statement of retained earnings portrays the results of operations of a company over a period of time.

b. A statement of retained earnings portrays the financial condition of a company over a period of time.

c. A statement of retained earnings portrays the results of operations of a company at a point in time.

d. A statement of retained earnings portrays the accumulated profits or losses of a company at a point in time.

d. A statement of retained earnings portrays the accumulated profits or losses of a company at a point in time.

What is the expanded accounting equation?

Assets = Liabilities + Capital stock + Retained earnings + Revenues - Expenses - Dividends

True or false?

The statement of retained earnings shows the accumulated investments and profits by owners since day one

True

Which of these activities is an operating activity?

a. Repaying loans

b. Buying buildings

c. Selling land

d. Selling goods

d. Selling goods

What are the 3 classifications of cash flow?

operating, investing, and financing activities

What is articulation in accounting?

the interrelationships among the financial statements

What does this tell me?
IS → RE → BS ↔ CF

• Income Statement → Retained Earnings (hands off Net Income)

• Retained Earnings → Balance Sheet (hands off Ending Retained Earnings)

• Balance Sheet ↔ Cash Flow Statement (cash number must match on both)

Why do the notes to the financial statements contain additional information about summary totals?

a. Because you can only make judgments about individual items, so summary totals are of secondary importance

b. Because disclosure is the accepted way to convey information to users when the information is too uncertain to be recognized

c. Because the FASB and SEC both require supplementary information that must be reported in the financial statement notes

d. Because one summary number in the financial statements represents literally thousands of individual items.

Because one summary number in the financial statements represents literally thousands of individual items

Why do the notes to the financial statements contain a summary of significant accounting policies?

a. Because disclosure is the accepted way to convey information to users when the information is too uncertain to be recognized

b. Because one summary number in the financial statements represents literally thousands of individual items

c. Because accounting involves making assumptions, estimates, and judgments

d. Because the FASB and SEC both require supplementary information that must be reported in the financial statement notes

c. Because accounting involves making assumptions, estimates, and judgments

Information about accounting policies and practices, including assumptions, estimates, and judgments, are included in which element of the financial statements?

a. The generally accepted accounting principles

b. The notes to the financial statements

c. The statement of accounting policies

d. The statement of retained earnings

b. The notes to the financial statements

What is the definition of financial statement analysis?

a. Using the accounting equation to convert the recorded cost of assets into the economic value of the assets

b. Examining both the relationships among financial statement numbers and the trends in those numbers over time

c. Using the SEC’s EDGAR system to make financial statement data available to investors

d. Applying the Securities Exchange Act of 1934 to the interpretation of environmental and regulatory compliance by companies under the jurisdiction of the SEC

b. Examining both the relationships among financial statement numbers and the trends in those numbers over time

How is a common-size income statement created?

a. By dividing all income statement amounts for a given year by sales for that year

b. By dividing all income statement amounts for a given year by the industry standard for that year

c. By dividing all income statement amounts for a given year by the amounts from the previous year

d. By dividing all income statement amounts for a given year by total assets for that year

a. By dividing all income statement amounts for a given year by sales for that year

What is the purpose of performing horizontal analysis of financial statements?

a. To compare companies in the same industry at a point in time

b. To highlight trends that may be occurring in the company over time

c. To highlight areas of concern in a company at a point in time

d. To compare the financial condition of multiple companies over time

b. To highlight trends that may be occurring in the company over time

Correct! The major purpose of horizontal analysis is to highlight trends—both positive and negative—that may be occurring over time in revenues and expenses, for example.

What is the definition of vertical analysis of financial statements?

a. Displaying each line item as a percentage of another for comparison to other companies in the industry

b. Expressing each amount as a percentage of net income for the year

c. Restricting attention to companies only in certain strategic industries

d. Looking across time at a common-size financial statement and noting how relationships are changing

a. Displaying each line item as a percentage of another for comparison to other companies in the industry

How does vertical financial statement analysis inform your understanding of a company’s performance?

a. It answers all questions you may have about that company’s performance.

b. It tells you what questions you need to be asking about a company’s performance.

c. It allows you to accurately compare two companies in different industries.

d. It helps you analyze performance across time for the same company.

b. It tells you what questions you need to be asking about a company’s performance.

Correct! Vertical analysis should help you come up with further questions to ask about a company’s performance as compared to other companies.

Which types of companies can be compared using vertical analysis?

a. Companies started around the same time

b. Companies of the same size

c. Companies with the same amount of sales

d. Companies that provide the same types of goods or services

d. Companies that provide the same types of goods or services

Correct! Vertical analysis should only be used for companies in the same industry.

Vertical analysis allows an accountant to determine how expenses are changing relative to which line item on the income statement?

a. Total owners’ equity

b. Total liabilities

c. Total assets

d. Total sales

d. Total sales

Correct! Examining trends over time of each line item as a percentage of sales helps an accountant determine how the company is performing relative to other companies in the industry.

In vertical analysis, how do you calculate the percentages for:

1. Income statement

2. Balance sheet

1. Income statement - divide all numbers by total revenues (which is usually the biggest number)

2. Balance sheet - divide all numbers by total revenues

What is the formula for horizontal analysis?