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31. A company purchased equipment in 2011 for ￡25,000; the year-end values for accounting purposes and tax purposes are as follows: 2012 2011 Carrying amount for accounting purposes ￡20,000 ￡22,500 Tax base for tax purposes ￡16,000 ￡20,000 Tax rate 25% 30% Which of the following statements best describes the effect of the change in the tax rate on the company’s 2012 financial statements? The deferred tax liability: A. Increased by ￡250. B. Decreased by ￡200. C. Decreased by ￡800.

Ans: B. Deferred tax liability = taxable temporary difference x tax rate. In 2010 if the rates had not changed, the deferred tax liability would be: 0.30x4,000=￡1,200 1,200But with the lower tax rate, the deferred tax liability will be: 0.25 × 4,000 =￡1,000 Effect of the change in rate therefore is a decrease in the liability: 1,200-1,000=200 Alternative calculation = change in rate × taxable difference:–5% × 4,000=￡ (200)

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32. An analyst has gathered the following information about a company’s capital assets: Year ending 2012 2011 PP&E €2,500 €2,500 Accumulated depreciation 375 250 Net book value 2,215 2,250 As at the end of 2012, the expected remaining life of the assets, in years, is closest to: A. 6. B. 17. C. 20.

Ans: B. The expected remaining useful life of a company’s overall asset base = net PPE ÷ depreciation expense. Depreciation expense equals the change in accumulated depreciation * 375 – 250 = 125 The expected remaining useful life 2,125 ÷ 125 = 17 years *When there are no asset dispositions or acquisitions, as appears to be the case here, because the gross PPE does not change.

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33. During 2011, the following events occurred at a company. The company: 1 Purchased a customer list for $100,000, which is expected to provide equal annual benefits for the next 4 years. 2 Recorded $200,000 of goodwill in the acquisition of a competitor. It is estimated that the acquisition would provide substantial benefits for the company for at least the next 10 years. 3 Repeatedly received favorable mention in the media for its response to a local natural disaster, in which it donated $300,000 in products and services to the community. The CEO of the company was heard to say the publicity enhanced the firm’s reputation substantially and would likely be worth at least $100,000 annually over the next 5 years. Based on these events, the amortization expense that the company should report in 2012 is closest to: A. $25,000. B. $45,000. C. $125,000.

Ans: A. The customer list is the only identifiable intangible asset and it should be amortized on a straight-line basis over its expected future life: $100,000/4=$25,000 per year. Goodwill is an generated intangible that is not recorded on the balance sheet and is therefore not amortized.

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34. For which type of long-lived asset is it most appropriate to test for impairment at least annually: A. Property, plant and equipment. B. Intangible assets with finite live. C. Intangible assets with indefinite lives.

Ans: C. Intangible assets with indefinite lives need to be tested for impairment at least annually. A and C are incorrect. PP&E and intangible with finite lives are tested only if there has been a significant change or other indication of impairment.

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35. A company that prepares its financial statements in accordance with IFRS standards is in the process of developing a more efficient production process for one of its primary products. The most appropriate accounting treatment for the costs incurred in the project is to: A. expense all cost as incurred. B. capitalize costs directly related to the development. C. expense costs until technical feasibility has been established.

Ans: C. Under IFRS research and development costs are expensed until certain criteria are met, including that technical feasibility has been established and the company intends to use it. (Under U.S.GAAP, both research and development costs are generally expensed as incurred. One exception is software development.)

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36. On January 1, 2009, Bao limited bought a piece of manufacturing equipment for $250,000. At that time they estimated its useful life to be 10 years and its salvage value to be $10,000. During 2011, it became apparent that the equipment was wearing our more quickly than they had originally estimated. It now appeared that its useful life would only be 6 years in total. If Bao Limited uses the straight-line method for depreciation and  has a policy of only taking one-half year’s depreciation in the year of acquisition, the depreciation expense on this piece of equipment for 2011 will be closest to: A. $48,000. B. $51,000. C. $53,125.

Ans: B. Original depreciation (250,000-10,000)/10=24,000 per year. They have taken 1.5year worth (0.5 for 2009 and full year for 2010)=36,000. The new estimate is for 6 years in total and 2 years have passed, so there are 4 years remaining. Revised depreciation (250,000-36,000-10,000)/4=$51,000.

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37. Bao Incorporated recently paid more than the net book value to acquire Cleanway Corporation. Cleanway operates an active research and development program into environmentally friendly cleaning products. Bao is very interested in this research program as well as the good management team in place at Cleanway. The excess price paid over the net book value of the assets should be accounted for on Bao’s financial statements as: A. goodwill. B. a trademark. D. an intangible asset, research and development.

Ans: A. The excess price paid over the net book value during an acquisition that cannot be assigned to other identifiable assets is assumed to be for goodwill. Goodwill is said to be an unidentifiable asset that cannot be separated from the business itself.

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38. Two companies are identical except for their accounting treatment of research and development costs. On e company expenses all such costs immediately, while the other company capitalizes a portion of the costs. Compared to the company that capitalizes costs, the company that expenses immediately will most likely: A. earn a lower ROA. B. have a lower financial leverage. C. report lower cash flow from operations in the statement of cash flows.

Ans: C. Companies that capitalize research and development costs report those expenditures in the investing activities section of the statement of cash flows; companies that expense research and development costs report those expenditures in cash flow from operations. A is incorrect. ROA=. The company expensing all research and development costs has both lower NI and lower total assets, while the company capitalizing all the research and development costs has both higher NI and higher total assets. So whose ROE is lower cannot be determined. B is incorrect. Financial leverage = The company expensing all research and development costs has both lower total assets and lower total equity, while the company capitalizing all the research and development costs has both higher total assets and higher total equity. So whose ROE is lower cannot be determined.

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39. A firm that rents DVDs to customers capitalizes the cost of newly released DVDs that it purchases and depreciates them over years to a value of zero. Based on the underlying economics of the DVD rental business, the most appropriate method of depreciation for the firm to use on its financial statements is: A. straight-line. B. declining balance. C. units-of-production.

Ans: B. Since the value of newly released DVDs will typically fall most rapidly in the first year after their release, some form of accelerated depreciation is appropriate. The declining balance method is the only accelerate depreciation method among the answer choices. A is incorrect. Straight-line depreciation is appropriate when the decrease in value is uniform over an asset’s life. C is incorrect. Units-of-production depreciation assumes that there is a given amount of service that an asset will provide.

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40. In the period when a firm makes an expenditure, capitalizing the expenditure instead of recognizing it as an expense will result in higher: A. debt-to-equity and debt-to-assets ratios. B. net income and have no effect on total cash flows. C. cash flow from investing and lower cash flow from operations.

Ans: B. Net income is higher with capitalization because it does not decrease by the full amount spent, as it would with expensing. Capitalizing expenditure changes its cash flow classification from an operating cash outflow to an investing cash outflow. As a result, CFO is higher and CFI is lower than they would be if the expenditure had been immediately expensed. Total cash flow, however, is unaffected (assuming the tax treatment of the expenditure is independent of the financial reporting treatment). Equity is higher in the period of the expenditure with capital capitalization. Assets are higher because they include the capitalized asset. Debt is unaffected by the decision to capitalize or expense. Thus, the debt-to-equity and debt-to-assets ratios are lower with capitalization. References: question 3.