karoliukas

Red Oak Corporation is a furniture manufacturer located in Canada. Red Oak is financed with a combination of debt and equity. The debt consists of unsecured zero-coupon bonds that mature in 20 years. For income tax purposes, interest on the bonds is deductible when accrued. Red Oak’s equity consists of common stock and preferred stock. No dividends have ever been paid on Red Oak’s common stock; however, dividends are paid quarterly to the preferred shareholders. Should the accrued interest on the zero-coupon bonds and the dividends paid to the preferred shareholders be reported as a nonoperating component of Red Oak’s net income?

Accrued interest

Preferred dividends

A) Yes Yes

B) Yes No

C) No Yes

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Since Red Oak is a nonfinancial firm, the accrued interest is considered a nonoperating activity, related to how the firm is financed. Dividends paid to preferred shareholders do not affect net income.

karoliukas

The First National Bank is a commercial bank that specializes in consumer financing, particularly automobile loans. The majority of the loans are funded from customer deposits. In addition, the bank purchases various investment securities with available cash. The investments are debt securities and have an average maturity date of less than 30 days. Should First National Bank report the interest received from the consumer loans and the interest received from the investment securities as an operating or as a nonoperating component in its year-end income statement?

Consumer loans

Investment securities

A) Operating Operating

B) Operating Nonoperating

C) Nonoperating Operating

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Interest received from customers and interest received from investments are a part of normal operations of a financial institution. Thus, the First National Bank will report the interest income from both sources as components of operating income.

karoliukas

A video rental store with a large inventory of newly released movies is attempting to determine an appropriate method of depreciation for its movies for rental. As well, it is trying to determine an appropriate method of determining the cost of its inventory of movies for sale. Which of the following treatments is most appropriate for the movies for rental and movies for sale?

Movies for rental

Movies for sale

A) Straight-line depreciation Last-in, first-out

B) Accelerated depreciation First-in, first-out

C) Accelerated depreciation Last-in, first-out

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With the movies for rental, a greater portion of the decrease in the value of newly released movies would reasonably be realized in the first year, given the rapid rate of obsolescence in view of the large number of movies available. Therefore, depreciating this pool of assets by a greater amount in the first year using an accelerated depreciation method better approximates economic depreciation than depreciating it straight line.
With the movies for sale, there are two methods available for accounting as inventory. FIFO is appropriate for inventory that has a limited shelf life and LIFO is appropriate for inventory that does not deteriorate with age. Because the movies have a very limited shelf life and will greatly deteriorate in value with age, especially after the first year, FIFO is the most appropriate method of accounting for the movies for sale.

karoliukas

In its first year of business, Digmore Corporation’s balance sheet shows gross fixed assets at $90 million and accumulated depreciation of $10 million. If the estimated salvage value of these assets is $10 million, and the original estimated useful life is 8 years, what method of depreciation did Digmore most likely use?

A) Units of production.

B) Straight Line.

C) Double-declining-balance.

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$90 − $10 million = $80 million; $80 million / 8 = $10 million depreciation per year under Straight Line depreciation.

karoliukas

Under accrual accounting, revenues are recognized in the same period in which the associated:

A) cash is collected.

B) expenses are incurred.

C) invoices are billed.

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Accrual accounting is based on the matching principle, under which revenues are recognized in the same period that the expenses are incurred to generate those revenues.

karoliukas

When the cost of goods and services used are recognized as an expense in the same period that its generated revenue is recognized, which of the following principle(s) is (are) being described?

A) The matching and accrual principles.

B) The accrual and expense recognition principles.

C) The matching principle for revenue and expense recognition.

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The accrual concept states that revenue is recognized when the earnings process is completed and cash receipt is assured.

karoliukas

Under the general principles of accrual accounting, revenue is recognized when:

A) cash is received, and expenses are recognized when cash is paid.

B) the good or service is delivered or cash is received, whichever is earlier.

C) earned, and expenses are recognized when incurred.

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The principle of accrual accounting is that revenue is recognized when earned, and expenses are recognized when incurred.

karoliukas

As a general rule, revenue is normally recognized when it is:

A) earned.

B) realizable and earned.

C) measurable.

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Under the accrual concept, revenue is recognized when the earnings process is completed (earned) and ultimate realization (cash receipt) is assured.

karoliukas

Guidance from the U.S. Securities and Exchange Commission regarding the criteria for revenue recognition least likely specifies that there must be:

A) evidence of an arrangement between the buyer and the seller.

B) reasonable assurance that the product will be delivered or the service will be rendered.

C) a determined or determinable price.

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One of the SEC’s criteria for revenue recognition is that the product has been delivered or the service has been rendered. The other criteria are evidence of an arrangement between the buyer and seller; the price has been determined or is determinable; and the seller is reasonably assured of collecting money.

karoliukas

Which of the following is NOT a requirement for revenue recognition to occur?

A) Cash must have been received.

B) Earning activities are substantially completed.

C) Transactions giving rise to revenue should be arms-length.

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Revenue from credit sales may be recognized when sales are on account.
Other conditions when revenues are also considered earned include when: revenue can be measured with reasonable accuracy, transactions are not subject to revocation, it is possible to measure the cost of provided goods (no significant contingent obligation), and there is assurance of payment (cash) or collectability.