Q.

CODE - 2130

CFA LEVEL - 1 MOCK PAPER

- 5th May'18
Time:- 180 mins. Full Marks:- 120

ECONOMICS

1. A.
Option A is correct. Under perfect competition, a firm is a price taker at any quantity supplied
to the market.
Option B & C are incorrect. Under perfect competition, a firm breaks even when marginal
revenue equals average total cost. A firm should down production when marginal revenue is
les than average variable cost.

2. C.
Household saving = Personal disposable income – (consumption expenditures + interest
paid by consumers + personal transfer payments to foreigners)
Household saving = $555,790 – ($461,580 + $13,400 + $1,500) = $79,310.

3. A.
Ricardian model assumes labor is a variable factor of production. Heckscher-Ohlin model
assumes labor and capital are variable factors of production.

4. B.
Giffen goods are highly inferior and make up a large portion of the consumer goods.

5. A.
The characteristics of monopolistic competition include:
 low pricing power
 large number of competitors
 production of differentiated products.

6. A.
Possible causes of a recession include tightening of monetary policy, higher taxes, pessimistic
consumers and business and lower equity and housing prices.

7. B.
A firm operating at greater than long-run efficient scale is subject to diseconomies of scale. The
firm should plan to decrease its level of production.

8. B.
The impact of changes in exchange rates on the trade balance can be analyzed through two
different approaches
(i) Elasticities approach
(ii) Absorption approach.

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The Absorption approach focuses on the impact of exchange rates on aggregate

expenditure/savings decisions.
The Elasticities approach focuses on the effect of changing the relative price of domestic and
foreign goods. Thus it exhibits a microeconomic view of the relationship between exchange
rates and trade balance.

9. C.
The depreciation of GBP will simply be the inverse of the 15% appreciation of the Japanese yen.
 1 
In this case,    1  18.62%
 1  0.157  
10. C.
Leading indicators are variables that change before real GDP changes. They are useful for
predicting the economy’s future state, usually near-term.

11. A.
Monopolistic competition is characterized by:
 low barriers to entry
 many sellers
 zero long-run profit

12. B
Money neutrality is interpreted as meaning that money cannot influence the real economy in the
long run.

13. B.
Option A is indicative of an overheating economy, in which case, policy movements can help in
cooling the economy down. Option C represents the opposite. However, Option B is indicative
of a state known as stagflation—in this case, the economy will typically be left to correct itself
because no short-term economic policy is thought to be effective.

14. A.
A change in technology causes a shift in the supply curve.

15. A.
In the Stackelberg model the leader firm can use “top dog” strategy. In the top dog strategy, the
leader firm forces the follower firms to reduce production or to exit the market through
aggressive overproduction.
In a Stackelberg model, the leader firm chooses its output first because it has the first mover
advantage.

16. A.
Liquidity trap occurs when money demand becomes infinitely elastic i.e. the demand for money
balances increases without any change in interest rates and in extreme circumstances, the
monetary policy becomes ineffective.

17. A.
Demand for a necessity is considered to be relatively inelastic. For an inelastic demand, price
and total expenditure move in the same direction.
When demand is elastic, price and total expenditure move in opposite direction.

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However, if the demand is unitary inelastic, changes in price are not associated with changes in
expenditure.

18. A.
A decrease in taxes and an increase in both money supply and bank reserves causes a shift in
the aggregate demand curve to the right i.e. causes an increase in aggregate demand.

19. A.
The German company will enter into a forward contract by buying €18.12 million ($25 million ÷
$/€1.38) and selling $25 million at a forward rate of 1.3691(1.38 – 109/10,000).

20. A.
The firm will achieve increasing marginal returns up to 30 units of labor because the firm’s
marginal product is highest at 2,100 units. Beyond 30 labor units when more labor units are
added, the firm’s marginal product declines.

21. A.
During economic peak of business cycle inflation further accelerates.

22. B.
Return on domestic investment (CAD$) = 3.25%
Hedged return on foreign investment (USD) = 2.1288% (calculated below)
Return on domestic investment is 1.1212% (3.25% – 2.1288%) higher than hedged return on
foreign investment.
Return on domestic investment is 1.1212% (3.25% – 2.1288%) higher than hedged return on
foreign investment.
Convert CAD into USD at spot exchange rate = $0.89
At the end of year, return earned in USD = 0.89 x (1+ 5.25%) = $0.9367
USD 0.9367
Convert USD into CAD at 12-month forward rate =  1  2.1288%
USD
 0.9172
CAD
23. B.
Accounting profits are always greater than or equal to economic profits i.e. if implicit costs exist,
accounting profit is greater than economic profit and in case implicit costs do not exist,
accounting profits are equal to economic profits.
If a firm earns positive economic profit it means that the firm is able to generate profit greater
than the opportunity cost of capital.

24. B.
Hyperinflation occurs due to:
 Expansionary fiscal policy i.e. increase in government spending without any increase in
taxes.
 Increase in supply of money by the central bank to support government spending.
 Shortage of supply of goods created during or after war, economic regime transition, or
prolonged economic distress due to political instability.

25.
The large country is able to cause the foreign exporter to reduce price in order to retain market
share. In the large country, domestic producers gain from higher volume and the government
gains from collecting the tariff. The sum of these two gains must exceed the deadweight loss to

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domestic consumers to achieve a national welfare gain. The change in terms of trade causes
income redistribution from the foreign exporter to the domestic producer.

26.
The structural deficit is the deficit that would exist if the economy was at full employment (or
full potential output). Economists often consider the structural deficit as an indicator of the
fiscal policy stance.

27.
The goal of both monetary and fiscal policy is the creation of an economic environment
characterized by positive, stable growth and low, stable inflation.

28.
A liquidity trap arises when the demand for money is infinitely elastic as individuals elect to
hold additional money balances rather than respond to stimulative rate cuts by spending. As a
result, weakening consumption leads to deflation.

29.
Real exchange rate = Nominal spot exchange rate × CPI of the foreign country / CPI of the
domestic country
Change in the real exchange rate = [(1 + Change in exchange rate) × (1 + Change in price level in
foreign country)] / (1 + Change in price level in domestic country) –1

30.
Selling government bonds results in a reduction of bank reserves and reduces their ability to
lend, causing a decline in money growth through the multiplier mechanism and hence leads to a
contraction in the economy.

31.
As a country opens up to trade, the benefit accrues to the abundant factor which is labor in
Country A.

32.
Unexpected inflation that is higher than anticipated will likely result in borrowers benefiting at
the expense of creditors as the real value of their borrowing declines.

33.
Step 1: Find the spot rate for the EUR/AUD
Spot = Forward Rate – Forward Points

Step 2: Calculate current cross rate

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34.
A reduction in the money supply (leftward shift) leads to an increase in nominal rates.
Furthermore, on the basis of the quantity theory of money, a reduced money supply makes
money more valuable (thus a higher interest rate), which reduces aggregate price levels.

35.
Closely affiliated with The World Bank Group, the International Bank for Reconstruction and
Development (IBRD) provides low or no-interest loans and grants to developing countries that
have unfavourable credit or no access to international credit markets.

36.
Expected Spot Rate
Spot Rate Expected Appreciation in One Year
USD/EUR 1.30 1.75% 1.323
CAD/USD 0.95 -0.25% 0.948
CHF/EUR 1.22 0.75% 1.229
CAD/CHF = (USD/EUR) × (CAD/USD) ÷ (CHF/EUR) = 1.020

37.
CA = Sp – I + (T – G – R)
CA = Current Account balance
Sp = Private sector savings
I = Investments
T = Taxes
G = Government spending
R = Transfers
∆CA = -25 – (-25) + (100 – 50 – 0) = 50
38.
A country has a comparative advantage if its opportunity cost for producing a product is less
than the opportunity costs of its trading partners. Notice the cost of a table in units of chairs is
lowest for Country A.
Comparative
Advantage
Country Tables Chairs (Chairs/Tables)
A 60 80 1.33
B 40 60 1.50
C 40 × 1.1 = 44 80 × 0.9 = 72 1.64

39. A.
Exchange rate implied by the no-arbitrage relationship (see below).
No-arbitrage forward rate (FUSD/GBP) = 1.6715 × [1 + (2.0% × 3/12)]/[1 + (1.5% × 3/12)] = 1.6736
Based on the advisor’s proposed strategy, $1 million will be worth $1,005,000 in three months’
time:
$1 million × [1 + (0.02 × 3/12)] = $1,005,000
Converting these back into GBP at the pre-specified, no-arbitrage, contract, rate (1.6736) will
generate proceeds of GBP 600,501.91 ($1,005,000/1.6736). Given that the original GBP value of
the investment is 598,265.03 ($1,000,000/1.6715 the domestic investment return is 0.374%
[(600,501.91/598,265.03) – 1].

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3 3
Or alternatively, UK interest rate ×  1.5%   0.37%
12 12
40. C.
Personal income = National income - Indirect business taxes - Corporate income taxes -
Undistributed corporate profits + Transfer payments

FINANCIAL REPORTING ANALYSIS

41.

42.
A fundamental principle of accrual accounting is that revenue is recognized (reported on the
income statement) when it is earned. US GAAP specify that revenue should be recognized when
it is realized or realizable and earned

43.
Poor internal controls provide opportunities for errors or fraud to be incorporated in financial
reporting without being detected.

44.
The double-declining balance depreciation method applies the rate to the gross cost of the
equipment, so a change in the salvage assumption will have no effect on earnings until the net
book value reaches the estimated salvage value, at which point the company ceases to take
depreciation on the asset.

45.
Bonds are issued at a discount to face value when the bonds' coupon rate is less than the market
rate of interest.

46. Given increasing inventory costs in prior years, the inventory carrying amounts under the LIFO
method are already presented at the oldest and lowest costs. The magnitude of the write-down
under LIFO is likely to be of the lowest. Prior to the write-down, inventory under FIFO will be
at the highest level and will result in the largest write-down. The write-down for the company
using weighted average cost will be in between that of the two other companies.

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47.
Gain = Book value of debt – Market value Both at time of retirement, calculations
£20,754,438 – £20,371,882 = £382,556 below

The market value of debt at retirement can be determined by discounting the future cash flows
at the current market rate (5%) by using a financial calculator:
Face value (FV) = £20,000,000; i = 5%; PMT = £1,200,000; N = 2; Compute present value (PV)
= £20,371,882.
The book value after the third interest payment (two payments remaining) can be found by
using either a financial calculator and the market rate at the time of issue (4%) or an
amortization table (shown next).
FV = £20,000,000; i = 4%; PMT = £1,200,000; N = 2; Compute PV = £20,754,438.

The bond’s initial value (required for amortization) can be found by using a
financial calculator:
FV = 20,000,000; i = 4%; PMT = 1,200,000; N = 5; Compute PV = 21,780,729.
Principal Value Interest
Beginning of Expe Premium
year nse Coupon Amortization
(£) 4% 6% (£)
2011 21,780,729 871,229 1,200,000 328,771
2012 21,451,958 858,078 1,200,000 341,922
2013 21,110,036 844,401 1,200,000 355,599
Book value at
end of
2013 20,754,438

48.
Shareholders’ Equity (¥ millions)
Start-of-year share capital 200
Less Treasury stock (6)
Beginning retained earnings 50
Plus net income 42
Less dividends paid (7)
Ending retained earnings 85 85
Accumulated other comprehensive income
Unrealized loss on available-for-sale investments (3)
End-of-year shareholders’ equity 276

49.
Sustainable growth rate = Retention ratio × ROE.
The higher a company's return on equity (ROE) and its ability to finance itself from internally
generated funds (a higher retention ratio), the greater its sustainable growth rate.
In the five-factor ROE, any factor that increases ROE will increase sustainable growth:
ROE = Tax burden × Interest burden × Earnings before interest and taxes margin × Asset
turnover × Leverage.

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A higher tax burden ratio (Net income/Earnings before tax) implies that the company can keep
a higher percentage of pretax profits; this result implies a lower tax rate and a higher ROE
50.
A common-size balance sheet expresses all balance sheet accounts as a percentage of total assets
and would provide insight into what portion of a company’s assets is liquid. On the other hand,
cash and current ratios measure liquidity relative to current liabilities, not relative to total assets.

51.
The debt-to-equity ratio decreased, thereby improving solvency; the fixed charge ratio remained
the same.
(€ millions) 2013 2012 Comments
Debt-to-equity ratio Ratio decreased;
(2,240 + 2,000 +12,000) (5,400 + 1,200 + 9,000)
(total debt/equity) company has
23,250 21,175
less financial
risk and is
= 69.8% = 73.7%
more solvent
Fixed charge coverage No change in
(FCC) ratio = 3,850 + 800 3,800 + 800 FCC ratio
EBIT + Lease 855 + 800 837 + 800
payments
Interest pmts + Lease = 2.81 = 2.81
pmts

52.
If the criteria are independent of one another, the probability that all will occur is the product of
the individual probabilities (multiplication rule for independent events)—that is, 0.35 × 0.482 ×
0.586 × 0.75 = 0.074, or 7.4%, which would produce 7.4% × 5,000 = 371 meeting the criteria.

53.
Along the financial reporting quality spectrum, financial reporting that is within GAAP but has
biased choices is considered to be better quality than within-GAAP financial reporting that is
subject to earnings management. Financial reporting that is non-compliant with GAAP is
considered to be even lower quality.

54.
Common covenants include specifying minimum acceptable levels of financial ratios.
Affirmative covenants restrict the borrower's activities by requiring certain actions, like
maintaining certain ratios.

55.
Under IFRS, the carrying amount (132) is compared to the higher of [fair value minus costs to
sell (104 =105 - 1) and present value of expected future cash flows (100)]. The higher of the two
amounts, the recoverable amount is 104; therefore the asset is impaired and written down to
that amount. The impairment loss = 132 – 104 = 28.

56.
When an asset is exchanged, accounting for the exchange typically involves removing the
carrying amount of the asset given up, adding a fair value for the asset acquired, and reporting
any difference between the carrying amount and the fair value as a gain or loss.

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57.
Given Assets = Liabilities + Equity. First calculate ending equity ($318, see calculation in the
following table).
$800 = Liabilities + $318, Total liabilities = $482.
$
Thousands
Contributed capital 50
Initial retained earnings 225
Sales revenues 450
Investment income 5
Total expenses (402)
Net income for the year 53
Dividends paid (10)
Increase in retained earnings 43 43
Ending owners’ equity $318

58.
Adjusting entries are a type of journal entries typically made at the end of the accounting period
to record such items as accruals that are not yet reflected in the accounting system.

59.
Long-lived assets that will be disposed of other than by sale, such as in a spin-off, an exchange
for other assets, or abandonment, are classified as held for use until disposal and continue to be
depreciated until that time.

60.
Under the double declining balance approach, the depreciation rate applied to the carrying
amount is double the depreciation rate for the straight line method. Because the rate for the
straight line method is 20% (1/5), the double declining rate is 40%. Depreciation expense is
recorded until the net book value (NBV) reaches the residual value.
Year 1 Year 2 Year 3
Opening NBV $1,800,000 $1,080,000 $648,000
Depreciation expense
(40% of opening 720,000 432,000 148,000
NBV)
Ending NBV 1,080,000 648,000 500,000*

61. C.
The gross profit is sales minus cost of sales and the gross profit margin is calculated as gross
profit divided by sales. The calculations for the three companies are as follows:
Company A: Gross profit = $40,000 – $21,000 = $19,000 and the gross profit margin is 47.5%
($19,000 / $40,000). Of the three companies, this gross profit margin is the highest.
Company B: Gross profit = $200,000 – $110,000 = $90,000 and the gross profit margin is 45.0%
($90,000 / $200,000).
Company C: Gross profit = $450,000 – $240,000 = $210,000 and the gross profit margin is 46.7%
($210,000 / $450,000).

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62. C.
Industries in which bundled services are common are expected to be significantly affected by
the converged standard.

63.
Company A is the most solvent based on the calculation of the debt-to-capital and financial
leverage ratios because each of the two ratios has the lowest value relative to the ratios of
Companies B and C.
Company A's debt-to-capital ratio = Total Debt / (Total Debt + Total Shareholders' Equity)
= $12,796 / ($12,796 + $32,000)
= $12,796 / $44,796
= 0.29
Company A's financial leverage ratio = Average Total Assets / Average Shareholders' Equity
= $42,979/ $30,295
= 1.42

64.
EBITDA is a non-GAAP financial measure . The SEC prohibits the exclusion of charges or
liabilities requiring cash settlement from any non-GAAP liquidity measures, other than EBIT
and EBITDA.

65. The net income and total assets both need to be adjusted to what they would have been under
the FIFO method.

Under FIFO, total assets increase by the LIFO reserve but decrease by the cash paid for the
cumulative amount of additional income taxes that would arise. Net income will be
higher under FIFO as a result of lower COGS—that is, the increase in the LIFO reserve—
but will be reduced by the taxes paid on the increase in operating profit.
($ thousands)
LIFO net income 178
+ Reduction in COGS +320 Increase in LIFO reserve in 2014: 867 –
547
– Tax on increased operating profit –106.6 33.3% × 320
FIFO Net income 391.4

LIFO Total assets 5,570

+ FIFO Increase in inventory 867 Add LIFO reserve: 867
– Tax paid on higher cumulative profits –288.7 33.3% × 867*A
FIFO Total assets 6,148.3
*A Cumulative tax saving: 2014 tax rate for total LIFO reserve

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66.
The converged standards aim to take a principles-based approach that avoids the provision of
specific rules and requirements characteristic of current US GAAP revenue recognition
standards.

67.
Leases can provide less costly financing for the lessee, since they usually require little, if any,
down payment and often are at lower fixed interest rates than those incurred if the assets were
purchased.

68.
The non-current (long-term) liabilities section of the balance sheet usually includes a single line
item of the total amount of a company's long-term debt due after one year.

69.
The direct method cash flow statement presents specific operating cash flows by source and use.

70.
A valuation allowance is required under US GAAP if there is doubt about whether a deferred
tax asset will be recovered. Under IFRS, the deferred tax asset is written down directly.

71.
Unrealized holding gains on available-for-sale securities and foreign currency translation
adjustments are included in other comprehensive income: $250,000 + $500,000 = $750,000.

72.
Interest paid must be categorized as an operating cash flow activity under US GAAP, although
it can be categorized as either an operating or financing cash flow activity under IFRS.

73.
Interest payments can be reported either as operating or financing cash flow under IFRS, but
they can be reported only as operating cash flow under US GAAP. The interest payment was
originally reported as financing activity under IFRS, but under US GAAP it would be an
operating activity. Therefore, under US GAAP, cash flow from financing activities would be
higher and operating cash flows lower by the same amount.

74.
Under the converged FASB and IASB revenue recognition accounting standards, companies are
required at year end to disclose remaining performance obligations and transaction price
allocated to those obligations.

75.
The DuPont equation is

Average shareholders' equity = $219,409

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76.
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/year. Goodwill is an
unidentifiable intangible and should be tested for impairment but not amortized. All
advertising and promotion costs, such as the media placements, are typically expensed. If the
reputation of the company has been enhanced as the CEO suggests, it is an internally generated
intangible that is not recorded on the balance sheet and is thus not amortized.

77.
The present value of the operating leases should be added to both the total debt and the total
assets.
The present value of an annuity payment of $200 million for five years at 12% = $807.5 million.
(N = 5; I = 12; PMT = 200; Mode = Begin)
Adjusted debt to total assets (in millions) = ($2,125 + $807.5)/($4,500 + $807.5) = 55.3%.

78.
The shorter assumed useful life for this long-lived asset causes the annual depreciation expense
to be higher, and, accordingly, the average value of total assets to be lower. Since asset turnover
is calculated as total revenue divided by average total assets, the new asset turnover ratio is
higher than with a longer assumed useful life.

Asset%20Turnover Ratio Year One with a Four Year Useful Life:

Beginning Ending
Net Depreciatio Net
Book n Book Avg Total Asset%20Turnove
Value Expense Value Revenue Assets r Ratio
Year 1 $1,000,000 $250,000 $750,000 $15,000,000 $875,000 17.14
Asset%20Turnover Ratio Year One with a Six Year Useful Life:
Beginning Depreciatio Ending
Net n Net
Book Expens Book Avg Total Asset%20Turnov
Value e Value Revenue Assets er Ratio
Year 1 $1,000,000 $166,667 $833,333 $15,000,000 $916,667 16.36

79.
The difference between Company X's and Company Z's profit attributable to the down payment
will be closest to $350,000, and is calculated as:
Company X:

Company Z will not recognize any profit attributable to the down payment until the cash
amounts paid by the buyer exceed the cost of $1,250,000.

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Therefore, the difference in profit is calculated as:

80. B.
Assessment of performance includes analysis of profitability and cash flow generating ability.
The relationship between assets and liabilities is used to assess a company's financial position,
not its performance.

81. A.
Net revenue means that the revenue number is reported after adjustments for cash or volume
discounts or for estimated returns.

82. A.
Significant differences still exist between IFRS and US GAAP, and in most cases, analysts will
lack the information necessary to makes specific adjustments to address these differences. As
such, comparisons must be interpreted cautiously.

83. C.
The notes provide a comprehensive description of all of the entity's accounting policies,
irrespective of whether judgment was required or whether the policies are important in
understanding the financial statements.

84. A.
Under IFRS only actuarial gains or losses can be recognized in other comprehensive income.

85. A.
First, determine the incremental shares issued from stock option exercise (treasury stock
method):

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86. B.
The allowance for doubtful accounts increases by the bad debt expense recognized for the year
and decreases by the amounts written off during the year.
Beginning balance allowance for doubtful accounts £56 million
Plus bad debt expense ?
Minus write-offs –£84 million
Ending balance allowance for doubtful accounts £92 million
Solve for bad debt expense = £120 million.

87. A.
Under IFRS a building owned for the purpose of earning rentals or capital appreciation – in this
case the one owned by the company and leased out to tenants - is an investment property and
can be reported under either the cost model or fair value model.

88. B.
The gross profit margin increased the most in the current year:

89. B.
The SEC is responsible for overseeing the PCAOB under the Sarbanes–Oxley Act of 2002.

90. C.
Cash collected from customers = Revenues – Increase in accounts receivable = $100 – (25 – 13.5)
= $88.5 thousand.

91. A.
According to the conceptual frameworks adopted under both International Financial Reporting
Standards and US GAAP, faithful representation and relevance are the two fundamental
qualitative characteristics that make financial information useful.

92. C.
US GAAP prohibits the revaluation of PPE. Therefore, this is a source of an important difference
between US GAAP and IFRS with respect to reporting of income taxes.

93. A.
Classified statements of financial position distinguish between current and non-current assets
and liabilities. Classified statements are required under International Financial Reporting
Standards unless a liquidity-based presentation provides more relevant and reliable
information.

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94. A.
According to the Conceptual Framework for Financial Reporting 2010 within the International
Financial Reporting Standards, as well as Concept Statement 8 under US GAAP, "the objective
of general purpose financial reporting is to provide financial information about the reporting
entity that is useful to existing and potential investors, lenders, and other creditors in making
decisions about providing resources to the entity."

95. A.
A high residual value estimate reduces the depreciable base and thus depreciation expense.
Long average lives reduce the annual depreciation expense for any given depreciable base. The
combination of the two would result in the lowest depreciation expense, which would lead to
the highest net income and profit margins.

96. A.
Common-sized analysis of the income statements shows that Company A has a lower
percentage cost of goods sold and thus a higher gross margin than the industry and Company
B.

The tax rates for the companies are not higher than the industry. The interest rate is not a
function of sales and cannot be analyzed on a common-size income statement. Tax rates are
determined based on Taxes/Pretax earnings, not as a percentage of sales (as shown in common-
size analysis).

97. A.
If the leases were capitalized, both total assets and liabilities would increase by the present
value of the lease payments, as shown in the following table.
Present Value of Operating Lease Payments (€ Millions)
The lease commitments after 2019 are assumed to be the same as in 2019, so there are
estimated to be 240/80 = 3 additional payments
The present value of the operating lease payments can be calculated as the sum of the present
values of two annuities-in-advance (PVAADV): a four-year annuity starting immediately
(beginning of 2015) and another four-year annuity starting in four years (2019)

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98. A.
The IFRS Conceptual Framework specifies a number of general features underlying the
preparation of financial statements, including materiality and accrual basis. Matching is not one
of thosse general features; it is a general principle of expense recognition.

99. B.
The temporary difference is the difference between the net book value (NBV) of the asset for
accounting purposes and the NBV for taxes
NBV accounting [500,000 – (500,000/10)] $450,000

NBV taxes [500,000 – 0.15 × (500,000)] $425,000

Temporary $25,000
difference

100. B.
Understanding the accounting process may assist an analyst in identifying earnings
manipulation, but it will not prevent the manipulation of earnings by management. It is
important for an analyst to understand the accounting process so that they can make
adjustments for items not reported and aid in the assessment of management's judgment of
accruals and valuations.

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101. B.
Consistency is one of the general features underlying the preparation of financial statements
based on IFRS.

102. C.
Under FIFO, the oldest units are sold first, thus for the six units sold FIFO, cost of sales is
$3,850, as follows: 1 unit at $600 + 5 units at 650 = $3,850.

103. B.
The two fundamental qualitative characteristics that make financial information useful are
relevance and faithful representation. Materiality relates to the level of detail of the information
needed to achieve relevance.

104. C.
Under the double declining balance method, the depreciation rate is 2 × Straight line rate. The
straight line rate is 33.3% (i.e., 1/3 years), so the double declining rate is 66.6%, or two-thirds
depreciation rate per year. But the asset should not be depreciated below its assumed residual
value in any year.

105. A.
Inventory costs include all direct costs of acquisition including import taxes, transportation
costs and transportation insurance costs, but not storage costs of finished goods or warehouse
administrative costs. Volume rebates, and similar items reduce the price paid and the costs of
purchase.
Cost determination £ ’000s
Purchase price (1,000 x £20.20) 20,200
Volume rebate (404)
Import and sales taxes 2,970
Transport and transport insurance 325
Total costs to be inventoried £23,091

106. A.
Historically, the Securities & Exchange Commission required reconciliation for foreign private
issuers that did not prepare financial statements in accordance with U.S. GAAP. However the
reconciliation requirement was eliminated as of 2008 for companies that prepared their
financial statements under IFRS.

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107. C.

108. B
securities measured at fair value through ‘other comprehensive income’ in IFRS) unrealized
gains and losses are not reported in the income statement rather they are recognized in equity

109. A.
At the time of shipment, the accounting treatment for Gloria Inc. is as follows:
 Accounts receivable and revenue increased by $27,750.
 Inventory decreased by $26,250.
 Cost of goods sold increased by $26,250.

110. C.
Unlike U.S. GAAP, IFRS requires an annual review of residual value and useful life.
Unlike U.S. GAAP, under IFRS each component of an asset must be depreciated separately.

111. A.
FCFF = CFO + After tax interest – CFInv.
= $12 million + $2.6 million – $9.5 million = $5.1 million.

112. A.
Options B and C are correct. Impairment loss reduces net income and carrying value of asset. It
is considered to be a non-cash charge and therefore does not affect the cash flows statement.
Impairment is considered to be non-recurring item and thus is not included in the future
projections by analysts.

113. C.
Understatement of earnings volatility is called smoothing the earnings. Earnings smoothing
can result from two ways:
 By using conservative choices to understate earnings in periods when a company’s
operations are performing well.
 By using aggressive choices to overstate earnings in periods when a company’s operations
are struggling.

114. C.
Two principles of IOSCO for issuers are:

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 Issuers should timely, fully and accurately disclose financial results, risks and other
material information to investors.
 Issuers should prepare their financial statements using internationally acceptable
accounting standards.

115. A.
The elements directly related to measurement of financial performance are:
 Income
 Expenses
 Capital maintenance adjustments
The elements directly related to measurement of financial position are.
 Assets
 Liabilities
 Equity

116. B.
Ending shareholders’ equity = Beginning shareholder’s equity + Net income – cash dividends –
net unrecognized gains/losses
= $25 million + $8 million - $1million - $0.5 million = $31.5 million
Unrecognized gains/losses include:
 Unrealized loss on available for sale securities = -$2 million
 Foreign currency translation gain = $1.5million
 Net unrecognized gains/losses = -$0.5 million

117. C.
Based on the data the analyst can conclude that the firm:
 has increased its efficiency.
 has failed to improve its profitability.
If the growth rate of revenue is greater than assets growth rate it may indicate that company is
increasing efficiency.
When net income is growing at a faster rate than revenue it may indicate that company’s
profitability is increasing but as the major portion of net income is due to non-recurring items
then it means company has failed to improve its profitability.
When a company grows at a rate greater than that of overall market in which it operates it is
regarded as positive sign and indicates that the company is easily able to attract equity capital.
There is insufficient market data to arrive at this conclusion.

118. C.
Total debt ratio x Financial leverage = Total debt-to-equity
Financial leverage = Total debt-to-equity/Total debt ratio
= 1.15/0.54
= 2.13

119. A.
Accounting Goodwill:
It is based on the accounting standards and is recognized only when acquisitions take place
Economic Goodwill:
It is based on the economic performance of the company. It is not reflected on the balance sheet
rather it is reflected in the stock price of the company (at least theoretically).

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120. A.
Companies are required to provide segment information under both IFRS and U.S. GAAP
although companies are not required to provide full financial statements for segments.
Companies must disclose the factors used to identify reportable segments and the types and
products and services sold by each reportable segment.

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