According to the FASB and IASB conceptual frameworks, the primary users of financial

reports include all of the following, except:

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A. Investors.
B. Creditors.
C. Lenders.
D. Regulators.
Explanation

Choice "D" is correct. The FASB and IASB conceptual frameworks indicates that
regulators are not considered to be primary users.

Choice "A" is incorrect. Investors are primary users.

Choice "B" is incorrect. Creditors are primary users.

Choice "C" is incorrect. Lenders are primary users.

An income statement could be used by an external investor for all of the following
purposes except to:

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A. Analyze the company's performance compared to the budget.
B. Compare the company's results to those of its competitors.
C. Assess the risk of the company achieving future profitability.
D. Predict the company's future revenues.
Explanation

Choice "A" is correct. The income statement is useful in determining profitability and
value for investment purposes, as well as creditworthiness for prospective lenders.
Evaluating profitability provides insight into the utilization of company assets in the
creation of wealth for shareholders. The evaluation of the income statement allows
users to determine/estimate the value of a company as well as make decisions
regarding the long-term solvency. The components of the income statement include
revenues, expenses, gains, losses, and bottom-line net income. External investors are
individuals or entities outside of the company who may lend money to the company or
purchase stock of the company. The income statement is a critical statement for them to
evaluate for this purpose.

None of GAAP-prepared financial statements present actual financial results to

budgeted financial results. The presentation is actual results this year and, often, actual
results from prior year(s). Budgeted numbers may be provided as ancillary information
in the notes to the financial statements, but there is no requirement to present externally
budgeted numbers.

Choice "B" is incorrect. The income statement can be used to compare a company's
results to those of its competitors. One of the primary purposes of financial statements
is to compare a company's performance to its own performance from prior years and to
competitors in its industry.

Choice "C" is incorrect. The income statement can be used to assess the risk of the
company's ability to remain profitable in the future. Several years of positive or negative
performance and trends over those years can indicate the potential for future
profitability.

Choice "D" is incorrect. The income statement can be used to help make predictions
about what will happen in the future. Although historical performance is not necessarily
indicative of future results, a company's financial statements do serve as a reasonable
baseline for making forward projections.
Which of the following does the income statement not report?

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A. Change in cash flow during the period
B. Value of inventory sold during the period
C. Accounting profit for the period
D. Revenue recognized under the accrual method of accounting
Explanation

Choice "A" is correct. The income statement provides information about revenues,
expenses, gains, and losses associated with the operations of the company during a
specified period of time. As such, the income statement includes both cash and accrual-
based transactions. Accrual-based transactions are noncash, accounting estimates that
reflect in the income statement the inclusion of appropriate accounting principles.

The income statement reflects events including inventory being sold, revenue being
recognized, and operating expenses being incurred during operations, all of which lead
to the calculation of accounting profit (net income). The income statement does not
report the change in cash during the period.

Choice "B" is incorrect. Inventory sold during the period is reported on the income
statement as part of the cost of goods sold calculation.

Choice "C" is incorrect. Accounting profit is reported on the income statement as net
income. Accounting profit is the difference between all revenues and all expenses
recorded during the reporting period.

Choice "D" is incorrect. Revenue is recorded and reported on the income statement in
accordance with the revenue recognition principle.
Under IFRS, which of the following would be included in income from continuing
operations on the income statement?

I. A large loss from a foreign currency transaction.

II. A union strike that shuts down operations for three months.
III. A foreign government takes possession of a company's only plant.
IV. Damage to a factory due to an earthquake in an area that had not previously experienced
earthquakes.
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A. I, II.
B. III, IV.
C. I, II, IV.
D. I, II, III, IV.
Explanation

Choice "D" is correct. Under IFRS, all of these items would be included in income from
continuing operations. The same treatment would be applied to these items under U.S.
GAAP.

Choices "A", "B", and "C" are incorrect, based on the above explanation.
All of the following are elements of an income statement except

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A. expenses.
B. shareholders’ equity.
C. gains and losses.
D. revenue.
Explanation

Choice “B” is correct. Shareholders’ equity is presented on the statement of financial

position (balance sheet) while all of the other elements listed are components of the
income statement.

Revenue, expenses, gains, and losses all appear on an income statement.

Choice “A” is incorrect. Expenses are shown on the debit side of income statement.

Choice “C” is incorrect. Gains and losses are shown on the credit side of income
statement.

Choice “D” is incorrect. Revenue is shown on the credit side of income statement.
The statement of income provides information:

I. That is useful in determining the value of an enterprise, rates of return, evaluating the
capital structure, and assessing liquidity and financial flexibility.

II. To investors and creditors that helps them predict the amount, timing, and uncertainty
of future income.

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A. Both I and II.
B. Neither I nor II.
C. Only I.
D. Only II.
Explanation

Choice "D" is correct. The statement of income provides information useful to decision
makers related to income and continuity of that income. In case there are sources of
income (gain) or uses (losses) that result from discontinued operations, they are
reported separately from continuing operations to help users better predict the future.
Liquidity is evaluated by measuring the ability of the enterprise to pay off its current
liabilities using its current assets (both are reported on the balance sheet); capital
structure is evaluated by looking into the ratio of financing using debt compared with
equity (both are reported on the balance sheet as well).

To predict the amount and timing for future income, creditors must refer to the income
statement.

Choice "A" is incorrect. The statement of financial position provides information that is
useful in determining the value of an enterprise, rates of return, evaluating the capital
structure, and assessing liquidity and financial flexibility.

Choice "B" is incorrect. The statement of income provides information useful to decision
makers related to income and continuity of that income. In case there are sources of
income (gain) or uses (losses) that result from discontinued operations, they are
reported separately from continuing operations to help users better predict the future.

Choice "C" is incorrect. A statement of financial position (balance sheet) reports

resources (assets) and claims against resources (liabilities and equity).The statement of
financial position provides information that is useful in determining the value of an
enterprise, rates of return, evaluating the capital structure, and assessing liquidity and
financial flexibility.
Lewis Industries reports the following at the end of the current year:

Service revenue $800,000

Administrative expenses 240,000
Loss on sale of investment (15,000)
Interest expense (7,000)
Interest income 8,000
Cost of services 310,000

Calculate the operating income for Lewis Industries.

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A. $235,000
B. $236,000
C. $250,000
D. $490,000
Explanation

Choice "C" is correct. The presentation of significant subtotals on an income

statement can facilitate a more meaningful analysis of income reported by a
company. Operating income is a measure of profitability based on a
company's core, or normal operations. This line item is beneficial in assessing
future income from a company because it focuses exclusively on the
company's earnings from normal operations.

Lewis Industries operating income would be $250,000: $800,000 service

revenues less $310,000 cost of services less $240,000 administrative
expenses.

Choice "A" is incorrect. The $235,000 incorrectly includes the $15,000 loss on sale of
investment in the calculation of operating income. The loss would be included in the
other income/(expense) section of the income statement and of the calculation of
income from continuing operations.

Choice "B" is incorrect. The $246,000 incorrectly includes the $15,000 loss on sale of
investment, $8,000 interest income, and $7,000 interest expense in the calculation of
operating income. The loss on sale of investment, interest revenue, and interest
expense would be included in the other income/(expense) section of the income
statement and included in the calculation of income from continuing operations.

Choice "D" is incorrect. The $490,000 represents gross profit for Lewis Industries.
Gross profit is the difference between service revenue and cost of sales. The question
specifically asks for the calculation of operating income so administrative expenses
must be included.
How are the primary revenue-generating activities of the reporting entity
categorized on the multistep income statement?

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A. Included as other income and expense items.
B. Excluded from the calculation of net income.
C. Excluded on the income statement and shown as current assets on the balance sheet.
D. Included as operating revenues and expenses.
Explanation

Choice "D" is correct. The primary revenue-generating activities are reported

as operating items on the income statement. The primary revenue-generating
activities represent the core mission of the organization and the resulting
revenues and expense items associated with these activities.

The classification of primary revenue and expense items as operating

revenues and operating expenses allows users of the income statement to
analyze profitability from the perspective of core business operations.

Choice "A" is incorrect. Primary revenue-generating activities are operational revenues

and expenses. Classifying these types of activities as nonoperating would be incorrect.

Choice "B" is incorrect. Primary revenue-generating activities are included and reported
on the income statement. These activities represent utilization of assets in the
operations of the company and the resulting revenues and expenses.

Choice "C" is incorrect. Primary revenue-generating activities are included and reported
on the income statement, not the balance sheet. Although current assets are often
utilized in the generation of revenues and expenses, the changes in those assets are
articulated through revenue and expense reporting.
Rainbow Writing Center provided Lewis Accountants with the following information
related to the current fiscal year-end:

Revenues $63,000
Stock 10,000
issuances
Liabilities at 43,000
end of fiscal
year
Stockholders' 25,000
equity at the
beginning of
the fiscal
year
Stockholders' 57,000
equity at the
end of the
fiscal year
Dividends 7,000

Calculate the net income of Rainbow Writing Center based on the information provided.

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A. $32,000
B. $22,000
C. $29,000
D. Insufficient information to calculate
Explanation

Choice "C" is correct. Changes in stockholders' equity have two major

components: contributed capital and retained earnings. Contributed capital
represents contributions made by owners to the company. Retained earnings
represent cumulative net income retained by the company since inception.
The retained earnings account is increased by each year's net income and
decreased by dividends and/or net losses during the period.

The total increase in stockholders' equity can be calculated as the difference

between the beginning and ending stockholders' equity balance or $57,000 at
the end of the period less $25,000 at the beginning of the period, or $32,000.
The increase in equity attributable to retained earnings would be $22,000.
Stock issuances of $10,000 during the period would not be associated with
retained earnings. The net increase in retained earnings is the difference
between net income and dividends.
Concept Industries is preparing its income statement for the year ended December 31.
In preparing the statement, the line item displayed before considering income tax effects
is:

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A. Income (loss) from operations.
B. Income (loss) from continuing operations.
C. Net Income.
D. Accumulated other comprehensive income.
Explanation

Choice "A" is correct. The line item "Income (loss) from operations" is shown gross
(before taxes). The line item is an intermediate line item displayed on a multiple step
income statement that represents the difference between gross margin and operating
expenses such as selling and general and administrative expenses.

Choice "B" is incorrect. Income (loss) from continuing operations is displayed net of
taxes in either a single step or multiple step income statement. The title of this line item
is used in the event that the reporting organization is required to report discontinued
operations.

Choice "C" is incorrect. Net income is displayed net of taxes in either a single step or
multiple step income statement.

Choice "D" is incorrect. Accumulated other comprehensive income is a component of

stockholders' equity.
A company's retained earning balance at the end of Year 1 was $50,000. In Year 2, the
company reported total revenues of $450,000 and total expenses of $375,000. In
addition, the board of directors declared a cash dividend of $15,000. What would be the
balance in retained earnings at the end of Year 2?

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A. $125,000
B. $140,000
C. $50,000
D. $110,000
Explanation

Choice "D" is correct. Retained earnings (RE) represents the cumulative

earnings/(losses) incurred by a corporation since inception that have not been paid out
in the form of a dividend. Prior period adjustments, accounting changes reported
retrospectively, small/large stock dividends, certain transactions related to the sale of
treasury stock, and retirement of shares may also be accounted for in retained earnings.
The change in RE is detailed in the statement of changes in stockholders' equity.

Retained earnings can be calculated as: Beginning RE + Net income or (Net loss) –
Dividends (cash, property, or stock) declared, +/– Prior period adjustments +/–
Accounting changes reported retrospectively = Ending RE

Step 1: Calculate net income:

Net income (loss) = $450,000 revenues – $375,000 expenses = $75,000.

Step 2: Add net income minus dividends during the period to the beginning retained
earnings balance:

Year 2 beginning RE + Net income – Dividends declared

= $50,000 Year 2 beginning RE + $75,000 Net income – $15,000 Dividends declared

= $110,000 Year 2 ending RE

Note that dividends declared, rather than dividends paid, reduce retained earnings.
Dividends paid have no impact on retained earnings.

Choice "A" is incorrect. This amount does not subtract the dividends declared during the
period in the determination of the ending retained earnings balance.

Choice "B" is incorrect. This amount adds dividends declared to arrive at ending
retained earnings instead of subtracting the amount.
All of the following are captured on the balance sheet except for:

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A. Total property, plant, and equipment.
B. Management expertise.
C. Total debts owed within 12 months of the reporting date.
D. Amount of profits retained in the business since inception of the business.
Explanation

Choice "B" is correct. The balance sheet reports the company's financial position at a
specific point in time and consists of three main components: assets, liabilities, and
owners' equity. Assets represent probable future economic benefits obtained or
controlled by the business, liabilities represent probable future sacrifices of economic
benefits, and equity represents the shareholders' residual claim in the entities' net
assets (Assets – Liabilities).

The balance sheet only reflects events that have met the prescribed rules of GAAP.
This limitation may result in the balance sheet's omitting important, relevant assets that
add value to the business. Such omission includes the value of the management team
in place and the team's expertise which can be a driving force behind the success of a
company. This information while potentially valuable would not be reflected in the
amounts reported on the balance sheet due to the complexity and high degree of
subjectivity in determining an appropriate value.

Choice "A" is incorrect. Property, plant, and equipment are part of non-current assets
reported on the balance sheet.

Choice "C" is incorrect. Total debts owed within twelve months would be included as a
liability on the balance sheet and would typically be classified as current liabilities.

Choice "D" is incorrect. The amount of profits retained since the inception of the
business is reported as retained earnings on the balance sheet in the equity section.
Based on the account listing provided below, calculate the total dollar amount of current
assets to be reported on the balance sheet.

Sales revenue $157,000

Common stock 55,000
Dividends 12,000
Equipment 72,000
Cash 4,500
Salary expense 48,000
Inventory 12,000
Accounts receivable 8,000
Building 125,000

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A. $36,500
B. $24,500
C. $96,500
D. $221,500
Explanation

Choice "B" is correct. The total current assets are those that are expected to
be converted to cash or to be consumed within one year of the balance sheet
date or within the company's operating cycle, whichever is longer. Assets
consumed outside of one year or the operating cycle would not be classified
as current on the balance sheet.

Cash, inventory, and accounts receivable are all current assets held by a
corporation. These assets are typically utilized during the operating cycle.

Total current assets = $24,500: $4,500 cash + $12,000 inventory + $8,000

accounts receivable.

Choice "A" is incorrect. The amount indicated in the calculation of total current assets
includes dividends of $12,000. Dividends declared reduce retained earnings when
declared by the company's board of directors. Dividends declared are not included with
current assets on the balance sheet.

Choice "C" is incorrect. The amount indicated includes equipment in the calculation of
total current assets. On the balance sheet, equipment would be reported with property,
plant, and equipment, and not as a current asset.
Willem Co. reported the following liabilities at December 31, Year 1:

Accounts payable-trade 750,000

Short-term borrowings 400,000
Mortgage payable, current portion $100,000 3,500,000
Other bank loan, matures June 30, Year 2 1,000,000

The $1,000,000 bank loan was refinanced with a 20-year loan on January 15, Year 2,
with the first principal payment due January 15, Year 3. Willem's audited financial
statements were issued February 28, Year 2. What amount should Willem report as
current liabilities at December 31, Year 1?

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A. $850,000
B. $1,150,000
C. $1,250,000
D. $2,250,000
Explanation

Choice "C" is correct. Current liabilities at December 31, Year 1 include the accounts
payable-trade of $750,000, the short-term borrowings of $400,000 and the $100,000
current portion of the mortgage payable, for a total of $1,250,000. The $1,000,000 bank
loan will not be classified as a current liability because the company refinanced the loan
on a long-term basis on January 15, Year 2, prior to the issuance of the financial
statements on February 28, Year 2.

Choice "A" is incorrect. The short-term borrowing of $400,000 should be included in

current liabilities on December 31, Year 1, in addition to the accounts payable of
$750,000 and the $100,000 current period of the mortgage payable.

Choice "B" is incorrect. The $100,000 current portion of the mortgage payable should
be included in current liabilities, in addition to the accounts payable of $750,000 and the
short-term borrowing of $400,000.

Choice "D" is incorrect. The $1,000,000 bank loan will not be classified as a current
liability because the company refinanced the loan on a long-term basis on January 15,
Year 2, prior to the issuance of the financial statements on February 28, Year 2.
A company has the following liabilities at year-end:

Mortgage-note payable; $16,000 due within 12 months 355,000

Short-term debt that the company is refinancing with long-term debt 175,000
Deferred tax liability arising from depreciation 25,000

What amount should the company include in the current liability section of the balance
sheet?

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A. $0
B. $16,000
C. $41,000
D. $191,000
Explanation

Choice "B" is correct. The $16,000 current portion of the mortgage-note payable must
be reported as a current liability. The non-current portion of the mortgage-note payable,
the short-term debt that is being refinanced with long-term debt and the depreciation-
related deferred tax liability, must be reported as non-current liabilities.

Choice "A" is incorrect. The $16,000 current portion of the mortgage-note payable must
be reported as a current liability.

Choice "C" is incorrect. The $16,000 current portion of the mortgage-note payable must
be reported as a current liability. However, the deferred tax liability arising from
depreciation must be reported as a non-current liability because all deferred tax assets
and liabilities are reported as non-current.

Choice "D" is incorrect. The $16,000 current portion of the mortgage-note payable must
be reported as a current liability. However, the short-term debt will be classified as long-
term debt because the company is in the process of refinancing the debt on a long-term
basis.
All of the following are limitations to the information provided on the statement of
financial position except the

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A. Quality of the earnings reported for the enterprise.
B. Judgments and estimates used regarding the collectability, salability, and longevity of assets.
C. Omission of items that are of financial value to the business, such as the worth of the
employees.
D. Lack of current valuation for most assets and liabilities.
Explanation

Choice “A” is correct. This choice describes a limitation of the income statement, not a
limitation of the statement of financial position. Earnings for the enterprise are reported
on the income statement, not the statement of financial position. The quality of the
earnings reported for the enterprise cannot be determined from the income statement,
which is a limitation of the income statement.

Choice “B” is incorrect. Refers to limitation of statement of financial position.

Choice “C” is incorrect. Refers to limitation of statement of financial position.

Choice “D” is incorrect. Refers to limitation of statement of financial position.

Which of the following best articulates the relationship among the financial statements?

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A. Each financial statement reports information unrelated to other financial statements.
B. Each financial statement presents financial information to dissect the company's performance
and establishes the relationship between the financial statements.
C. The balance sheet and income statement are the only two financial statements that
demonstrate a relationship.
D. The changes on the balance sheet are not represented on any other financial statements
prepared.
Explanation

Choice "B" is correct. The financial statements prepared by an entity describe

relationships between the financial statements. The beginning balances on the
balance sheet and resulting ending balances are described through the
income statement, statement of stockholders' equity, and cash flow statement.
The change in retained earnings due to income/loss reported is determined on
the income statement of an entity.

The equity accounts reflected on the balance sheet and the increases and
decreases during the period are reconciled on the statement of stockholders'
equity to determine causes of changes in ending balances. The statement of
cash flows dissects the increase or decrease in cash reflected on the balance
sheet.

Choice "A" is incorrect. The financial statements are not unrelated to each
other. Each financial statement serves to provide insights into the changes
experienced on the balance sheet of an entity each period.

Choice "C" is incorrect. The balance sheet, income statement, statement of

stockholders' equity, and cash flow statement are each connected.

Choice "D" is incorrect. The changes in the balance sheet are explained on each of the
other financial statements presented.