Fra inventory, longlive assets 2

Schweser Printable Answers - FRA - Inventory, Longlive Assets 2

Test ID#: 3

Question 1 - #94447

Which of the following statements about the impact of leases on the financial statements of the lessee is leastaccurate?

Your answer: A was incorrect. The correct answer was C) Cash flow from investing is higher for a finance leasethan an operating lease.

Cash flow from investing is not affected by a lease being either a finance or an operating lease. Finance leasesreduce cash flow from operations by only the portion of the lease payment attributed to interest expense. Cashflow from financing is reduced by the rest of the finance lease payment which is the principal part of the payment.

This question tested from Session 9, Reading 32, LOS g.

Question 2 - #94461

Over time, the reported amount of the annual interest expense on a long-term bond issued at a discount will:

Your answer: A was incorrect. The correct answer was C) increase.

A portion of the discount must be amortized to the interest expense each year. The amortized amount is debitedto interest expense and credited to debt. So debt goes up. The interest expense is debt times the effectiveinterest rate. Thus, interest expense will increase over time.

This question tested from Session 9, Reading 32, LOS a.

Question 3 - #122500

A tax rate that has been substantively enacted is used to determine the balance sheet values of deferred taxassets and deferred tax liabilities under:

Your answer: A was incorrect. The correct answer was C) IFRS only.

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A) Net income is lower in the early years of a finance lease than an operating lease.B) A finance lease results in higher liabilities compared to an operating lease.C) Cash flow from investing is higher for a finance lease than an operating lease.

A) remain constant.B) decrease.C) increase.

A) U.S. GAAP only.B) both IFRS and U.S. GAAP.C) IFRS only.

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Under IFRS, a tax rate that has been enacted or substantively enacted is used to measure deferred tax items.Under U.S. GAAP, only a tax rate that has actually been enacted can be used.

This question tested from Session 9, Reading 31, LOS j.

Question 4 - #97843

During 2007, Big 4 Companyâ€™s warehouse was totally destroyed by a tornado. Tornados are very rare in theregion where Big 4 is located. The book value of the warehouse at the time of the tornado was â‚¬10 million andBig 4 is self-insured. In addition, on June 30, 2007, Big 4 acquired one of its major suppliers. The fair value of thenet assets acquired by Big 4 was greater than the purchase price. According to International Financial ReportingStandards, should Big 4 recognize an extraordinary item for tornado damage and should Big 4 recognize negativegoodwill on its balance sheet due to the acquisition?

Your answer: A was incorrect. The correct answer was B)

IFRS does not permit income statement items to be recognized as â€œextraordinaryâ€�in the incomestatement. Negative goodwill is not reported on the balance sheet; rather, the excess of fair value over the pricepaid in an acquisition is recognized as a gain in the income statement.

This question tested from Session 9, Reading 30, LOS b.


A firm is most likely to lease an asset rather than purchasing it if the asset:

Your answer: A was incorrect. The correct answer was C) may be made obsolete by rapid technologicaladvances.

One of the motivations for leasing assets instead of purchasing them is that a leased asset that has been madeobsolete by new technology can be returned to the lessor at the end of the lease. Neither of the other choices is amotivation for leasing assets instead of purchasing them.

This question tested from Session 9, Reading 32, LOS f.

Question 6 - #94676

Extraordinary loss Negativegoodwill

A) Yes No

B) No No

C) No Yes

No No

A) is costly to move from place to place.B) has a high salvage value relative to its cost.C) may be made obsolete by rapid technological advances.



Blocher Company is evaluating the following methods of accounting for depreciation of long-lived assets andinventory:

Depreciation: straight-line; double-declining balance (DDB) Inventory: first in, first out (FIFO); last in, first out (LIFO)

Assuming a deflationary environment (prices are falling), which of the following combinations will result in thehighest net income in year 1?

Your answer: A was incorrect. The correct answer was C) Straight-line; LIFO.

For year 1, straight-line depreciation will be lower than DDB. During deflationary periods, LIFO will result in lowercost of goods sold and hence higher income.

This question tested from Session 9, Reading 29, LOS c.

Question 7 - #94471

A firm issues a $5 million zero coupon bond with a maturity of four years when market rates are 8%. Assumesemi-annual compounding.

What is the firm's initial liability and the value of the liability in six months?

Your answer: A was incorrect. The correct answer was C)

The initial liability is: N = 8, I/Y = 4%, PMT = 0, FV = $5,000,000, Compute PV = -$3,653,451.

The value of the liability 6 months is: [$3,653,451 + {0.04($3,653,451)}] = $3,799,589


Question 8 - #93905

An impairment write-down is least likely to decrease a company's:

A) DDB; FIFO.B) Straight-line; FIFO.C) Straight-line; LIFO.

Initial Liability Liability in 6 months

A) $3,675,149 $3,675,149

B) $5,000,000 $5,000,000

C) $3,653,451 $3,799,589

$3,653,451 $3,799,589

A) assets.B) future depreciation expense.C) debt-to-equity ratio.



Your answer: A was incorrect. The correct answer was C) debt-to-equity ratio.

An impairment write-down reduces equity and has no effect on debt. The debt-to- equity ratio would thereforeincrease.

This question tested from Session 9, Reading 30, LOS h.

Question 9 - #95581

All of the following factors complicate the comparability of effective tax rates across firms EXCEPT:

Your answer: A was incorrect. The correct answer was C) changes in the statutory tax rate.

Comparability decreases when the comparison period is relatively short (e.g. quarters vs. years), with thepresence of volatility in the effective tax rate over the comparison period, and operations in different taxjurisdictions.


Question 10 - #127261

Novak, Inc. owns equipment with a historical cost of $20,000, a useful life of 5 years, and an estimated salvagevalue of $5,000. Using the double declining balance method, depreciation expense in Year 3 for this equipment is:

Your answer: A was incorrect. The correct answer was C) $2,200.

DDB depreciation in each year is 2/5 of the carrying value at the beginning of the year, until the carrying valuereaches the estimated salvage value.

Year 1 DDB depreciation = $20,000 Ã— 2/5 = $8,000Carrying value = $20,000 â€“ $8,000 = $12,000

Year 2 DDB depreciation = $12,000 Ã— 2/5 = $4,800Carrying value = $12,000 â€“ $4,800 = $7,200

Year 3 DDB depreciation = $7,200 Ã— 2/5 = $2,880Because $7,200 â€“ $2,880 = $4,320 would depreciate the equipment below its salvage value, depreciation inYear 3 is limited to $7,200 â€“ $5,000 = $2,200.

This question tested from Session 9, Reading 30, LOS d.


A) comparisons over relatively short time horizons.B) volatility in the effective tax rate over the comparison period.C) changes in the statutory tax rate.

A) $2,880.B) $3,000.C) $2,200.



Lincoln Corporation and Continental Incorporated are identical companies except that Lincoln complies with U.S.Generally Accepted Accounting Principles and Continental complies with International Financial ReportingStandards. Assuming an inflationary environment and stable inventory quantities, which permissible cost flowassumption will minimize each firmâ€™s pre-tax financial income?


LIFO will result in the lowest pre-tax financial income and FIFO will result in the highest pre-tax income. Averagecost pre-tax financial income will fall in the middle. LIFO is allowed under U.S. GAAP but is not allowed underIFRS. Thus, Lincoln should choose LIFO and Continental should choose average cost in order to minimize pre-tax financial income.



In a direct-financing lease, the implicit rate is such that the present value of the minimum lease payments:

Your answer: A was incorrect. The correct answer was C) equals the cost of the leased asset.

In a direct-financing lease, the implicit rate is such that the present value of the MLPs equals the cost of theleased asset. Thus, at lease inception the total assets do not change and no gain is recognized.



A firm purchased a piece of equipment for $6,000 with the following information provided:

Revenue will increase by $15,000 per year. The equipment has a 3-year life expectancy and no salvage value. The firm's tax rate is 30%. Straight-line depreciation is used for financial reporting and double declining balance is used for tax

purposes.

Calculate the incremental income tax expense for financial reporting for years 1 and 2.

Lincoln Corporation Continental Incorporated

A) Last-in, first-out Last-in, first-out

B) First-in, first-out First-in, first-out

C) Last-in, first-out Average cost

Last-in, first-out Average cost

A) equals the sale price of the leased asset.B) is lower than the cost of the leased asset.C) equals the cost of the leased asset.

Year 1 Year 2



Your answer: A was correct!

Using SL:


Question 14 - #150014

Deferred tax liabilities may result from:


Deferred tax liabilities result from temporary differences that cause pretax income and income tax expense (onthe income statement) to be greater than taxable income and taxes due (on the firmâ€™s tax form). Temporarydifferences that cause pretax income to be less than taxable income are recognized as deferred tax assets.Permanent differences do not result in deferred tax items; instead they cause the effective tax rate to differ fromthe statutory tax rate.


Question 15 - #140461

A firm acquires investment property for â‚¬3 million and chooses the fair value model for financial reporting. InYear 1 the market value of the investment property decreases by â‚¬150,000. In Year 2 the market value of theinvestment property increases by â‚¬200,000. On its financial statements for Year 2, the firm will recognize a:

Your answer: A was incorrect. The correct answer was C) â‚¬200,000 gain on its income statement.

Under the fair value model, all gains and losses from changes in the value of investment property are recognized

A) $3,900 $3,900

B) $3,300 $4,100

C) $600 -$200

Yr. 1 Yr. 2Revenue 15,000 15,000Dep. 2,000 2,000Pretax income 13,000 13,000Tax Expense 3,900 3,900

A) pretax income greater than taxable income due to temporary differences.B) pretax income less than taxable income due to temporary differences.C) pretax income greater than taxable income due to permanent differences.

A) â‚¬150,000 gain on its income statement and a â‚¬50,000 revaluation surplus in shareholdersâ€™equity.

B) â‚¬150,000 increase in shareholdersâ€™ equity.C) â‚¬200,000 gain on its income statement.



on the income statement. The firm will recognize a loss of â‚¬150,000 in Year 1 and a gain of â‚¬200,000 in Year2.

This question tested from Session 9, Reading 30, LOS k.


Dobkin Company decides to expense costs that it would have otherwise capitalized. Compared to capitalizing,expensing these costs will result in:

Your answer: A was incorrect. The correct answer was C) lower asset levels and lower equity levels.

Expensing instead of capitalizing results in lower assets. Since the entire expense is recognized in the currentperiod (whereas only a portion of the expenditure is amortized when capitalizing), net income (and thereforeequity, via retained earnings) is lower with expensing than with capitalizing. Liabilities are unaffected.



A company purchased a new pizza oven directly from Italy for $12,676. It will work for 5 years and has no salvagevalue. The tax rate is 41%, and annual revenues are constant at $7,192. For financial reporting, the straight-linedepreciation method is used, but for tax purposes depreciation is accelerated to 35% in years 1 and 2, and 30%in year 3. For purposes of this exercise ignore all expenses other than depreciation.

What is the net income and depreciation expense for year one for financial reporting purposes?


Net income in year 1 for financial reporting purposes will be $2,748 = [($7,192 − $2,535)(1 − 0.41)]

The annual depreciation expense on financial statements will be $2,535 = ($12,676 / 5 years)



A) lower asset levels and higher equity levels.B) lower asset levels and lower liability levels.C) lower asset levels and lower equity levels.

Net Income DepreciationExpense

A) $2,535 $3,169

B) $2,748 $2,535

C) $4,657 $2,748

$2,748 $2,535



While evaluating the financial statements of Omega, Inc., the analyst observes that the effective tax rate is 7%less than the statutory rate. The source of this difference is determined to be a tax holiday on a manufacturingplant located in South Africa. This item is most likely to be:


As the name suggests, a tax holiday is usually a temporary exemption from having to pay taxes in some taxjurisdiction. Because of the temporary nature, the key issue for the analyst is to determine when the holiday willterminate, and how the termination will affect taxes payable in the future.

This question tested from Session 9, Reading 31, LOS i.


A lessee most likely has an incentive to structure a lease as an operating lease rather than a finance lease whenit:

Your answer: A was incorrect. The correct answer was C) has a high debt-to-equity ratio.

A firm with a high debt-to-equity ratio is more likely to use an operating lease instead of a capital lease. Use of anoperating lease avoids the recognition of debt on the lesseeâ€™s balance sheet and will not increase the debt-to-equity ratio.



As part of a major restructuring of business units, General Security (an industrial conglomerate operating solely inthe U.S. and subject to U.S. GAAP) recognizes significant impairment losses. The Investor Relations group ispreparing an informational packet for shareholders, employees, and the media. Which of the following statementsis least accurate?


Impairments cannot be restored under U.S. GAAP. Both remaining statements are correct.


A) sporadic in nature, and the analyst should try to identify the termination date and determine if taxes willbe payable at that time.

B) sporadic in nature, but the effect is typically neutralized by higher home country taxes on therepatriated profits.

C) continuous in nature, so the termination date is not relevant.

A) does not have debt covenants.B) is very profitable.C) has a high debt-to-equity ratio.

A) Write-downs taken on asset values can be reversed in later years if market conditions improve.B) The write-downs are reported as a component of income from continuing operations.C) During the year of the write-downs, retained earnings and deferred taxes will decrease.




Bandhu Jayagopal and his wife, Padmini, are the founders and current owners of the Riverview Restaurant andLounge. They retired several years ago from the day-to-day management, however, turning it over to a nephew,Mehmood Shah. Shah has run the restaurant very profitably, but recent redevelopment of the downtown riverfrontarea has brought new competition to the Riverview. Jayagopalâ€™s 25 year old grandson, Jeff Patel, thinks therestaurant can leap ahead of the competition and attract a hipper crowd by turning the lounge into a nightclub.

Patel wants to incorporate a new business and lease the restaurant lounge for his nightclub, the Red Monkey.Patel has consulted a contractor who says he can do the renovations for $25,352,000. Patel estimates that thenew sound system and dÃ©cor would be usable for five years before fashions changed enough that it would haveto be replaced, at which point it would have no salvage value.

Patel assures his grandfather and uncle that he could generate $14,384,000 in revenue every year once therenovations are complete. For their parts, Jayagopal and Shah are understandably leery of turning over thefinancial future of the family business to a 25 year old who wants to open a club. Since the new club would facethe same 41% tax rate that the restaurant faces, Jayagopal and Shah are not sure that the cash flow from theclub would be sufficient to cover the rapid depreciation of the fashionable dÃ©cor. The fact that Patel also expectsthem to fund the new company for him doesnâ€™t help. They say no.

Patel returns to his uncle and grandfather armed with financial projections. Patel shows his hoped-for businesspartners that, if they use the straight-line method in reporting the clubâ€™s results, the Red Monkey will report$5,495,024 in after-tax income (ignoring expenses other than depreciation) in the first year.

Jayagopal counters that straight-line depreciation is irrelevant because for tax purposes the depreciation schedulewill be accelerated to 35% per year in each of the first two years and 30% in the third year. Jayagopal points outthat after-tax income for the club in the first year will be only $3,251,372 on a tax basis (again ignoring expensesother than depreciation).

Shah joins Jayagopal in his objections, adding that the accelerated depreciation schedule used for tax purposeswill result in a substantial deferred tax liability, reaching approximately $4,158,000 by the end of year three. Patelreplies that the deferred tax liability is merely an accounting entry and the Red Monkey will never have to pay anyof it since the club will reinvest in up-to-date dÃ©cor in five years when the current renovations are out of fashion.

Patel adds that a change in the tax law to cut tax rates from 41% to 31% is likely in year three, and if that happensthe deferred tax liability at the end of the third year will decline to $2.948 million. Jayagopal agrees about thelikelihood of a tax cut, saying that such a cut in tax rates would add $1.014 million to the Red Monkeyâ€™sreported net income in year three.

Jayagopal and Shah agree to fund the nightclub if the tax cut passes.

Part 1)What would be the Red Monkeyâ€™s projected tax payable (in millions) in year one?


On a tax basis, first-year depreciation will be ($25.352 million × 0.35) = $8,873,200.Pre-tax income will be ($14,384,000 â€“ $8,873,200) = $5,510,800.At a 41% tax rate, tax payable in year one would be ($5,510,800 × 0.41) = $2.259 million.


A) $2.259.B) $1.909.C) $0.779.











Part 2)

Regarding Patelâ€™s and Jayagopalâ€™s statements about the Red Monkeyâ€™s after-tax income in the firstyear, which is CORRECT?

Your answer: B was incorrect. The correct answer was C)

If the Red Monkey uses straight-line depreciation in its reported results, the annual depreciation expense on

Patel Jayagopal

A) Incorrect Correct

B) Correct Incorrect

C) Correct Correct

Correct Correct



financial statements will be ($25.352 million / 5 years) = $5,070,400 per year. Pre-tax income (ignoringdepreciation) will be ($14,384,000 revenue − $5,070,400 depreciation) = $9,313,600. At a 41% tax rate, reportedincome each year will equal ((1 â€“ 0.41) Ã— $9,313,600) = $5,495,024, ignoring expenses other thandepreciation. Patelâ€™s statement is correct.

On a tax basis, first-year depreciation will be ($25.352 million Ã— 0.35) = $8,873,200 and pre-tax income will be($14,384,000 â€“ $8,873,200) = $5,510,800, again ignoring expenses other than depreciation. At a 41% tax rate,the after-tax income of the Red Monkey will be [(1 â€“ 0.41) Ã— $5,510,800] = $3,251,372. Jayagopalâ€™sstatement is also correct.










Part 3)Which statement about an analystâ€™s treatment of deferred tax assets and liabilities is most accurate?

A) Deferred tax assets that are unlikely to be reversed should be added to equity.

B) Deferred tax liabilities are unlikely to reverse should be discounted to present value and treated as



Your answer: B was incorrect. The correct answer was C) Deferred tax liabilities that are unlikely to reverseshould be treated as equity, without discounting.

Deferred tax assets that are unlikely to be reversed should be subtracted from equity, not added to it. Deferred taxliabilities should be discounted to present value and treated as liabilities if they are likely, not unlikely, to reverse.If the deferred tax liability is unlikely to reverse, the difference between the reported value and present value isadded to equity.










Part 4)

Regarding Patelâ€™s and Shahâ€™s statements about the Red Monkeyâ€™s deferred tax liability, which isCORRECT?

liabilities.C) Deferred tax liabilities that are unlikely to reverse should be treated as equity, without discounting.



Your answer: B was incorrect. The correct answer was A)

Although it is true that the Red Monkey will be renovating the dÃ©cor frequently, it will not be investing in dÃ©coras rapidly as it depreciates it for tax purposes. In years four and five, the Red Monkey will have no depreciationfor tax purposes but will still be depreciating the renovations on its books, and in those years its deferred taxliabilities will become due. Deferred tax liabilities are generally deferred indefinitely only if a company investsconsistently. Patelâ€™s statement is incorrect.

In order to calculate the total deferred tax liability for year three, we can calculate the deferred tax charge in yearsone, two, and three and then add them.

Pre-tax income for the Red Monkey for reporting purposes every year equals ($14,384,000 revenue − $5,070,400straight-line depreciation) = $9,313,600.

For tax purposes, pre-tax income in years one and two equals $14,384,000 revenue â€“ ($25,352,000 Ã— 0.35)= $8,873,200 depreciation, or $5,510,800 in net income per year. Thus the deferred tax charge in years one andtwo equals the difference in income of ($9,313,600 reported income − $5,510,800 taxable income) = $3,802,800at a 41% tax rate, or ($3,802,800 Ã— 0.41) = $1,559,148.

For tax purposes, pre-tax income in year three equals $14,384,000 revenue â€“ ($25,352,000 Ã— 0.30) =$7,605,600 depreciation, or $6,778,400 in net income. Thus the deferred tax charge for year three equals thedifference in income of ($9,314,000 reported income − $6,778,400 taxable income) = $2,535,600 at a 41% taxrate, or ($2,535,600 Ã— 0.41) = $1,039,596.

Thus the total deferred tax liability at the end of year 3 equals ($1.559 million + $1.559 million + $1.040 million) =$4.158 million. Shahâ€™s statement is correct.

Alternately, we could do this more quickly by recognizing that, in year three, the renovations will be completelydepreciated for tax purposes, so that taxable depreciation will have reached their full cost, $25,352,000. We alsocan calculate that, because the renovations are being depreciated on a straight-line basis over five years, by yearthree Red Monkey will have depreciated (3 years charged / 5-year asset life) = 60% of their total cost on itsbooks. Thus, the deferred tax liability in year three will be based on the [($25,352,000)Ã— (1 â€“ 0.60)] = $10.141million in cost not yet depreciated. At a 41% tax rate, the deferred taxes on the cost not yet depreciated will equal($10.141 million Ã— 0.41) = $4.158 million.

Note that calculating a deferred tax liability directly is often much faster than doing it year by year.



Patel Shah


B) Correct Correct

C) Incorrect Incorrect

Incorrect Correct










Part 5)Regarding Patelâ€™s and Jayagopalâ€™s statements about the effect of a tax cut from 41% to 31% in yearthree on Red Monkey, which is CORRECT?

Your answer: B was incorrect. The correct answer was A)

Using the information we calculated in question 4, we can recalculate the deferred tax liability for years one, two,and three using the lower tax rate:

Deferred tax liability for years one and two equals [($9.314 − $5.511) Ã— 0.31] = $1.179 million. Deferred taxliability for year three equals ($9.314 − $6.778) Ã— 0.31 = $0.786 million. Thus the deferred tax liability on RedMonkeyâ€™s balance sheet at the end of year three, after the change in tax rate, will be ($1.179 million + $1.179million + $0.786 million) = $3.144 million. Alternately, we can calculate the deferred tax liability for year threedirectly as ($10.141 million Ã— 0.31) = $3.144 million. Using either approach, Patelâ€™s statement is incorrect.

Patel Jayagopal


B) Incorrect Incorrect

C) Correct Correct

Incorrect Correct



We calculated in question 4 that the deferred tax liability in year three will equal $4.158 million. Thus, RedMonkeyâ€™s deferred tax liability will decrease by ($4.158 − $3.144) = $1.014 million due to the new lower taxrate. Thus, Red Monkey will have to make an adjustment of $1.014 million in tax expense in year three, which willresult in an increase in net income of $1.014 million. Jayagopalâ€™s statement is correct.










Part 6)

When analyzing a firmâ€™s reconciliation between its effective tax rate and the statutory tax rate, which of thefollowing is least likely a potential cause for the difference between the effective rate and the statutory rate?

Your answer: B was correct!

A) Differential tax treatment between capital gains and operating income.B) Use of accelerated depreciation for tax purposes and straight-line depreciation for reporting purposes.C) Deferred taxes provided on the reinvested earnings of unconsolidated domestic affiliates.



Potential reasons for a difference between a firmâ€™s statutory and effective tax rates include tax credits,differential tax treatment between capital gains and operating income, and deferred tax provisions on reinvestedearnings of unconsolidated domestic affiliates. The difference in depreciation schedules for tax and reportingpurposes affects the level of deferred taxes but not the tax rate at which they are calculated.



The Puchalski Company reported the following:

Puchalski has no deferred tax asset or liability prior to Year 1. If the tax rate is 40%, what is the amount of thedeferred tax asset or liability reported at the end of Year 3?




Classifying a lease as an operating lease for a lessee, as opposed to a finance lease, will result in:


For a lessee using operating leases, the current ratio will be higher, the debt/equity ratio will be lower, and theasset turnover will be higher than they would be with finance leases. With operating leases, assets and liabilities

Year 1 Year 2 Year 3 Year 4

Income before taxes $1,000 $1,000 $900 $800

Taxable income $800 $900 $900 $1,000

A) Liability of $120.B) Asset of $120.C) Asset of $80.

Year 1 Year 2 Year 3Income tax expense $400 $400 $360Taxes paid $320 $360 $360Deferred tax liability $80 $120 $120

Current Ratio Debt/Equity Ratio Asset TurnoverRatio

A) Higher Lower Lower

B) Lower Lower Higher

C) Higher Lower Higher

Higher Lower Higher



are lower.

This question tested from Session 9, Reading 32, LOS i.

Question 24 - #127257

If prices are decreasing, the best estimates of inventory and cost of goods sold from an analystâ€™s point of vieware provided by:

Your answer: A was incorrect. The correct answer was B) FIFO inventory and LIFO cost of goods sold.

Whether prices are increasing or decreasing, LIFO cost of goods sold and FIFO inventory are preferred becausethey are the closest estimates of current costs.

This question tested from Session 9, Reading 29, LOS e.


Assume a city issues a $5 million bond to build a new arena. The bond pays 8 percent semiannual interest andwill mature in 10 years. Current interest rates are 9%. Interest expense in the second semiannual period is closestto:

Your answer: A was incorrect. The correct answer was B) $210,830.

Step 1: Compute the present value of the bond: Since the current interest rate is above the coupon rate the bondwill be issued at a discount.

FV = $5,000,000; N = 20; PMT = (0.04)(5 million) = $200,000; I/Y = 4.5; CPT → PV = -$4,674,802

Step 2: Compute the interest expense at the end of the first period.

= (0.045)(4,674,802) = $210,366

Step 3: Compute the interest expense at the end of the second period.

= (new balance sheet liability)(current interest rate)

= $4,674,802 + $10,366 = $4,685,168 new balance sheet liability

(0.045)(4,685,168) = $210,833


A) LIFO inventory and FIFO cost of goods sold.B) FIFO inventory and LIFO cost of goods sold.C) FIFO inventory and FIFO cost of goods sold.

A) $106,550.B) $210,830.C) $80,000.




When analyzing a company's financial leverage, deferred tax liabilities are best classified as:

Your answer: A was incorrect. The correct answer was C) a liability or equity, depending on the company'sparticular situation.

Depends on the "performance" of the timing difference.



Indata Company sold a specially manufactured item for $5,000,000 on December 31, 20X6. The item was sold onan installment sale basis, with $1,000,000 paid on the date of the sale and $4,000,000 to be paid in four annualinstallments of $1,000,000 plus interest at the market rate of 6%. Indataâ€™s tax rate is 40% and its costs toconstruct the item were $2,500,000. Indata recognizes the entire amount of the sale as income on the date thesale is made for accounting purposes, but not until cash is received for tax purposes.

On its balance sheet dated December 31, 20X6, Indata will, as a result of the transaction described above,increase its deferred tax:


Accounting profit from the installment sale was $5,000,000 - $2,500,000 = $2,500,000. Income tax expense iscalculated based on 40% of accounting profit, so tax expense from the transaction is $2,500,000 Ã— 0.40 =$1,000,000. Revenue reported on the tax form is $1,000,000 and the year's costs for tax purposes are$2,500,000 Ã— ($1,000,000 / $5,000,000) = $500,000. Income taxes payable, as of December 31, 2006, were($1,000,000 â€“ $500,000) Ã— 0.40 = $200,000. The excess of income tax expense over income taxes payableis a deferred tax liability of $1,000,000 - $200,000 = $800,000.


Question 28 - #127247

Which of the following provisions would least likely be included in the bond covenants? The borrower must:

Your answer: A was incorrect. The correct answer was C) maintain a debt-to-equity ratio of no less than 2:1.

A) a liability.B) neither as a liability, nor as equity.C) a liability or equity, depending on the company's particular situation.

A) liability by $800,000.B) asset by $800,000.C) liability by $200,000.

A) maintain insurance on the collateral that secures the bond.B) not increase dividends to common shareholders while the bonds are outstanding.C) maintain a debt-to-equity ratio of no less than 2:1.



A lender wants to prohibit the borrower from becoming more leveraged. This can be done by requiring a leverageratio that is no more than a specified amount. Reducing leverage would be beneficial to the lender by loweringrisk.



Part 1)What is the cost of goods sold using the average cost method and using the first in first out (FIFO) method?


Average cost = cost of goods available/total units available. COGS = Units sold Ã— avg. cost = 959 Ã— 3.7581 =$3,604.02.

FIFO COGS = (709 Ã— 2) + (250 Ã— 6) = $2,918.00


Part 2)What is the ending inventory level in dollars using the FIFO Method?

Your answer: A was incorrect. The correct answer was C) $1,836.00.

Units Unit PriceBeginning Inventory 709 $2.00Purchases 556 $6.00Sales 959 $13.00SGA Expenses $2,649 per annum

Average Cost FIFO

A) $4,142.02 $2,918.00

B) $3,604.02 $2,918.00

C) $3,604.02 $3,423.82

$3,604.02 $2,918.00

Units Unit PriceBeginning Inventory 709 $2.00Purchases 556 $6.00Sales 959 $13.00SGA Expenses $2,649 per annum

A) $1,744.20.B) $3,604.02.C) $1,836.00.



Ending Inventory = 306 × 6 = $1,836.00.


Question 30 - #140460

Stannum Records obtains two intangible assets in a business acquisition: legal rights to reproduce songs, valuedat $5 million, and a trademark valued at $1 million. The trademark expires in 10 years and can be renewed at aminimal cost. Stannum estimates a 5-year useful life for the song rights. Because much of the songsâ€™economic value is realized in their early years, Stannum uses double-declining balance amortization. Amortizationexpense in the first year after the acquisition is closest to:

Your answer: A was incorrect. The correct answer was B) $2.0 million.

Because the trademark can be renewed at minimal cost, it should be treated as an intangible asset with anindefinite life: the asset is not amortized but is tested for impairment at least annually. For the song rights, DDBdepreciation in the first year = 2/5 Ã— $5 million = $2 million.



The difference between income tax expense and taxes payable is a:


Taxes payable is defined as the taxes due to the government as determined by taxable income and the tax rate,while income tax expense is the amount actually recognized on the income statement. Deferred income taxexpense is defined as the difference in income tax expense and taxes payable. Each individual deferred item isexpected to be paid (or recovered) in future years.



Given the following inventory data about a firm:

Beginning inventory 20 units at $50/unit Purchased 10 units at $45/unit Purchased 35 units at $55/unit Purchased 20 units at $65/unit Sold 60 units at $80/unit

A) $2.1 million.B) $2.0 million.C) $2.2 million.

A) deferred income tax expense.B) deferred tax liability.C) timing difference.



What is the inventory value at the end of the period using LIFO?


Ending inventory equals 20 + 10 + 35 + 20 − 60 = 25 of the first units purchased equals:

(20 units)($50/unit) + (5 units)($45/unit) =

$1,000 + $225 = $1,225


Question 33 - #104045

Allocating an intangible assetâ€™s cost to the income statement over time is known as:


Allocating an intangible assetâ€™s cost to the income statement over time is known as amortization. The sameprocess is known as depreciation for tangible assets. For natural resources, allocation of cost to the incomestatement over time is commonly referred to as depletion.



Given the following data and assuming a periodic inventory system, what is the ending inventory value using theFIFO method?

Your answer: A was incorrect. The correct answer was B) $3,250.

Purchased 50 + 60 + 70 = 180 units. Sold 25 + 30 + 45 = 100.

A) $1,225.B) $1,575.C) $3,450.

A) amortization.B) depreciation.C) depletion.

Purchases Sales50 units at $50/unit 25 units at $55/unit60 units at $45/unit 30 units at $50/unit70 units at $40/unit 45 units at $45/unit

A) $3,200.B) $3,250.C) $3,600.



Ending inventory = 180 â€“ 100 = 80 of the last units purchased.

(70 units)($40/unit) + (10 units)($45/unit) = $2,800 + $450 = $3,250.


Question 35 - #127248

If prices are increasing, the weighted average cost method most likely results in inventory values that are higherthan the inventory values using:

Your answer: A was incorrect. The correct answer was B) last-in first-out (LIFO).

In a increasing price environment, inventory values reported under LIFO are lower than the values reported underFIFO, and the values that result from weighted average cost are between the LIFO and FIFO values. Thus, thevalue of inventory using weighted average cost is higher than inventory using LIFO. The value of inventory usingspecific identification depends on which particular items from inventory are sold, and thus can be higher or lowerthan the inventory values that result from the other methods.



Nespa, Inc., has a deferred tax liability on its balance sheet in the amount of $25 million. A change in tax laws hasincreased future tax rates for Nespa. The impact of this increase in tax rate will be:

Your answer: A was incorrect. The correct answer was B) an increase in deferred tax liability and an increase intax expense.

An increase in tax rates will increase future deferred tax liability, and the impact of the increase in liability will bereflected in the income statement of the year in which the tax rate change is effected.



An analyst gathered the following information about a company:

Taxable income = $100,000. Pretax income = $120,000. Current tax rate = 20%. Tax rate when the reversal occurs will be 10%.

A) first-in first-out (FIFO).B) last-in first-out (LIFO).C) specific identification.

A) a decrease in deferred tax liability and a decrease in tax expense.B) an increase in deferred tax liability and an increase in tax expense.C) a decrease in deferred tax liability and an increase in tax expense.



What is the company's tax expense?


Deferred tax liability = (120,000 − 100,000) Ã— 0.1 = 2,000

Tax expense = current tax rate Ã— taxable income + deferred tax liability

0.2 Ã— 100,000 + 2,000 = 22,000



A U.S. company uses the LIFO method to value its inventory for their income tax return. For its financialstatements prepared for shareholders, the company may:

Your answer: A was incorrect. The correct answer was C) only use the LIFO method.

The LIFO conformity rule in the U.S. requires firms to use LIFO for their financial statements if they use LIFO forincome tax purposes.


Question 39 - #150008

Under the first-in-first-out (FIFO) inventory valuation method, ending inventory reflects the costs of the:

Your answer: A was incorrect. The correct answer was C) most recent purchases.

Under the FIFO inventory valuation method, ending inventory reflects the costs of the most recently purchaseditems and cost of sales reflects the costs of the earliest purchases. If prices are increasing or decreasing, endinginventory is unlikely to reflect the costs of the specific units available for sale.



A) $22,000.B) $24,000.C) $10,000.

A) use any other inventory method under generally accepted accounting principles (GAAP).B) use the FIFO method, but must disclose a LIFO reserve.C) only use the LIFO method.

A) earliest purchases.B) specific units available for sale.C) most recent purchases.



A company issued a bond with a face value of $67,831, maturity of 4 years, and 7% annual-pay coupon, while themarket interest rates are 8%.

What is the unamortized discount when the bonds are issued?


Coupon payment = ($67,831)(0.07) = $4,748.17.Present value of bond: FV = $67,831, N = 4, I = 8, PMT = $4,748.17, CPT PV = $65,584.35.Discount = $67,831 - $65,584.35 = $2,246.65.



Part 1)What is the cost of goods sold using the weighted average cost method?

Your answer: A was incorrect. The correct answer was B) $2,829.19.

Average cost = cost of goods available / total units available. COGS = Units sold Ã— wt. ave = 848 Ã— 3.33631= $2,829.19.


Part 2)What is the cost of goods sold using the first in, first out (FIFO) method?

A) $2,246.65.B) $1,748.07.C) $498.58.

Units Unit Price

Beginning Inventory 559 $1.00Purchases 785 $5.00Sales 848 $15.00SGA Expenses $3,191 per annum

A) $2,004.00.B) $2,829.19.C) $3,988.00.

Units Unit Price





COGS = (559 × 1) + (289 × 5) = $2,004.00.


Part 3)What is the ending inventory level in dollars using the FIFO method?


Ending inventory = 496 × 5 = $2,480.00.



Given the following information and assuming beginning inventory was zero and a periodic inventory system wasused, what is the gross profit at the end of the period using the FIFO, LIFO, and average cost methods?


A) $2,829.19.B) $2,004.00.C) $8,732.00.

Units Unit Price


A) $3,988.00.B) $2,480.00.C) $2,356.00.

Purchases Sales

20 units at $50 15 units at $60



FIFO LIFO Cost Average

A) $650 $750 $677

B) $650 $750 $990

C) $677 $650 $677



Sales = (15 * 60) + (35 * 45) + (85 * 35) = 5,450

COGSFIFO = (20 * 50) + (35 * 40) + (80 * 30) = 4,800GMFIFO: $5,450 − 4,800 = $650

COGSLIFO = (15 * 50) + (35 * 40) + (85 * 30) = 4,700GMLIFO: $5,450 − $4,700 = $750

COGSAverage = (20 * 50) + (35 * 40) + (85 * 30) = 4,9504,950*135 / 140 = 4,773.21GMCost Average: $5,450 − $4,773.21 = $676.79



Graphics, Inc. has a deferred tax asset of $4,000,000 on its books. As of December 31, it became more likelythan not that $2,000,000 of the assetâ€™s value may never be realized because of the uncertainty of futureincome. Graphics, Inc. should:

Your answer: A was incorrect. The correct answer was C) reduce the asset by establishing a valuation allowanceof $2,000,000 against the asset.

If it becomes more likely than not that deferred tax assets will not be fully realized, a valuation allowance thatreduces the asset and also reduces income from continuing operations should be established.


Question 44 - #104051

Marcel Inc. is a large manufacturing company based in the U.S. but also operating in several European countries.Marcel has long-lived assets currently in use that are valued on the balance sheet at $600 million. This includespreviously recognized impairment losses of $80 million. The original cost of the assets was $750 million. The fairvalue of the assets was determined in a professional appraisal to be $690 million. Assuming that Marcel reportsunder U.S. GAAP, the new appraisal of the assetsâ€™ value most likely results in:

Your answer: A was incorrect. The correct answer was B) no change to Marcelâ€™s financial statements.

Under U.S. GAAP, long-lived assets are reported on the balance sheet at depreciated cost less any impairmentlosses ($750 million original cost less $70 million accumulated depreciation and less $80 million impairment loss,for a net amount of $600 million). Increases are generally prohibited with the exception of assets held for sale.Since these assets are currently in use, this exception does not apply. Therefore, Marcel may not revalue theassets upward.

A) not make any adjustments until it is certain that the tax benefits will not be realized.B) reverse the asset account permanently by $2,000,000.C) reduce the asset by establishing a valuation allowance of $2,000,000 against the asset.

A) a $90 million gain in other comprehensive income.B) no change to Marcelâ€™s financial statements.C) an $80 million gain on income statement and $10 million gain in other comprehensive income.




Question 45 - #127255

If prices and inventory quantities are increasing, the last-in first-out (LIFO) inventory cost method results in:

Your answer: A was incorrect. The correct answer was C) lower gross profit compared to first-in first-out.

In an environment of increasing prices, LIFO results in higher COGS, lower inventory value, and lower gross profitcompared to FIFO.


Question 46 - #150012

For a firm to use the revaluation model for balance sheet reporting of long-lived assets:

Your answer: A was incorrect. The correct answer was C) an active market must exist for the assets.

Under IFRS, a firm may use the revaluation model for long-lived assets that have an active market which can beused to determine the fair value of the assets. The firm must use the same model for all assets of a similar type.U.S. GAAP reporting firms must use the cost model for long-lived assets.


Question 47 - #140456

Under which financial reporting standards is a firm required to discuss the circumstances when reversing aninventory writedown?

Your answer: A was incorrect. The correct answer was B) IFRS, but not U.S. GAAP.

Reversals of inventory writedowns are permitted under IFRS but not under U.S. GAAP. If an IFRS reporting firmreverses an inventory writedown, the firm is required to discuss the circumstances of the reversal.


A) higher inventory compared to first-in first-out.B) lower cost of goods sold compared to first-in first-out.C) lower gross profit compared to first-in first-out.

A) the firm must choose which assets of each type to revalue, and which to report at cost.B) the firm must report under U.S. GAAP.C) an active market must exist for the assets.

A) Both IFRS and U.S. GAAP.B) IFRS, but not U.S. GAAP.C) Neither IFRS nor U.S. GAAP.



Question 48 - #127242

At the beginning of 20X3, Creston Company issues $10 million face amount of 6% coupon bonds when themarket rate of interest is 7%. The bonds mature in four years and pay interest annually. Assuming the effectiveinterest rate method, what is the bond liability Creston will report at the end of 20X3?


Under the effective interest rate method, the bond liability is equal to the present value of the remaining cashflows discounted at the market rate of interest at the issue date. At the end of this year, there are 3 annualpayments of $600,000 and one payment of $10,000,000 remaining. Using your financial calculator, the presentvalue is $9,737,568 (N = 3, I = 7, PMT = 600,000, FV = 10,000,000, Solve for PV).


Question 49 - #150015

Ivo Company has a $10 million face value bond issue outstanding. These bonds include a call option that permitsIvo to redeem the bonds at any time for 101% of par. These bonds were issued at a premium and have a carryingvalue of $10,200,000. If Ivo calls the bonds, its income statement will reflect:

Your answer: A was incorrect. The correct answer was C) a gain on redemption.

The firm can call the bonds for 101% of $10 million, or $10,100,000. Redeeming bonds for less than the carryingvalue of the bond liability results in a gain.



Given the following inventory data about a firm:

Beginning inventory 20 units at $50/unit Purchased 10 units at $45/unit Purchased 35 units at $55/unit Purchased 20 units at $65/unit Sold 60 units at $80/unit

What is the inventory value at the end of the period using first in, first out (FIFO)?

A) $9,737,568B) $9,661,279C) $10,346,511

A) a loss on redemption.B) neither a gain nor a loss on redemption.C) a gain on redemption.

A) $1,575.B) $3,475.C) $3,100.




Ending inventory equals 20 + 10 + 35 + 20 − 60 = 25 of last units purchased in inventory.

(20 units)($65/unit) + (5 units)($55/unit) = $1,300 + $275 = $1,575


Question 51 - #104169

At the end of 20X8, Martin Inc. estimates that $26,000 of warranty repairs will be required in the future on goodsalready sold. For tax purposes, warranty expense is not deductible until the work is actually performed. The firmbelieves that the warranty work will be required over the next two years. The tax base of the warranty liability atthe end of 20X8 is:

Your answer: A was incorrect. The correct answer was B) zero.

The carrying value of the warranty liability is $26,000 (the same amount is recorded as a liability on the balancesheet and as an expense on the income statement). The tax base is equal to the carrying value less any amountsdeductible in the future. Therefore, the tax base is $0 ($26,000 − $26,000) since the warranty expense will bedeductible when the work is performed next year.



For balance sheet purposes, inventories based on:

Your answer: A was incorrect. The correct answer was C) FIFO are preferable to those based on LIFO, as theymore closely reflect current costs.

The inventories based on FIFO are preferable to those presented under LIFO or average cost for balance sheetpurposes. Under FIFO, the older inventories are taken out first, and the ending inventory balance consists of therecent purchases and thus most closely reflect the current (economic) value.


©2013 Kaplan Schweser. All Rights Reserved.

A) $13,000.B) zero.C) $26,000.

A) LIFO are preferable to those based on FIFO, as they more closely reflect the current costs.B) LIFO are preferable to those based on average cost, as they more closely reflect the current costs.C) FIFO are preferable to those based on LIFO, as they more closely reflect current costs.

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