LOS m: Discuss the major accounting issues in applying residual income models.

Q1. Reported accounting data are most likely to bias an estimate of residual income when:

A)   the clean surplus relation holds.

B)   standards allow charges directly to stockholders' equity while bypassing the income statement.

C)   standards allow charges directly to stockholders' equity that are also reflected on the income statement.

Q2. In general, firms making aggressive accounting decisions will report future earnings that are:

A)   higher.

B)   inflation-adjusted.

C)   lower.

Q3. In general, firms making aggressive accounting decisions will report book values that are:

A)   consistent with fair market value.

B)   higher.

C)   lower.

LOS m: Discuss the major accounting issues in applying residual income models. fficeffice" />

Q1. Reported accounting data are most likely to bias an estimate of residual income when:

A)   the clean surplus relation holds.

B)   standards allow charges directly to stockholders' equity while bypassing the income statement.

C)   standards allow charges directly to stockholders' equity that are also reflected on the income statement.

Correct answer is B)

Bias is likely when standards allow charges directly to stockholders’ equity while bypassing the income statement. Both remaining responses are consistent with the use of data that will not introduce a bias.

Q2. In general, firms making aggressive accounting decisions will report future earnings that are:

A)   higher.

B)   inflation-adjusted.

C)   lower.

Correct answer is C)

In general, firms making aggressive (conservative) accounting decisions will report higher (lower) book values and lower (higher) future earnings.

Q3. In general, firms making aggressive accounting decisions will report book values that are:

A)   consistent with fair market value.

B)   higher.

C)   lower.

Correct answer is B)

In general, firms making aggressive (conservative) accounting decisions will report higher (lower) book values and lower (higher) future earnings.