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Created by maddogdil On September 30 of the current year, a

U.S. company entered into a futures

contract to hedge the value of its

inventory. The inventory was reported on

the balance sheet at its cost of $250,000

on September 30. On

December 31, the market value of the

inventory had decreased to $175,000.

The entity had a gain of

$74,500 on the futures contract at

December 31. What is the proper

accounting for this hedging transaction

on the December 31 year-end financial

statements, assuming that the hedge is

considered to be highly

effective?

a. Other comprehensive income will

increase by $74,500.

b. Other comprehensive income will

decrease by $500.

c. Net income will increase by $74,500.

d. Net income will decrease by $500.

Choice "d" is correct. This hedge is

classified as a fair value hedge because it

is being used to hedge the

value of the inventory. Therefore, the gain

on the fair value hedge must be recognized

in earnings, along with

the loss on the inventory, for a net

decrease in net income of $500:

Gain on derivative= $74,500

Loss on inventory= $175,000 FV -

$250,000 BV = $(75,000)

Net loss on fair value hedge= $(75,000)

loss+ $74,500 gain= $(500) loss

In order for a financial instrument to be a

derivative for accounting purposes, the

financial instrument must:

I. Have one or more underlyings.

II. Require an initial net investment.

a. I only.

b. II only.

c. Both I and 11.

d. Neither I nor II.

Choice "a" is correct. SFAS No.133

defines derivatives for accounting

purposes as having one or more

underlyings (and one or more notional

amounts), and as not requiring an initial net

investment (or having an

initial net investment that is smaller than

would be required for other types of

similar contracts).



derivative may be designated and qualify

as a fair value hedge if a set

of criteria relating to the derivative and the

hedged item are met. The most significant

criteria are:

1. There is formal documentation of the

hedging relationship between the

derivative and the hedged item.

2. The hedge must be expected to be

highly effective in offsetting changes in the

fair value of the hedged

item and the effectiveness is assessed at

least every 3 months.

3. The hedged item is specifically

identified.

4. The hedged item presents exposure to

changes in fair value that could affect

income.

A change in the fair value of a derivative

qualified as a cash flow hedge is

determined to be either effective in

offsetting a change in the hedged item or

ineffective in offsetting such a change.

How should the effective

and ineffective portions of the change in

value of a derivative which qualifies as a

cash flow hedge be

reported in financial statements?

1. Effective portion in ?

2. Ineffective portion in?

Choice "c" is correct. Changes in (gains

and losses on) the effective portion of a

cash flow hedge are

deferred and reported in "other

comprehensive income;" changes in the

ineffective portion are reported in

current income. Gains and losses which

are deferred and reported in "other

comprehensive income" must be

reclassified and recognized in income in

the period(s) in which the hedged item

affects income.



Selected information from the accounts of

Row Co. at December 31, Year 5,

follows:

Total income since incorporation

$420,000

Total cash dividends paid 130,000

Total value of property dividends

distributed

30,000

Excess of proceeds over cost of treasury

stock sold, accounted for using the cost

method

110,000

In its December 31, Year 5, financial

statements, what amount should Row

report as retained earnings?

Choice "a" is correct. Look at each item

given and decide how it affects retained

earnings: income since

incorporation equals unadjusted ending

retained earnings (RE), that is, current

year income is included; cash

dividends is a direct deduction from RE on

the date of declaration; property dividends

are deducted from RE

at market value on the date of declaration;

the excess proceeds from the sale of

treasury stock is considered

additional paid-in capital. Thus, ending RE

= unadj. RE -cash dividends - property

dividends = $420,000 -

$130,000- $30,000 = $260,000.

Choice "b" is incorrect. This amount does

not include the effect of the property

dividends. Property dividends

are deducted from RE at market value on

the date of declaration.

Choice "c" is incorrect. This amount

incorrectly includes the proceeds from the

sale of the treasury stock.

The cost method of accounting for

treasury stock affects retained earnings

only if the shares are sold below

cost and the difference exceeds any

additional paid-in capital from treasury

stock.



Cyan Corp. issued 20,000 shares of $5

par common stock at $10 per share. On

December 31, Year 1,

Cyan's retained earnings were $300,000.

In March, Year 2, Cyan reacquired 5,000

shares of its common

stock at $20 per share. In June, Year 2,

Cyan sold 1,000 of these shares to its

corporate officers for $25 per

share. Cyan uses the cost method to

record treasury stock. Net income for the

year ended December 31,

Year 2, was $60,000. At December 31,

Year 2, what amount should Cyan report

as retained earnings?

Choice "a" is correct. $360,000 retained

earnings at 12/31 /Year 2 ($300 + $60).

Because all treasury stock

transactions were recorded under the

"cost method," and the resale of treasury

stock was at a price that

exceeded its acquisition price, none of the

treasury stock transactions affected

retained earnings.

Choice "b" is incorrect. The $5,000 gain

[1 000 shares x ($25 sale price - $20

purchase price)] is recorded as

a credit to Additional Paid-in Capital-

Treasury Stock, not as a credit to retained

earnings. Only losses in

excess of APIC-Treasury Stock are

booked to retained earnings.

In September, Year 1, West Corp. made

a dividend distribution of one right for

each of its 120,000 shares of

outstanding common stock. Each right

was exercisable for the purchase of 1/100

of a share of West's $50

variable rate preferred stock at an

exercise price of $80 per share. On

March 20, Year 5, none of the rights

had been exercised, and West redeemed

them by paying each stockholder $0.10

per right. As a result of this

redemption, West's stockholders' equity

was reduced by:

a. $120

b. $2,400

c. $12,000

d. $36,000

Choice "c" is correct. In Year 1, no

dividend was recorded since none of the

rights were exercised and no

value was assigned. In Year 5, redemption

reduced equity by $12,000 [120,000

rights x $.10 per share].



How would the declaration of a 15/o

stock dividend by a corporation affect

each of the following?

1. Retained earnings

2. Total

stockholders' equity

Decrease to retained earnings - No effect

on shareholder's equity.

Rule: A stock dividend (less than 20-

25/o of stock outstanding) is treated by

transferring the FMV of the stock

dividend at declaration date from retained

earnings to capital stock and paid-in

capital. There is no effect on

total shareholder's equity because all

transfers take place within shareholder's

equity.

Shares of its own stock held by a

corporation should

be recorded as treasury stock and shown

as a reduction in the stockholders' equity

section of the B/S.

...

Hoyt Corp.'s current balance sheet

reports the following stockholders' equity:

5/o cumulative preferred stock, par value

$100 per share;

2,500 shares issued and outstanding

$250,000

Common stock, par value $3.50 per

share; 100,000 shares issued and

outstanding 350,000

Additional paid-in capital in excess of par

value of common stock 125,000

Retained earnings 300,000

Dividends in arrears on the preferred

stock amount to $25,000. If Hoyt were to

be liquidated, the preferred

stockholders would receive par value plus

a premium of $50,000. The book value

per share of common stock

IS:

a. $7.75

b. $7.50

c. $7.25

d. $7.00

Choice "d" is correct. $7.00 book value

per common share.

Preferred stock 250,000

Common stock 350,000

Additional paid-in capital 125,000

Retained earnings 300,000

Total stockholders equity 1,025,000

Less: PR stock interest (325,000)*

700,000

Total shares O/S / 100,000

Book value per share $ 7.00

* Par value preferred 250,000

Premium on preferred 50,000

Div. In arrears 25,000

Total preferred stock interest 325,000

Any preferred shareholder interest must

be removed from shareholders' equity

before computing book value

per share.



Ole Corp. declared and paid a liquidating

dividend of $100,000. This distribution

resulted in a decrease in

Ole's:

Paid-in capital

Retained earnings

Yes - No.

By definition, a liquidating dividend is one

in which the company is returning a

portion of capital originally

contributed to the company in excess of

retained earnings. A (pure) "liquidating

dividend" implies there is no

"retained earnings" left to decrease.

Posy Corp. acquired treasury shares at an

amount greater than their par value, but

less than their original

issue price. Compared to the cost method

of accounting for treasury stock, does the

par value method report

a greater amount for additional paid-in

capital and a greater amount for retained

earnings?

Additional

paid-in capital

Retained earnings

No - No.

Compared to the cost method for

reporting treasury stock, the par value

method will report a lower amount for

additional paid-in capital (APIC) and the

same amount for retained earnings.

The easiest way to solve this problem is to

make a set of assumptions consistent with

the facts and record the

proper entries.

Assumptions:

Original issue$100

Acquisition cost$80

Par value$60

Cost method

DR CR

Treasury stock 80

Cash 80

Par value method

DR CR

Treasury stock 60

APIC 20

Cash 80

Note: The only difference is that a portion

of the debit is transferred from treasury

stock to APIC, thereby

reducing the credit balance of APIC.



Grid Corp. acquired some of its own

common shares at a price greater than

both their par value and original

issue price but less than their book value.

Grid uses the cost method of accounting

for treasury stock. What

is the impact of this acquisition on total

stockholders' equity and the book value

per common share?

Total stockholders' equity

Book value per share

Decrease - Increase.

The acquisition of treasury stock at a price

less than their book value will:

1. Decrease stockholders' equity in total.

All treasury stock transactions decrease

total equity.

2. Increase book value per share. Book

value per share is based on the number of

outstanding common

shares, which is reduced by the acquisition

of treasury stock (the denominator is

reduced). The

numerator (book value) is also reduced by

the cost to purchase the shares, but the

overall effect on the

ratio is an increase in book value per

share. For example, if book value were

$1,000 and there were 100

common shares, the book value per

common share would be $10. If 10 shares

were repurchased for $8

(which is less than the original book value

per share), the new book value would be

$920 and the reduced

number of shares would be 90, thus,

resulting in a new book value per common

share of $10.22, which is

larger than the original $10.

How would the 5% stock dividend affect

the additional paid-in capital and retained

earnings amounts reported

in Gee's Year 2 statement of owners'

equity

1. APIC

2. RETAINED EARNINGS

Increase, Decrease.

A 5% stock dividend is a true stock

dividend, as opposed to a stock split

effected in the form of a dividend.

The fair market value of the stock

dividend at declaration date is capitalized

(transferred) from retained

earnings to capital stock and paid-in

capital.



Instead of the usual cash dividend, Evie

Corp. declared and distributed a property

dividend from its

overstocked merchandise. The excess of

the merchandise's carrying amount over its

market value should

be:

a. Ignored.

b. Reported as a separately disclosed

reduction of retained earnings.

c. Reported as an extraordinary loss, net

of income taxes.

d. Reported as a reduction in income

before extraordinary items.

Choice "d" is correct. A loss is recognized

for the merchandise's carrying amount

over its market value. This

results in a reduction in income before

extraordinary items.

Rule: Dividends declared and paid in the

form of assets other than cash are

recorded by the distributing

corporation at fair market value at date of

declaration.

On March 1, Rya Corp. issued 1,000

shares of its $20 par value common stock

and 2,000 shares of its $20 par value

convertible preferred stock for a total of

$80,000. At this date, Rya's common

stock was selling for $36 per share, and

the convertible preferred stock was selling

for $27 per share. What amount of the

proceeds should be allocated to Rya's

convertible preferred stock?

Choice "c" is correct. $48,000 allocated

to preferred.

Rule: Allocate "issue proceeds" of a

basket purchase or sale of convertible

preferred stock based on relative

fair market values:

Allocated

Shares $ Fair Value Basis

Common stock 1000 x 36 = $36,000

$32,000

Preferred stock 2000 x 27 =54, 000

48,000

Total fair value $90,000 $80,000

Allocate to preferred: 54/90 x $80,000 =

$48,000



When collectibility is reasonably assured,

the excess of the subscription price over

the stated value of the no par common

stock subscribed should be recorded as:

a. No par common stock.

b. Additional paid-in capital when the

subscription is recorded.

c. Additional paid-in capital when the

subscription is collected.

d. Additional paid-in capital when the

common stock is issued.

Choice "b" is correct. When collectibility is

reasonably assured, the excess of the

subscription price over the

stated value of the no par common stock

subscribed should be recorded as

additional paid-in capital (APIC)

when the subscription is received.

Entry to record subscription of 1,000

shares of common stock ($5 stated value

or par value) at a price of $18

with down payment of $3 per share:

Cash (1,000 x $3) 3,000

Subscription received - c/s 15,000

Common stock subscribed (1,000 shs x

$5) 5,000

Additional paid-in capital ($13 x 1,000)

13,000

Note: This is same "APIC" as if the stock

had been fully paid for and issued.

A corporation issuing stock should charge

retained earnings for the market value of

the shares issued in a

(an):

a. Employee stock bonus.

b. Pooling of interests.

c. 10/o stock dividend.

d. 2-for-1 stock split.

Choice "c" is correct. 1 Oo/o stock

dividend.

Rule:

1. Charge retained earnings for the market

value of shares issued for stock dividend

of less than 20-

250/o.

2. Use par value if more than 20-25/o

stock dividend.

3. If between 20-25/o use either par or

FMV.



Stock dividends on common stock should

be recorded at their fair market value by

the investor when the

related investment is accounted for under

which of the following methods?

Cost

Equity

No - No.

Rule: Stock dividends and stock splits are

not considered income to the recipient.

Therefore, investors do not record stock

dividends at fair market value. They simply

reallocate the

investment account balance (under either

method -- cost or equity) over more

shares so that value per share

decreases.

On January 1, Year 1, Ward Corp.

granted stock options to corporate

executives for the purchase of 20,000

shares of the company's $20 par value

common stock at $48 per share. All stock

options were exercised on

December 28, Year 1. Using an

acceptable option pricing model, Ward

calculated total compensation cost of

$240,000. The quoted market prices of

Ward's $20 par value common stock

were as follows:

January 1, Year 1 $45

December 28, Year 1 60

As a result of the grant and exercise of the

stock options and the issuance of the

common stock, Ward's additional paid-in

capital increased by:

$800,000 increase to additional paid-in

capital.

January 1 Journal Entry

Compensation expense $240,000

APIC - Stock options 240,000

December 28 Journal Entry

Cash ($48 x 20,000 shares) $960,000

APIC - Stock options $240,000

Common stock (20,000 x $20) $400,000

APIC 800,000



On January 1, Year 1, Lord Corp.

granted stock options for 10,000 shares at

$38 per share as additional

compensation for services to be rendered

over the next three years. Using an

acceptable option pricing

model, Lord calculated total compensation

cost of $90,000. The options are

exercisable during a 4-year

period beginning January 1, Year 4, by

grantees still employed by Lord. Market

price of Lord's stock was $47

per share at the grant date. No stock

options were terminated during Year 1. In

Lord's Year 1 income

statement, what amount should be

reported as compensation expense

pertaining to the options?

a. $90,000

b. $40,000

c. $30,000

d. $0

The compensation should be allocated

over the period for which the services are

performed.

Fair value of options at grant date

$90,000

Services for 3 years 3

Compensation expense - Year 1 $30,000



On March 4, Year 1, Evan Co. purchased

1,000 shares of LVC common stock at

$80 per share. On

September 26, Year 1, Evan received

1,000 stock rights to purchase an

additional 1,000 shares at $90 per

share. The stock rights had an expiration

date of February 1, Year 2. On

September 30, Year 1, LVC's

common stock had a market value, ex-

rights, of $95 per share and the stock

rights had a market value of $5

each. What amount should Evan report on

its September 30, Year 1, balance sheet

for investment in stock

rights?

a. $4,000

b. $5,000

c. $10,000

d. $15,000

5000/(5k+95k) x 80,000=4000

Cash flow statement

--During Year 2, equipment costing

$40,000 was sold for cash.

Depreciation expense $33,000

Increase in Accumulated depreciation

(11,000)

Depreciation on equipment sold $22,000

Gain on sale of equipment 13,000

What are the proceeds of the Sale I.e

what are the cash flows? J/e please....

Cash 31,000 **

Acc depreciation 22,000 ****

Equipment 40,000

Gain 13,000

*****33k

(11k)

22,000 depreciation attributable to the

equipment

Cash flow

Proceeds from the sale of equipment is

under what activity ?

INVESTING

Cash flow Statement under IFRS

Cash dividends paid, under U.S. GAAP.

[F] Financing activity.

[I] Investing activity.

[O] Operating activity.

FINANCING. Under IFRS, cash

dividends paid may be classified as a

financing activity

or an operating activity.



Redemption of bonds payable.

[F] Financing activity.

[I] Investing activity.

[O] Operating activity.

Choice [F] is correct. FINANCING.

At December 31, Year 1, Eagle Corp.

reported $1,750,000 of appropriated

retained earnings for the

construction of a new office building,

which was completed in Year 2 at a total

cost of $1,500,000.

In Year 2, Eagle appropriated

$1,200,000 of retained earnings for the

construction of a new plant.

Also, $2,000,000 of cash was restricted

for the retirement of bonds due in Year 3.

In its Year 2

balance sheet, Eagle should report what

amount of appropriated retained earnings?

a. $1,200,000 b. $1,450,000 c.

$2,950,000 d. $3,200,000

Explanation

Rule: When the purpose of the

appropriation has been achieved, it should

be restored to

unappropriated retained earnings.

Choice "a" is correct. $1,200,000

appropriated retained earnings at Dec. 31,

Year 2 (for the

construction of a

new plant only).

Choices "b" and "c" are incorrect. When

the new ($1,500,000) office building was

completed in Year

2,

$1,750,000 was restored to

unappropriated retained earnings.

Choice "d" is incorrect. "Cash restricted

for the retirement of bonds" (an asset

account called

"sinking fund

cash") typically reduces regular cash and

does not affect retained earnings. (There

may also be an

appropriation, but this would have to be

specifically mentioned in the question.)



On December 1, Line Corp. received a

donation of 2,000 shares of its $5 par

value common stock from

a

stockholder. On that date, the stock's

market value was $35 per share. The

stock was originally

issued for

$25 per share. By what amount would this

donation cause total stockholders' equity

to decrease?

a. $70,000

b. $50,000

c. $20,000

d. $0

Explanation

Choice "d" is correct. $0 decrease in total

stockholders' equity due to donation of its

own stock

from a stockholder because there is no

cost to the corporation. The entry would

be:

DR Donated treasury stock(@ FMV)

CR Additional paid-in capital (@ FMV)

Both accounts enter into total

stockholders' equity; therefore, there is no

change in total

stockholders' equity. When (if) the shares

are reissued, the entry would be:

DR Cash(@ sales price)

DR Additional paid-in capital (for sp carrying value)

Quoit, Inc. issued preferred stock with

detachable common stock warrants. The

issue price exceeded the

sum of the warrants' fair value and the

preferred stock's par value. The preferred

stock's fair value was not

determinable. What amount should be

assigned to the warrants outstanding?

a. Total proceeds.

b. Excess of proceeds over the par value

of the preferred stock.

c. The proportion of the proceeds that the

warrants' fair value bears to the preferred

stock's par value.

d. The fair value of the warrants.

hoice "d" is correct. The fair value of the

warrants is credited to paid in capital.



In a compensatory stock option plan for

which the grant and exercise dates are

different, the stock options

outstanding account should be reduced at

the:

a. Date of grant.

b. Beginning of the vesting period.

c. Beginning of the service period.

d. Exercise date.

Choice "d" is correct. Stock options

outstanding are reduced at the exercise

date.

Choice "a" is incorrect. Stock options

outstanding are increased at the date of

grant.

Choice "b" is incorrect. The beginning of

the vesting period is not used.

Choice "c" is incorrect. The beginning of

the service period is the beginning of the

period over which the

compensation expense is amortized.

Universe Co. issued 500,000 shares of

common stock in the current year.

Universe declared a 30o/o

stock

dividend. The market value was $50 per

share, the par value was $10, and the

average issue price

was $30

per share. By what amount will Universe

decrease stockholders' equity for the

dividend?

a. $0

b. $1,500,000 c. $4,500,000 d. $7,500

,000

Explanation

Choice "a" is correct. The net effect on

Universe's stockholders equity is zero, as

the reduction

to retained

earnings is offset by an equal increase in

common stock.

Journal Entry:

DR Retained earnings (.30 x 500,000 x

$10) $1,500,000

CR Common stock ($10 per value)

$1,500,000

Choices "b", "c", and "d" are incorrect, per

the above.



Porter Co. began its business last year and

issued 10,000 shares of common stock at

$3 per share.

The par

value of the stock is $1 per share. During

January of the current year, Porter bought

back 500

shares at $6 per share, which were

reported by Porter as treasury stock. The

treasury stock shares

were reissued later in the current year at

$10 per share . Porter used the cost

method to account

for its equity transactions. What amount

should Porter report as paid-in capital

related to its

treasury stock transactions on its balance

sheet for the current year?

a. $1,500 b. $2,000 c. $4,500 d.

$20,000

Explanation

Choice "b" is correct. Using the cost

method , the treasury stock transactions

include the

reissuance of the treasury shares at $10

per share ($4 per share to APIC x 500

shares) , or $2,000.

The additional paid-in capital from the

original issuance of the stock is not paid-in

capital

related to the treasury stock and is not

included.



Question CPA-0544

Baker Co. issued 100,000 shares of

common stock in the current year. On

October 1, Baker

repurchased 20,000 shares of its common

stock on the open market for $50.00 per

share. At that

date, the stock's par value was $1.00 and

the average issue price was $40.00 per

share. Baker uses

the cost method for treasury stock

transactions. On December 1, Baker

reissued the stock for

$60.00 per share. What amount should

Baker report as treasury stock gain at

December 31?

a. $0

b . $200,000 c. $400,000 d. $980,000

Explanation

Choice "a" is correct. Corporations are

not permitted to report income statement

gains and losses

from treasury stock transactions. Instead,

treasury stock "gains and losses" are

reported as

direct adjustments to stockholders' equity.

Gains are recorded by crediting APIC -

Treasury Stock,

while losses are recorded by first reducing

any existing APIC - Treasury Stock to $0,

and then

debiting any additional loss to Retained

Earnings.

Baker's treasury stock transactions would

be recorded as follows: 10/1 -

Repurchase of Treasury

Stock

DR Treasury stock CR Cash

12/1 - Resell Treasury Stock

DR Treasury stock $1,000 ,000 CR Cash

$1,000,000


DR Cash $1,200 ,000

CR Cash $1,000,000


DR Cash $1,200 ,000

CR Treasury stock $1,000 ,000

CR APIC - Treasury stock 200,000



Deck Co. had 120,000 shares of common

stock outstanding at January 1, Year 2.

On July 1, Year 2,

it issued

40,000 additional shares of common

stock. Outstanding all year were 10,000

shares of

nonconvertible cumulative preferred stock.

What is the number of shares that Deck

should use to

calculate Year 2 earnings per share?

a. 140,000

b. 150,000

c. 160,000

d. 170,000

Explanation

Choice "a" is correct. 140,000 shares of

common stock is the weighted average for

earnings per

share. The

calculation is as follows:

1-1-Year 2: Outstanding all year120,000

7-1-Year 2: 40,000 issued x 6/12

Weighted average20,000

140,000

Which of the following items, if dilutive

and if other conditions are met, would

enter into the

determination of

the weighted average shares outstanding

to be used in the basic earnings per share

(basic EPS)

calculation?

I. Stock options.

II. Contingent shares.

a. I only.

b. II only.

c. Both I and II.

d. Neither I nor II

Explanation

Choice "b" is correct. Contingent shares

(that are dilutive) are included in the

calculation of

basic earnings per share (EPS) if (and as

of the date) all conditions for issuance are

met. Stock

options do not enter into the calculation of

basic EPS.

Choices "a" and "c" are incorrect ,

because stock options do not enter into

the calculation of the

basic EPS,

but will enter into the calculation of dilutive

EPS if dilutive (i.e., the average market

price of

the common stock

during the period exceeds the exercise

price of the option).



In computing the weighted-average

number of shares outstanding during the

year, which of the following

midyear events must be treated as if it had

occurred at the beginning of the year?

a. Declaration and distribution of stock

dividend.

b. Purchase of treasury stock.

c. Sale of additional common stock.

d. Sale of preferred convertible stock.

Explanation

Choice "a" is correct. In computing the

weighted-average number of shares

outstanding for earnings per

share (EPS) determination, a stock

dividend (or a stock split) to the same

class of shareholders must be

retroactively recognized and treated as if it

had occurred at the beginning of the year.

In addition, EPS for all

prior periods presented must be adjusted

as though the shares had been outstanding

for the entire period

presented.

Which one of the following is not

considered contingent shares for purposes

of computing EPS?

a. Shares issuable upon achieving a

specific net income target.

b. Shares issuable upon exercise of a

stock option.

c. Shares issuable upon the passage of a

specific period of time.

d. Shares issuable upon the issuance of a

patent.

Choice "b" is correct. Shares issuable

upon the exercise of a stock option are

not considered contingent

shares as the option holder is required to

pay the strike price to exercise the

options.



Ute Co. had the following capital structure

during Year 1 and Year 2:

Preferred stock , $10 par, 4/o

cumulative, 25,000 shares issued and

outstanding Common stock , $5 par, 200

,000 shares issued and outstanding

$250,000

1,000,000

Ute reported net income of $500,000 for

the year ended December 31, Year 2. Ute

paid no preferred dividends during Year 1

and paid $16,000 in preferred dividends

during Year 2. In its December 31, Year

2, income statement , what amount should

Ute report as basic earnings per share?

a. $2.42

b. $2.45

c. $2.48

d. $2.50

Choice "b" is correct. $2.45 earnings per

share.

Net income$ 500,000

Less: Cumulative preferred(10,000)

Stock dividend "requirement" ($10 par x

25,000 shs x 4/o ) (10,000)

Income available to common shares490

,000

Divide by average common shares O/S.

200,000

Year 1

?

Year2

Basic earnings per common share $ 2.45

Note: Since the preferred stock dividends

are cumulative, when they are declared or

paid is not relevant



West Co. had earnings per share of

$15.00 for the current year before

considering the effects of

any

convertible securities. No conversion or

exercise of convertible securities occurred

during the

year. However, possible conversion of

convertible bonds would have reduced

earnings per share by

$0.75. The effect of possible exercise of

common stock options would have

increased earnings per

share by $0.10. What amount should

West report as diluted earnings per share

for the current year?

a. $15.00

b. $14.35

c. $14.25

d. $15.10

Explanation

Choice "c" is correct. $14.25 diluted

earnings per share.

EPS before the effect of any convertibles

Possible conversion of bonds Diluted

earnings per share

Basic

EPS

$15.00

$15.00

Diluted

EPS

$15.00

(.75)

$14.25

Note: The possible exercise of common

stock options would increase EPS by

$0.10, so they are not

used due

to the anti-dilution rule. Each potentially

dilutive security is considered separately

for its

dilutive effect.

On December 1 of the current year, Clay

Co. declared and issued a 6o/o stock

dividend on its 100,000 shares

of outstanding common stock. There was

no other common stock activity during the

year. What number of

shares should Clay use in determining

basic earnings per share for the current

year?

a. 100,000

b. 100,500

c. 103,000

d. 106,000

Choice "d" is correct. A 6/o stock

dividend equals 6,000 shares with a total

of 106,000 shares outstanding

after the distribution of the dividend. Stock

dividends and stock splits require

restatement of the shares

outstanding before the stock dividend or

stock split. Thus, the stock dividend

would be treated as if it had

occurred at the beginning of the fiscal year



When computing the weighted average of

common shares outstanding for basic

earnings per share,

convertible securities are:

a. Ignored.

b. Recognized whether they are dilutive or

anti-dilutive.

c. Recognized only if they are anti-dilutive.

d. Recognized only if they are dilutive.

Explanation

Choice "a" is correct. When computing

basic earnings per share, convertible

securities are ignored for

purposes of computing the weighted

average of common shares outstanding.

On January 31, Year 2, Pack, Inc. split its

common stock 2 for 1, and Young, Inc.

issued a 5% stock dividend.

Both companies issued their December

31, Year 1, financial statements on March

1, Year 2. Should

Pack's Year 1 earnings per share (EPS)

take into consideration the stock split, and

should Young's Year 1 EPS take into

consideration the stock dividend?

Rule: If stock dividend or a stock split (or

reverse split) changes common stock

outstanding , the

computation

of EPS shall give retroactive recognition

for all periods presented using the new

number of shares

because

the reader's primary interest is presumed

to be related to current capitalization.



The following information is relevant to the

computation of Chan Co.'s earnings per

share to be disclosed on

Chan's income statement for the year

ending December 31:

Net income for 2002 is $600,000.

$5,000,000 face value 10-year

convertible bonds outstanding on January

1. The bonds were issued four

years ago at a discount which is being

amortized in the amount of $20,000 per

year. The stated rate of

interest on the bonds is 9o/o, and the

bonds were issued to yield10/o. Each

$1,000 bond is convertible

into 20 shares of Chan's common stock.

Chan's corporate income tax rate is 25/o.

Chan has no preferred stock outstanding,

and no other convertible securities. What

amount should be used

as the numerator in the fraction used to

compute Chan's diluted earnings per share

assuming that the bonds

are dilutive securities?

a. $130,000

b. $247,500

c. $952,500

d. $1,070,000

Choice "c" is correct. The numerator in the

diluted EPS computation is equal to

income available to common

shareholders plus the after-tax interest

expense that would not have been

incurred if the bonds had been

converted. Note that the company is using

straight-line amortization rather than

effective interest

amortization. Under straight-line

amortization, interest expense of

$470,000 is reported each period. The

interest expense is equal to the interest

payment of $450,000 ($5,000,000 face x

9/o stated rate) plus the

discount amortization of $20,000.

Therefore, the numerator is calculated as:

Income available to common shareholders

+ Interest of dilutive securities

= $600,000 + [$470,000 X (1 - 25/o)]

= $600,000 + $352,500 = $952,500

Mend Co. purchased a three-month U.S.

Treasury bill. Mend's policy is to treat as

cash equivalents all highly

liquid investments with an original maturity

of three months or less when purchased.

How should this

purchase be reported in Mend's statement

of cash flows?

a. As an outflow from operating activities.

b. As an outflow from investing activities.

c. As an outflow from financing activities.

d. Not reported.

Choice "d" is correct. The U.S. Treasury

bill is considered to be a cash equivalent

item so purchasing the Tbill

merely changes the form of cash held, it

does not change the cash position of the

entity. Thus, the

purchase is not reported on the statement

of cash flows.



The following are required disclosures of a

statement of cash flows

under the direct method under U.S.

GAAP.

a. The major classes of gross cash

receipts and gross cash payments.

b. The amount of income taxes paid.

c. A reconciliation of net income to net

cash flow from operations.

In preparing its cash flow statement for the

year ended December 31, Reve Co.

collected the

following data:

Gain on sale of equipment$ (6,000)

Proceeds from sale of equipment 10,000

Purchase of A.S., Inc. bonds (par value

$200,000) (180,000)

Amortization of bond discount 2,000

Dividends declared (45,000)

Dividends paid 38,000)

Proceeds from sale of Treasury stock

(carrying amount $65,000) 75,000

In its December 31, statement of cash

flows , what amount should Reve report

as net cash used in investing activities?

a. $170,000

b. $176,000

c. $188,000

d. $194,000

Choice "a" is correct. Investing activities

include acquisitions and sales of long-term

assets or

investment

assets. Cash used equals $170,000

($180,000 paid less $10,000 received

from the sale of the

equipment).



Fara Co. reported bonds payable of

$47,000 at December 31, Year 1, and

$50,000 at December 31, Year 2.

During Year 2, Fara issued $20,000 of

bonds payable in exchange for equipment.

There was no amortization

of bond premium or discount during the

year. What amount should Fara report in

its Year 2 statement of cash

flows for redemption of bonds payable?

a. $3,000

b. $17,000

c. $20,000

d. $23,000

Beginning balance 12/31 /Year 147,000

Add: issuance of bonds for

equipment20,000

Subtotal67,000

Less: redemption of bonds payable (17

,000)

Ending balance 12/31/Year 50,000

Karr, Inc. reported net income of

$300,000 during the current year.

Changes occurred in several balance sheet

accounts as follows:

Equipment $25,000 increase

Accumulated depreciation 40,000

increase

Note payable 30,000 increase

During the year , Karr sold equipment

costing $25,000, with accumulated

depreciation of $12,000, for a gain of

$5,000.

In December, Karr purchased

equipment costing $50,000 with $20,000

cash and a 12o/o note payable of

$30,000.

Depreciation expense for the year was

$52,000.

In Karr's statement of cash flows , net

cash used in investing activities should be

a. $2,000

b. $12,000

c. $22,000

d. $35,000

Choice "a" is correct. Cash used for

investing activities is computed as follows:

Sale of equipment

Purchase of equipment Cash used for

investing

$18,000

(20,000)

$ 2.000



Payment for the early retirement of long-

term

bonds payable (carrying amount

$370,000) $375,000

Distribution in Year 2 of cash dividend

declared in Year 1 to preferred

shareholders 31,000

Carrying amount of convertible preferred

stock \in

Xan, converted into common shares

60,000

Proceeds from sale of treasury stock

(carrying

amount at cost, $43,000) 50,000

During Year 2, Xan, Inc. had the following

activities related to its financial operations:

Xan uses U.S. GAAP. In Xan's Year 2

statement of cash flows, net cash used in

financing operations should

be:

356,000 net cash used in financing

operations

Payment to retire bonds $(375,000)

Payment of dividend (31,000)

Proceeds from Treasury stock 50,000

$(356,000)



On July 1 of the current year, Dewey Co.

signed a 20-year building lease that it

reported as a

capital lease.

Dewey paid the monthly lease payments

when due. How should Dewey report the

effect of the lease

payments in the financing activities section

of its statement of cash flows?

a. An inflow equal to the present value of

future lease payments at July 1, less

current year

principal and

interest payments.

b. An outflow equal to the current year

principal and interest payments on the

lease.

c. An outflow equal to the current year

principal payments only.

d. The lease payments should not be

reported in the financing activities section.

Choice "c" is correct. Cash payments

made to reduce debt principal are

properly reported as a

financing

activity. Cash interest payments would be

reported as a component of cash from

operating

activities.

How should a gain from the sale of used

equipment for cash be reported in a

statement of cash flows using

the indirect method?

a. In investment activities as a reduction of

the cash inflow from the sale.

b. In investment activities as a cash

outflow.

c. In operating activities as a deduction

from income.

d. In operating activities as an addition to

income.

Choice "c" is correct. In a statement of

cash flows using the indirect method, gain

from the sale of used

equipment for cash should be reported in

operating activities as a deduction from

income.

Choice "a" is incorrect. In the investment

activities section, cash inflow from the sale

should be reported for

the entire proceeds from the sale.

Choice "b" is incorrect. In the investment

activities section, cash outflows should be

reported for purchases of fixed assets,

stocks/bonds of other entities.

Choice "d" is incorrect. In the operating

activities section, "loss" from the sale of

used equipment should be reported as an

addition to income.



Payne Co. prepares its statement of cash

flows using the indirect method. Payne's

unamortized bond discount account

decreased by $25,000 during the year.

How should Payne report the change in

unamortized bond discount in its statement

of cash flows?

a. As a financing cash inflow.

b. As a financing cash outflow.

c. As an addition to net income in the

operating activities section.

d. As a subtraction from net income in the

operating activities section

Choice "c" is correct. Amortization of

bond discount is an income-related item;

thus, it is almost automatically

an operating activity, not a financing

activity. That knocks out two of the

answers. Because the amortization

of the discount was originally subtracted to

get to net income in the first place, it is

added back to net income

for an indirect method statement of cash

flows.

New England Co. had net cash provided

by operating activities of $351 ,000; net

cash used by investing

activities of $420,000; and cash provided

by financing activities of $250,000. New

England's cash balance

was $27 ,000 on January 1. During the

year, there was a sale of land that resulted

in a gain of $25,000 and

proceeds of $40,000 were received from

the sale. What was New England's cash

balance at the end of the

year?

a. $27,000

b. $40,000

c. $208,000

d. $248,000

Choice "c" is correct. New England's cash

balance at the end of the year includes the

cash balance at the

beginning of the year, the net cash

provided by operating activities, the net

cash used by investing activities,

and the net cash provided by financing

activities ($27,000 + $351,000 -

$420,000 + $250,000 = $208,000).

The sale of the land was included in the

cash from the investing activities and does

not have to be considered

separately. When working this type of

question, be sure to distinguish between

the net cash used and the net

cash provided



Paper Co. had net income of $70,000

during the year. Dividend payment was

$10,000. The following

information is available:

Mortgage repayment $20,000

Available-for-sale securities purchased

10,000 increase

Bonds payable - issued 50,000 increase

Inventory 40,000 increase

Accounts payable 30,000 decrease

What amount should Paper report as net

cash provided by operating activities in its

statement of cash flows

for the year under U.S. GAAP?

0 dollars is correct. The operating

activities section includes cash flows from

working capital (current assets

and current liabilities) and other income

statement items. Under the indirect

method, net income is adjusted

for non-cash items and increases/decrease

in working capital items to arrive at net

cash from operating

activities. Increases in current assets and

decreases in current liabilities are uses of

cash, while decreases in

current assets and increases in current

liabilities increase cash.

Net income $70,000

Less: Increase in inventory (40,000)

Less: Decrease in AP (30,000)

Net cash provided by operating activities

$ 0

For the year ended December 31, Ion

Corp. had cash inflows of $25,000 from

the purchases, sales, and

maturities of held-to-maturity securities

and $40,000 from the purchases, sales,

and maturities of availablefor-

sale securities. What amount of net cash

from investing activities should Ion report

in its cash flow

statement?

a. $0

b. $25,000

c. $40,000

d. $65,000

Choice "d" is correct. Net cash from

investing activities is $65,000 ($25,000 +

$40,000) because investing

activities include cash flows from both

available-for-sale and held-to-maturity

security transactions.



Green Co. had the following equity

transactions at December 31:

Cash proceeds from sale of investment in

Blue Co.

(carrying value - $60,000) $75,000

Dividends received on Grey Co. stock

10,500

Common stock purchased from Brown

Co. 38,000

What amount should Green recognize as

net cash from investing activities in its

statement of cash flows at December 31

under U.S. GAAP?

a. $37,000

b. $47,500

c. $75,000

d. $85,500

Choice "a" is correct. Net cash from

investing activities should include the cash

received from the sale of the investment in

Blue Co. offset by the cash paid to

purchase the common stock from Brown

Co.:$75,000

Cash proceeds from sale of Blue Co.

(38,000)

Cash paid to purchase Brown Co.

common stock Net cash received from

investing activities $37,000

Tam Co. reported the following items in its

year-end financial statements:

Capital expenditures $1,000,000

Capital lease payments 125,000

Income taxes paid 325,000

Dividends paid 200,000

Net interest payments 220,000

What amount should Tam report as

supplemental disclosures in its statement of

cash flows prepared

Using the indirect method?

a. $545,000

b. $745,000

c. $1,125 ,000

d. $1,870 ,000

Choice "a" is correct. When the indirect

method is used, a supplemental disclosure

of cash paid

for interest and income taxes is required.

Tam will report total cash paid for interest

and income

taxes of $545,000

($325,000 income taxes paid + $220,000

net interest payments).

Under IFRS, interest received during a

period is reported on the statement of

cash flows in:

a. Operating cash flow only.

b. Investing cash flow only.

c. Operating or investing cash flow.

d. Operating or financing cash flow

Choice "c" is correct. Under IFRS,

interest (and dividends) received may be

reported in either operating cash

flow or in investing cash flow. Under U.S.

GAAP, interest (and dividends) received

must be reported



Under IFRS, interest paid during a period

is reported on the statement of cash flows

in:


b. Financing cash flow only.


d. Operating or financing cash flow.

Choice "d" is correct. Under IFRS,

interest paid may be reported in either

operating cash flow or in financing

cash flow. Under U.S. GAAP, interest

paid must be reported only in operating

cash flow because interest

expense is reported on the income

statement.

Under IFRS, dividends paid during a

period are reported on the statement of

cash flows in:


b. Financing cash flow only.


d. Operating or financing cash flow

Choice "d" is correct. Under IFRS,

dividends paid may be reported in either

operating cash flow or in

financing cash flow. Under U.S. GAAP,

dividends paid must be reported in

financing cash flow because

dividends are paid on equity and are not

reported on the income statement.

Which of the following would be reported

as an investing activity in a company's

statement of cash flows?

a. Collection of proceeds from a note

payable.

b. Collection of a note receivable from a

related party.

c. Collection of an overdue account

receivable from a customer.

d. Collection of a tax refund from the

government.

Choice "b" is correct. Loans to other

entities and the consequent collection of

the loans are reflected in the

investing activity section of the cash flow

statement.

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incurrent income

thefair value

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market value of theinventory

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