Financial Accounting Robert Libby 10e - Test Bank

Financial Accounting Robert Libby 10e – Test Bank

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Financial Accounting, 10e (Libby)

Chapter 5 Communicating and Interpreting Accounting Information

1) External users of accounting information include decision makers such as investors, creditors, and financial analysts.

Answer: TRUE

Explanation: Each of the identified decision makers uses accounting information in his/her decision-making process.

Difficulty: 1 Easy

Topic: Accounting communication process – People

Learning Objective: 05-01 Recognize the people involved in the accounting communication process (regulators, managers, directors, auditors, information intermediaries, and users), their roles in the process, and the guidance they receive from legal and professional standards.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

2) The mission of the Securities & Exchange Commission (SEC) is to develop generally accepted accounting principles.

Answer: FALSE

Explanation: The mission of the SEC is to protect investors and maintain the integrity of the securities markets.

Difficulty: 1 Easy

Topic: Accounting communication process – Regulators

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

3) Independent auditors are advisors who analyze financial statements and other economic information to formulate forecasts and stock recommendations.

Answer: FALSE

Explanation: Independent auditors provide an opinion with respect to the overall fairness of the financial statements.

Difficulty: 1 Easy

Topic: Accounting communication process – People

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

4) The Securities & Exchange Commission (SEC) oversees the work of the Financial Accounting Standards Board (FASB).

Answer: TRUE

Explanation: The SEC has delegated the responsibility for setting GAAP to the FASB.

Difficulty: 1 Easy

Topic: Accounting communication process – Regulators

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

5) The Financial Accounting Standards Board (FASB) oversees the work of the Public Company Accounting Oversight Board (PCAOB).

Answer: FALSE

Explanation: The Securities & Exchange Commission (SEC) oversees the work of the Public Company Accounting Oversight Board (PCAOB). The Financial Accounting Standards Board (FASB) has authority to set generally accepted accounting principles (GAAP).

Difficulty: 1 Easy

Topic: Accounting communication process – Regulators; Accounting standard-setting – FASB

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

6) The Public Company Accounting Oversight Board (PCAOB) sets auditing standards for independent auditors.

Answer: TRUE

Explanation: The Public Company Accounting Oversight Board (PCAOB) is responsible for setting auditing standards for independent auditors.

Difficulty: 1 Easy

Topic: Accounting communication process – Regulators

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

7) The primary responsibility for the information in a corporation’s financial statements lies with the chief executive officer (CEO) and the chief financial officer (CFO).

Answer: TRUE

Explanation: The CEO and the CFO are primarily responsible for the content of the financial statements.

Difficulty: 1 Easy

Topic: Corporate governance

Bloom’s: Remember

AACSB: Ethics

Accessibility: Keyboard Navigation

8) The audit committee of the board of directors is responsible for maintaining the integrity of a company’s financial statements and financial reporting.

Answer: TRUE

Explanation: The audit committee of the board of directors is responsible for ensuring that processes are in place for maintaining the integrity of the company’s accounting, financial statement preparation, and financial reporting.

Difficulty: 1 Easy

Topic: Corporate governance

Bloom’s: Remember

AACSB: Ethics

Accessibility: Keyboard Navigation

9) The Securities & Exchange Commission requires publicly traded companies to have their financial statements audited by their internal auditors.

Answer: FALSE

Explanation: The Securities & Exchange Commission requires a publicly traded company to have its financial statements audited by an independent registered public accounting firm.

Difficulty: 1 Easy

Topic: Accounting communication process – Regulators

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

10) Financial analysts utilize a company’s financial reports to assist them in making earnings forecasts and earnings per share projections.

Answer: TRUE

Explanation: Financial analysts utilize a company’s financial reports to assist them in making forecasts of earnings, earnings per share, and share prices, as well as buy and sell recommendations.

Difficulty: 1 Easy

Topic: Accounting communication process – People

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

11) Corporate governance refers to the procedures designed to ensure that the company is managed in the interest of the board of directors who oversee management.

Answer: FALSE

Explanation: Corporate governance refers to the procedures designed to ensure that the company is managed in the interests of the shareholders.

Difficulty: 2 Medium

Topic: Corporate governance

Bloom’s: Remember

AACSB: Ethics

Accessibility: Keyboard Navigation

12) The fraud triangle conditions necessary for financial statement fraud to occur are the existence of a system of internal control, the ability to invade the system, and rationalization to commit the fraud.

Answer: FALSE

Explanation: The fraud triangle consists of incentive and opportunity to commit fraud, and ability to rationalize the fraud misdeed.

Difficulty: 1 Easy

Topic: Corporate governance

Bloom’s: Remember

AACSB: Ethics

Accessibility: Keyboard Navigation

13) The form 10-Q contains an unaudited set of quarterly financial statements.

Answer: TRUE

Explanation: The form 10-Q is the quarterly report containing a condensed income statement and balance sheet, marked as unaudited, that publicly traded companies must file with the SEC.

Difficulty: 1 Easy

Topic: Accounting communication process – SEC reporting

Learning Objective: 05-02 Identify the steps in the accounting communication process, including the issuance of press releases, annual reports, quarterly reports, and SEC filings, as well as the role of online information services in this process.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

14) The form 10-K is the annual report that publicly traded companies must file with the Securities & Exchange Commission (SEC).

Answer: TRUE

Explanation: The form 10-K is the annual report that publicly traded companies must file with the SEC.

Difficulty: 1 Easy

Topic: Accounting communication process – SEC reporting

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

15) Sales by major product category is a required financial statement disclosure.

Answer: FALSE

Explanation: Sales by major product category is a voluntary disclosure.

Difficulty: 2 Medium

Topic: Financial statements – Disclosure notes

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

16) Information on all contractual agreements is included in notes as a financial statement disclosure.

Answer: FALSE

Explanation: Information that impacts the company financially but is not shown on the financial statements might include information about contractual agreements that do not result in an asset or liability on the balance sheet. All contractual agreements are not included in financial statement disclosures unless they are material to the fair presentation of the financial statements.

Difficulty: 1 Easy

Topic: Financial statements – Disclosure notes

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

17) Inventories are reported on the balance sheet as a current asset.

Answer: TRUE

Explanation: Current assets include cash, accounts receivable, inventories, and other assets that will be used or turned into cash within one year from the date of the balance sheet.

Difficulty: 1 Easy

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

18) Intangible assets are reported on the balance sheet as a current asset.

Answer: FALSE

Explanation: Current assets include cash, accounts receivable, inventories, and other assets that will be used or turned into cash within one year from the date of the balance sheet. Intangible assets have a long life and are reported as noncurrent assets.

Difficulty: 1 Easy

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

19) Intangible assets are reported on the balance sheet as noncurrent assets and include goodwill.

Answer: TRUE

Explanation: Intangible assets are reported as noncurrent assets and include patents, trademarks, franchises, copyrights, and goodwill.

Difficulty: 1 Easy

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

20) Comparative financial statements are those of a company in one industry presented with another company in the same industry.

Answer: FALSE

Explanation: Comparative financial statements are those of one company that simultaneously present the current period and one or more prior periods.

Difficulty: 1 Easy

Topic: Accounting communication process – SEC reporting

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

21) An intangible asset has no physical existence and no life.

Answer: FALSE

Explanation: An intangible asset has no physical existence and has a long life.

Difficulty: 1 Easy

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

22) The essence of reporting the gains on sales of investments separately on an income statement is that they are not part of the primary operations of the reporting company.

Answer: TRUE

Explanation: Gains and losses on sales of investments are reported as nonoperating (other) income because they do not pertain to the company’s primary operations.

Difficulty: 1 Easy

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

23) Net sales plus cost of goods sold is reported on the income statement as income from continuing operations.

Answer: FALSE

Explanation: Net sales less cost of goods sold is gross profit and is a component of operating income; income from continuing operations is an additional subtotal used when a company has discontinued operations.

Difficulty: 1 Easy

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

24) Gains and losses on sales of investments are reported on the income statement as a component of income from operations.

Answer: FALSE

Explanation: Gains and losses on sales of investments are reported in the income statement as nonoperating (other) income (expense), after income from operations.

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

25) The summary of significant accounting policies is typically included as one of the first notes to the financial statements.

Answer: TRUE

Explanation: One of the first disclosure notes is the summary of significant accounting policies.

Difficulty: 1 Easy

Topic: Financial statements – Disclosure notes

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

26) Preparers of the statement of cash flow must choose the direct or indirect method for each classification category on the statement.

Answer: FALSE

Explanation: The choice of direct or indirect method is only for the Cash Flow from Operating Activities section.

Difficulty: 1 Easy

Topic: Financial statements – Cash flows

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

27) The indirect method of reporting cash flow from operating activities on the statement of cash flow begins with net income and adjusts for cash items.

Answer: FALSE

Explanation: The indirect method begins with net income and adjusts for noncash items to arrive at cash flows from operating activities.

Difficulty: 1 Easy

Topic: Financial statements – Cash flows

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

28) The gross profit percentage is calculated by dividing net sales by gross profit.

Answer: FALSE

Explanation: The gross profit percentage is calculated by dividing gross profit by net sales.

Difficulty: 1 Easy

Topic: Ratios – Gross profit percentage

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

29) The gross profit percentage decreases when operating expenses increase.

Answer: FALSE

Explanation: The gross profit percentage is calculated by dividing gross profit by net sales. Operating expenses do not affect either gross profit or net sales.

Difficulty: 1 Easy

Topic: Ratios – Effects of transactions

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

30) The return on assets ratio is calculated by dividing operating income by average total assets.

Answer: FALSE

Explanation: The return on assets ratio is calculated by dividing net income by average total assets.

Difficulty: 1 Easy

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

31) The return on assets ratio may increase when sales increase.

Answer: TRUE

Explanation: The return on assets ratio calculation may increase when total asset turnover (net sales divided by average total assets) increases. This is not the only reason for an increase in the turnover, but it is one possibility.

Difficulty: 2 Medium

Topic: Ratios – Effects of transactions

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

32) The return on assets ratio is affected by both the net profit margin ratio and the total asset turnover ratio.

Answer: TRUE

Explanation: The return on assets ratio is calculated by multiplying the net profit margin ratio times the total asset turnover ratio, referred to as the DuPont analysis.

Difficulty: 1 Easy

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

33) Which of the following tasks is not performed by the Securities & Exchange Commission (SEC)?

A) Overseeing the work of the Financial Accounting Standards Board (FASB).
B) Overseeing the work of the Public Company Accounting Oversight Board (PCAOB).
C) Taking responsibility for protecting investors and maintaining the integrity of the securities markets.
D) The development of generally accepted accounting principles.

Answer: D

Explanation: The FASB develops generally accepted accounting principles.

Difficulty: 2 Medium

Topic: Accounting communication process – Regulators

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

34) Which of the following tasks does the Financial Accounting Standards Board (FASB) perform?

A) Overseeing the work of the Securities & Exchange Commission (SEC).
B) Overseeing the work of the Public Company Accounting Oversight Board (PCAOB).
C) The responsibility for protecting investors and maintaining the integrity of the securities markets.
D) The development of generally accepted accounting principles.

Answer: D

Explanation: The FASB develops generally accepted accounting principles.

Difficulty: 2 Medium

Topic: Accounting standard-setting – FASB

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

35) Which of the following are primarily responsible for the information provided in a company’s financial statements?

A) The internal and external auditors.
B) The Securities & Exchange Commission (SEC) and the external auditors.
C) The chief executive officer (CEO) and the chief financial officer (CFO).
D) The external auditors and the board of directors.

Answer: C

Explanation: The CEO and CFO are primarily responsible for the content of a company’s financial statements.

Difficulty: 2 Medium

Topic: Corporate governance

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

36) Which of the following is not a responsibility of the chief executive officer (CEO) and the chief financial officer (CFO)?

A) Overseeing the financial statement external audit.
B) Ensuring the accuracy and completeness of all reports provided to the Securities & Exchange Commission (SEC).
C) The certification of the strength of the internal control system.
D) The disclosure to the audit committee of any frauds they are aware of.

Answer: A

Explanation: The external auditors are hired by the board of directors and are responsible for overseeing their own audit.

Difficulty: 2 Medium

Topic: Corporate governance

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

37) Which of the following is not true about the audit committee of the board of directors?

A) They meet with the auditors to discuss management’s compliance with their financial reporting responsibilities.
B) They ensure the accuracy and completeness of all reports provided to the Securities & Exchange Commission (SEC).
C) They are responsible for ensuring that processes are in place for maintaining the integrity of the financial statement preparation and reporting.
D) They are responsible for hiring the company’s external auditors.

Answer: B

Explanation: The CEO and CFO ensure the accuracy and completeness of all reports provided to the Securities & Exchange Commission (SEC).

Difficulty: 2 Medium

Topic: Corporate governance

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

38) Which of the following statements is false?

A) The board of directors meets with the external auditors to discuss management’s compliance with their financial reporting obligations.
B) The external auditors are selected by the Securities & Exchange Commission (SEC).
C) The Securities & Exchange Commission (SEC) requires publicly traded companies to have their financial statements audited by an independent auditor.
D) The external auditors assume some responsibility with respect to the fairness of the financial statements.

Answer: B

Explanation: The external auditors are selected by the board of directors.

Difficulty: 2 Medium

Topic: Accounting communication process – People; Corporate governance

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

39) Which of the following is an objective of the external audit of a company’s financial statements?

A) To provide a forecast of the company’s future earnings.
B) To assure no fraud has been committed by the company’s management.
C) To provide credibility that the financial statements are fairly presented.
D) To detect all accounting errors made by the accounting system and employees.

Answer: C

Explanation: The external audit lends credibility to the financial statements and reduces the risk that the financial condition of the reporting entity is misrepresented.

Difficulty: 2 Medium

Topic: Corporate governance

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

40) Which of the following is not included as a primary part of the financial disclosure in Form 10-K?

A) Summarized financial data for a 5-year period.
B) Management’s opinion of the financial statements.
C) Business operations and strategy.
D) Four basic financial statements.

Answer: B

Explanation: Management’s Discussion and Analysis is an overview of the financial condition and results of operations but is not an opinion of the financial statements.

Difficulty: 3 Hard

Topic: Accounting communication process – SEC reporting

Bloom’s: Analyze

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

41) The Statement of Comprehensive Income includes items in which order?

A) Net income, Other items of net income, Comprehensive income.
B) Comprehensive income, Net income, Other items of Comprehensive income.
C) Net income, Other Fair value items, Comprehensive income.
D) Net income, Other comprehensive income items, Comprehensive income.

Answer: D

Explanation: The statement of comprehensive income reports Net income, Other comprehensive income items, and Comprehensive income.

Difficulty: 2 Medium

Topic: Financial statements – Comprehensive income

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

42) Which of the following would not be classified as a current asset?

A) Accounts receivable.
B) Goodwill.
C) Inventories.
D) Non-trade receivables.

Answer: B

Explanation: Goodwill is an intangible asset; it is not a current asset.

Difficulty: 1 Easy

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

43) Information disclosed in a balance sheet about shares of common stock includes the number of shares that are:

A) Authorized and Issued.
B) Issued and Outstanding.
C) Authorized, Issued, and Outstanding.
D) Authorized, Issued, Outstanding, and Not Outstanding.

Answer: C

Explanation: Information disclosed in the balance sheet about common stock is the number of shares that are authorized, issued, and outstanding.

Difficulty: 2 Medium

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

44) Stockholders’ equity, also called shareholders’ equity, includes which of the following two accounts?

A) Common stock and Deferred revenue.
B) Common stock and Retained earnings.
C) Liabilities and Retained earnings.
D) Retained earnings and Cash.

Answer: B

Explanation: Stockholders’ equity includes common stock and retained earnings.

Difficulty: 1 Easy

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

45) Components of other comprehensive income can be reported in combination with the:

A) Balance sheet.
B) Statement of cash flows.
C) Statement of stockholders’ equity.
D) Income statement.

Answer: D

Explanation: Other comprehensive income may be reported in a separate statement or may be combined with the income statement.

Difficulty: 1 Easy

Topic: Financial statements – Comprehensive income

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

46) Panmar Inc. is preparing a statement of stockholders’ equity for 2019. On January 1, 2019, Panmar started the year with a $200,000 credit balance in its retained earnings account. During 2019, the company earned net income of $140,000. Panmar declared dividends of $80,000 and paid $50,000 of those dividends. Also, the company received cash of $100,000 for additional shares of common stock issued and then paid $30,000 to repurchase shares of common stock. What is the balance in retained earnings on December 31, 2019?

A) $260,000.
B) $290,000.
C) $330,000.
D) $390,000.

Answer: A

Explanation: Retained earnings on December 31, 2019 = $260,000 = $200,000 + $140,000 −$80,000.

Difficulty: 3 Hard

Topic: Financial statements – Stockholders equity

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

47) Denmark Inc. is preparing a statement of stockholders’ equity for 2019. On January 1, 2019, Denmark started the year with a $100,000 credit balance in its retained earnings account. During 2019, the company earned net income of $70,000 and declared dividends of $10,000. Also, the company received cash of $15,000 as an additional investment by its owners. What is the balance in retained earnings on December 31, 2019?

A) $100,000.
B) $170,000.
C) $175,000.
D) $160,000.

Answer: D

Explanation: Retained earnings on December 31, 2019 = $160,000 = $100,000 + $70,000 −$10,000.

Difficulty: 2 Medium

Topic: Financial statements – Stockholders equity

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

48) Which of the following is true about gross profit (gross margin)?

A) It is net sales minus operating expenses.
B) It is net sales minus cost of goods sold.
C) It is the same as income from continuing operations.
D) It is net sales minus cost of goods sold and operating expenses.

Answer: B

Explanation: Gross profit equals net sales minus cost of goods sold.

Difficulty: 1 Easy

Topic: Ratios – Gross profit percentage

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

49) Which of the following best describes operating income?

A) It includes the results of discontinued operations.
B) It is before operating expenses.
C) It is sales minus cost of goods sold and income tax expense.
D) It is net sales minus cost of goods sold and operating expenses.

Answer: D

Explanation: Operating income (also called income from operations) equals net sales minus cost of goods sold and minus operating expenses.

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

50) The Callie Company has provided the following information:

Operating expenses were $231,000;

Cost of goods sold was $376,000;

Net sales were $940,000;

Interest expense was $32,000;

Gain on sale of a building was $76,000;

Income tax expense was $151,000.

What was Callie’s gross profit?

A) $564,000.
B) $188,000.
C) $333,000.
D) $232,000.

Answer: A

Explanation: Gross profit ($564,000) equals net sales ($940,000) minus cost of goods sold ($376,000).

Difficulty: 1 Easy

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

51) The Callie Company has provided the following information:

Operating expenses were $231,000;

Cost of goods sold was $376,000;

Net sales were $940,000;

Interest expense was $32,000;

Gain on sale of investments was $76,000;

Income tax expense was $151,000.

What was Callie’s income from operations (operating income)?

A) $188,000.
B) $333,000.
C) $156,000.
D) $232,000.

Answer: B

Explanation: Income from operations ($333,000) equals net sales ($940,000) minus cost of goods sold ($376,000) and minus operating expenses ($231,000).

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

52) The Callie Company has provided the following information:

Operating expenses were $231,000;

Cost of goods sold was $376,000;

Net sales were $940,000;

Interest expense was $32,000;

Gain on sale of a building was $76,000;

Income tax expense was $151,000.

What was Callie’s income before taxes?

A) $564,000.
B) $188,000.
C) $377,000.
D) $232,000.

Answer: C

Explanation: Income before taxes ($377,000) equals net sales ($940,000) minus cost of goods sold ($376,000), minus operating expenses ($231,000), minus interest expense ($32,000), plus gain on sale ($76,000).

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

53) Kryton Corp. has provided the following information:

Gross profit was $620,000;

Cost of goods sold was $380,000;

Net income was $400,000.

What was Kryton’s gross profit percentage?

A) 40%
B) 61.3%
C) 62%
D) 155%

Answer: C

Explanation: Gross profit ($620,000) equals sales (X) minus cost of goods sold ($380,000).

Therefore, Sales = Gross profit ($620,000) plus Cost of goods sold ($380,000).

Sales = $1,000,000.

Gross profit percentage = Gross profit divided by Sales = $620,000 ÷ $1,000,000 = 62%.

Difficulty: 3 Hard

Topic: Ratios – Gross profit percentage

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

54) Brimmel Corp. has provided the following information:

Sales were $780,000;

Cost of goods sold was $429,000;

Net income was $195,000.

What was Brimmel’s gross profit percentage?

A) 55%
B) 45%
C) 62%
D) 222%

Answer: B

Explanation: Gross profit equals sales ($780,000) minus cost of goods sold ($429,000).

Therefore, Gross profit = $780,000 − $429,000 = $351,000.

Gross profit percentage = Gross profit divided by Sales = $351,000 ÷ $780,000 = 45%.

Difficulty: 2 Medium

Topic: Ratios – Gross profit percentage

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

55) Which of the following is not reported as an operating expense on the income statement?

A) Administrative expenses.
B) Research and development expense.
C) Interest expense.
D) Selling expenses.

Answer: C

Explanation: Interest expense is a deduction from income from operations (operating income).

Difficulty: 1 Easy

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

56) The Nellie Company has provided the following information:

Operating expenses were $115,000;

Gross profit was $629,000;

Cost of goods sold was $470,000;

Interest expense was $17,000;

Income tax expense was $199,000.

What was Nellie’s operating income?

A) $514,000.
B) $612,000.
C) $497,000.
D) $298,000.

Answer: A

Explanation: Operating income ($514,000) equals gross profit ($629,000) minus operating expenses ($115,000).

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

57) The Nellie Company has provided the following information:

Operating expenses were $115,000;

Gross profit was $629,000;

Cost of goods sold was $470,000;

Interest expense was $17,000;

Income tax expense was $199,000.

What was Nellie’s income before taxes?

A) $514,000.
B) $612,000.
C) $497,000.
D) $298,000.

Answer: C

Explanation: Income before taxes ($497,000) equals gross profit ($629,000) minus operating expenses ($115,000) and minus interest expense ($17,000).

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

58) The Willie Company has provided the following information:

Operating expenses were $345,000;

Income from operations was $415,000;

Net sales were $1,100,000;

Interest expense was $71,000;

Loss from sale of investments was $87,000;

Income tax expense was $58,000.

What was Willie’s gross profit?

A) $340,000.
B) $689,000.
C) $818,000.
D) $760,000.

Answer: D

Explanation: Working backward: Gross profit ($760,000) equals operating expenses ($345,000) plus income from operations ($415,000).

Difficulty: 3 Hard

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

59) The Willie Company has provided the following information:

Operating expenses were $345,000;

Income from operations was $415,000;

Net sales were $1,100,000;

Interest expense was $71,000;

Loss from sale of investments was $87,000;

Income tax expense was $58,000.

What was Willie’s income before taxes?

A) $344,000.
B) $199,000.
C) $257,000.
D) $286,000.

Answer: C

Explanation: Income before taxes ($257,000) equals income from operations ($415,000) minus interest expense ($71,000) minus loss from sale of investments ($87,000).

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

60) The Willie Company has provided the following information:

Operating expenses were $345,000;

Income from operations was $415,000;

Net sales were $1,100,000;

Interest expense was $71,000;

Loss from sale of investments was $87,000;

Income tax expense was $58,000.

What was Willie’s nonoperating income (expense)?

A) ($71,000).
B) ($158,000).
C) $216,000.
D) $257,000.

Answer: B

Explanation: Nonoperating income (expense) ($158,000) is the total of interest expense ($71,000) and loss from the sale of investments ($87,000).

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

61) The Willie Company has provided the following information:

Operating expenses were $345,000;

Income from operations was $415,000;

Net sales were $1,100,000;

Interest expense was $71,000;

Loss from sale of investments was $87,000;

Income tax expense was $58,000.

What was Willie’s net income?

A) $373,000.
B) $328,000.
C) $199,000.
D) ($156,000).

Answer: C

Explanation: Net income ($199,000) equals income from operations ($415,000) minus interest expense ($71,000) minus loss from the sale of investments ($87,000) minus income tax ($58,000).

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

62) Which of the following would not be used to calculate income from operations?

A) Gross profit.
B) Selling and administrative expenses.
C) Interest income.
D) Research and development expense.

Answer: C

Explanation: Interest income is reported as nonoperating revenue.

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

63) Which of the following statements regarding earnings per share is false?

A) It is reported on the income statement.
B) It increases when net income increases.
C) It is calculated using the average number of common shares outstanding during the period.
D) It would not be affected by additional shares of common stock issued during the year.

Answer: D

Explanation: Additional shares of common stock issued would change the number of shares outstanding and would change the average number of shares of common stock outstanding during the period.

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

64) Which of the following would not typically be disclosed in the notes to the financial statements?

A) Additional detail regarding numbers reported in the financial statements.
B) A summary of significant accounting policies.
C) Commitments under long-term supply agreements.
D) The net income earned for the reporting period.

Answer: D

Explanation: The net income earned for the reporting period is included directly in the financial statements.

Difficulty: 2 Medium

Topic: Financial statements – Disclosure notes

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

65) Examples of nonoperating items that would appear on an income statement are:

A) Interest income, depreciation expense, gain on sale of land.
B) Cost of sales, interest expense, loss on sale of investments.
C) Interest expense, interest income, loss on sale of investments.
D) Depreciation expense, interest income, interest expense.

Answer: C

Explanation: Nonoperating items are revenues, expenses, gains, and losses that do not relate to the company’s primary operations. Examples include interest expense, interest income, and gains and losses on the sale of investments.

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

66) In which of the following classifications would cash dividend payments to stockholders be reported in the statement of cash flows?

A) Operating activities.
B) Financing activities.
C) Investing activities.
D) Stockholder activities.

Answer: B

Explanation: Financing activities include dividend payments to stockholders.

Difficulty: 1 Easy

Topic: Financial statements – Cash flows

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

67) Which of the following items is not part of disclosure notes to the financial statements?

A) Descriptions of the significant accounting methods applied in the company’s financial statements.
B) Additional detail of income taxes payable reported in the balance sheet.
C) Names of executive officers and the salaries for each officer listed.
D) Commitments under long-term supply agreements to buy inventory and equipment.

Answer: C

Explanation: Notes to the financial statements include a summary of significant accounting policies, additional detail supporting reported numbers, and relevant financial information not disclosed in the financial statements. Names of executive officers and their salaries are not included in these topics. Executive officers and their compensation are included in the Form 10-K but not in the financial statement section of the 10-K.

Difficulty: 2 Medium

Topic: Financial statements – Disclosure notes

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

68) Anjou Company had 10,000 shares of common stock outstanding at December 31, 2018 and 14,000 shares of common stock outstanding at December 31, 2019. Anjou had sales of $3,600,000 in 2019 and net income of $280,000 in 2019. What is the earnings per share amount reported for Anjou in 2019?

A) $7.78
B) $9.36
C) $20.00
D) $23.33

Answer: D

Explanation: The earnings per share ($23.33) is net income ($280,000) divided by average number of shares of common stock outstanding during the year ([10,000 + 14,000] ÷ 2 = 12,000).

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

69) What additional information is required to be presented on the same page as the income statement?

A) Cash paid for interest.
B) Deferred revenues.
C) Earnings per share.
D) Profit margin.

Answer: C

Explanation: Earnings per share is required to be presented on the income statement.

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

70) When shares of the reporting company’s common stock are issued in exchange for cash, where is this reported on a statement of cash flows?

A) Operating activities.
B) Financing activities.
C) Investing activities.
D) Stockholder activities.

Answer: B

Explanation: Financing cash flows include the issuance of common stock in exchange for cash.

Difficulty: 1 Easy

Topic: Financial statements – Cash flows

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

71) In what order are cash flow activities presented on the statement of cash flows?

A) Investing activities, Operating activities, Financing activities.
B) Financing activities, Operating activities, Investing activities.
C) Operating activities, Investing activities, Financing activities.
D) Operating activities, Financing activities, Investing activities.

Answer: C

Explanation: The cash flow activities are presented in the order of operating, investing, and financing activities.

Difficulty: 1 Easy

Topic: Financial statements – Cash flows

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

72) A company has paid cash to repurchase its common stock that was previously issued. Where will this cash flow be reported on the statement of cash flows?

A) Operating activities.
B) Financing activities.
C) Investing activities.
D) Stockholder activities.

Answer: B

Explanation: Financing cash flows include the repurchase of previously issued stock.

Difficulty: 1 Easy

Topic: Financial statements – Cash flows

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

73) Which of the following statements is false when a company sells inventory costing $700 for $1,200 cash and operating expenses are $200?

A) Cost of goods sold is $700.
B) Gross profit is $500.
C) Stockholders’ equity increases by net income of $300.
D) Net sales increase $500.

Answer: D

Explanation: Net sales increase $1,200. Net sales ($1,200) minus cost of goods sold ($700) equals gross profit ($500) and minus operating expenses ($200) increases stockholders’ equity by $300.

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

74) Which of the following statements is false when a company sells inventory costing $900 for $1,500 cash?

A) Current assets increase $600.
B) Gross profit increases $1,500.
C) Stockholders’ equity increases $600.
D) Net sales increases $1,500.

Answer: B

Explanation: Gross profit ($600) is the difference between net sales ($1,500) and cost of goods sold ($900). Gross profit increases stockholders’ equity. Current assets increase ($600) as cash increases ($1,500) and inventory decreases ($900).

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

75) Which one of the following statements is true when a company sells inventory costing $800 for $1,400 cash, and operating expenses are $500?

A) There is no change in current assets.
B) Stockholders’ equity increases $100.
C) Gross profit increases $100.
D) Net sales increases $2,200.

Answer: B

Explanation: Stockholders’ equity increases by net income ($100). Net income is net sales ($1,400) minus cost of goods sold ($800) and minus operating expenses ($500).

Difficulty: 2 Medium

Topic: Financial statements – Stockholders equity

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

76) Huron has provided the following year-end balances:

Cash, $25,000

Patents, $7,900

Accounts receivable, $9,300

Property, plant, and equipment, $98,700

Prepaid insurance, $3,600

Accumulated depreciation, $10,000

Inventory, $37,000

Retained earnings, 15,500

Trademarks, $12,600

Accounts payable, $8,000

Goodwill, $11,000

How much are Huron’s current assets?

A) $85,900.
B) $71,300.
C) $74,900.
D) $102,100.

Answer: C

Explanation: Huron’s current assets ($74,900) include cash ($25,000), accounts receivable ($9,300), prepaid insurance ($3,600), and inventory ($37,000).

Difficulty: 2 Medium

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

77) Huron has provided the following year-end balances:

Cash, $25,000

Patents, $7,900

Accounts receivable, $9,300

Property, plant, and equipment, $98,700

Prepaid insurance, $3,600

Accumulated depreciation, $10,000

Inventory, $37,000

Retained earnings, 15,500

Trademarks, $12,600

Accounts payable, $8,000

Goodwill, $11,000

How much are Huron’s net noncurrent assets?

A) $122,300.
B) $120,200.
C) $123,800.
D) $112,300.

Answer: B

Explanation: Huron’s net noncurrent assets ($120,200) include patents ($7,900), property, plant, and equipment ($98,700), accumulated depreciation (−$10,000), trademarks ($12,600), and goodwill ($11,000).

Difficulty: 2 Medium

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

78) Huron has provided the following year-end balances:

Cash, $25,000

Patents, $7,900

Accounts receivable, $9,300

Property, plant, and equipment, $98,700

Prepaid insurance, $3,600

Accumulated depreciation, $10,000

Inventory, $37,000

Retained earnings, $15,500

Trademarks, $12,600

Accounts payable, $8,000

Goodwill, $11,000

How much is Huron’s stockholders’ equity?

A) $33,800.
B) $187,100.
C) $195,100.
D) $202,600.

Answer: B

Explanation: Total stockholders’ equity ($187,100) equals total assets ($195,100) minus total liabilities ($8,000). Total assets equal cash ($25,000), accounts receivable ($9,300), prepaid insurance ($3,600), inventory ($37,000), patents ($7,900), property, plant, and equipment ($98,700), accumulated depreciation (−$10,000), trademarks ($12,600), and goodwill ($11,000). Total liabilities equal accounts payable ($8,000).

Difficulty: 3 Hard

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

79) Which of the following would not be included on an income statement?

A) Accumulated depreciation.
B) Insurance expense.
C) Cost of goods sold.
D) Discontinued operations.

Answer: A

Explanation: Accumulated depreciation is a balance sheet account.

Difficulty: 1 Easy

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

80) Which of the following is true?

A) Income from operations would increase other income.
B) Income before income taxes would be shown as a component of operating income on the income statement.
C) Gains and losses on the sales of investments are included in nonoperating income (loss).
D) Income tax expense is shown as part of operating expenses.

Answer: C

Explanation: Gains and losses on the sales of investments are included in nonoperating income (loss) as they are not part of the company’s primary operations.

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

81) Farrell Company has rent expense, wages expense, and utilities expense. Where will the company present these expenses on the income statement?

A) As a component of net sales.
B) As a component of gross profit.
C) After income from operations.
D) Prior to income from operations.

Answer: D

Explanation: Rent expense, wages expense, and utilities expense are operating expenses and are presented before the subtotal of operating income (income from operations).

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

82) Which of the following statements regarding international financial reporting standards (IFRS) is false?

A) Common stock is titled as share capital.
B) Property, plant, and equipment can be reported on the balance sheet at either fair value or historical cost.
C) The last-in first-out (LIFO) inventory method is permitted.
D) Development costs are capitalized.

Answer: C

Explanation: The last-in first-out inventory (LIFO) method is prohibited under IFRS.

Difficulty: 2 Medium

Topic: IFRS – International reporting

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Diversity

Accessibility: Keyboard Navigation

83) Which of the following statements does not accurately describe the effect of the sale of inventory at a profit on the financial statements?

A) Income from operations and current assets both increase.
B) Operating income and gross profit both increase.
C) Net income and earnings per share both increase.
D) Current assets do not change and stockholders’ equity increases.

Answer: D

Explanation: Current assets increase because the increase in either cash or accounts receivable is greater than the decrease in inventory.

Difficulty: 2 Medium

Topic: Financial statements – Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

84) Which of the following statements regarding international financial reporting standards (IFRS) is false?

A) Research and development costs are expensed.
B) Paid-in capital is titled share premium.
C) Cash payments for interest are reported on the cash flow statement as either an operating or financing cash flow.
D) Reversal of inventory write-downs is required.

Answer: A

Explanation: Development costs are capitalized under IFRS.

Difficulty: 2 Medium

Topic: IFRS – International reporting

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Understand

AACSB: Diversity

Accessibility: Keyboard Navigation

85) Which of the following would not be included within the operating activities section of a cash flow statement?

A) Cash received from customers.
B) Cash paid for insurance.
C) Cash paid for interest expense.
D) Cash paid to acquire a patent.

Answer: D

Explanation: The cash paid to acquire a patent would be an investing activities cash flow.

Difficulty: 2 Medium

Topic: Financial statements – Cash flows

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

86) Which of the following would be reported in the supplemental cash flows disclosure section of the statement of cash flows?

A) Sales on account which have not yet been collected.
B) Net income.
C) Cash paid for income taxes.
D) Depreciation expense.

Answer: C

Explanation: Cash paid for income taxes is reported in the supplemental cash flows disclosure section of the statement of cash flows.

Difficulty: 3 Hard

Topic: Financial statements – Cash flows

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

87) Which of the following statements is correct?

A) Accumulated depreciation is the amount of depreciation on the income statement.
B) Current liabilities are debts expected to be paid within one year.
C) Current assets are resources of a company that might include cash and copyrights.
D) Patents, goodwill, and deferred revenues are classified as intangible assets on the balance sheet.

Answer: B

Explanation: Current liabilities are debts expected to be paid within one year from the date of the balance sheet and are expected to consume current assets.

Difficulty: 1 Easy

Topic: Financial statements – Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

88) Which of the following statements is false?

A) Gross profit percentage is calculated as gross profit divided by net sales.
B) Gross profit percentage should only be viewed for each reporting company and is not useful in comparing different companies in the same industry.
C) Gross profit is calculated as net sales less cost of sales.
D) A higher gross profit might be strategic in order to afford high research and development costs.

Answer: B

Explanation: Gross profit percentage is helpful to managers, analysts, and creditors for assessing a company by itself as well as for comparing companies in the same industry.

Difficulty: 2 Medium

Topic: Ratios – Gross profit percentage

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

89) On January 1, 2019, Gucci Brothers Inc. had a $500,000 credit balance in retained earnings and $600,000 balance in common stock. During 2019, the company earned net income of $100,000, declared a dividend of $15,000, and issued additional stock for $25,000. What is total stockholders’ equity on December 31, 2019?

A) $1,100,000.
B) $1,210,000.
C) $1,225,000.
D) $1,240,000.

Answer: B

Explanation: Stockholders’ equity on December 31, 2019 = $1,210,000 = $500,000 + $600,000 + $100,000 − $15,000 + $25,000.

Difficulty: 2 Medium

Topic: Financial statements – Stockholders equity

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

90) Which of the following transactions results in a decrease in the return on assets ratio?

A) Increasing the sales price of the products sold.
B) An increase in the net profit margin ratio.
C) Purchasing land by signing a long-term note payable.
D) Collecting cash from an account receivable.

Answer: C

Explanation: Return on assets is net income divided by average total assets. Total assets increase by land purchased and the return on assets ratio therefore decreases.

Difficulty: 3 Hard

Topic: Ratios – Effects of transactions

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

91) Which of the following results in an increase in the return on assets ratio?

A) A decrease in the total asset turnover ratio.
B) An increase in the net profit margin ratio.
C) Purchasing a building by signing a long-term mortgage payable.
D) Using cash to purchase land.

Answer: B

Explanation: Return on assets is net income divided by average total assets or net profit margin ratio times total asset turnover ratio. An increase in the net profit margin ratio therefore increases return on assets.

Difficulty: 2 Medium

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

92) Marino Company has provided the following information:

Net sales, $480,000

Net income, $24,000

Average total assets, $200,000

What is Marino’s net profit margin?

A) 75%
B) 12%
C) 42%
D) 5%

Answer: D

Explanation: The net profit margin ratio (5%) is net income ($24,000) divided by net sales ($480,000).

Difficulty: 2 Medium

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

93) Marino Company has provided the following information:

Net sales, $480,000

Net income, $24,000

Average total assets, $200,000

What is Marino’s total asset turnover?

A) 12.0
B) 8.33
C) 0.42
D) 2.4

Answer: D

Explanation: The total asset turnover ratio (2.4) is net sales ($480,000) divided by average total assets ($200,000).

Difficulty: 2 Medium

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

94) Marino Company has provided the following information:

Net sales, $480,000

Net income, $24,000

Average total assets, $200,000

What is Marino’s return on assets?

A) 240%
B) 12%
C) 5%
D) 42%

Answer: B

Explanation: Return on assets (12%) equals net income ($24,000) divided by average total assets ($200,000). Return on assets (12%) can also be calculated by multiplying the net profit margin ratio (5%) times the total asset turnover ratio (2.4).

Difficulty: 2 Medium

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

95) Harley Company has provided the following selected financial information.

	2018		2019
Total assets	$	3,200,000	$	3,600,000
Net sales	$	7,200,000	$	9,000,000
Net income	$	640,000	$	450,000

What is Harley’s 2019 total asset turnover (rounded)?

A) 2.38
B) 2.25
C) 0.132
D) 2.65

Answer: D

Explanation: The total asset turnover ratio (2.65) is net sales for 2019 ($9,000,000) divided by average total assets ([$3,200,000 + $3,600,000] ÷ 2 = $3,400,000).

Difficulty: 2 Medium

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

96) Harley Company has provided the following selected financial information.

	2018		2019
Total assets	$	3,200,000	$	3,600,000
Net sales	$	7,200,000	$	9,000,000
Net income	$	640,000	$	450,000

What is Harley’s 2019 net profit margin (rounded)?

A) 5.0%
B) 6.1%
C) 6.7%
D) 13.2%

Answer: A

Explanation: The net profit margin ratio (5%) is net income ($450,000) divided by net sales ($9,000,000).

Difficulty: 1 Easy

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Remember

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

97) Harley Company has provided the following selected financial information.

	2018		2019
Total assets	$	3,200,000	$	3,600,000
Net sales	$	7,200,000	$	9,000,000
Net income	$	640,000	$	450,000

What is Harley’s 2019 return on assets (rounded)?

A) 12.5%
B) 13.2%
C) 16.0%
D) 25.0%

Answer: B

Explanation: Return on assets (13.2%) equals net income ($450,000) divided by average total assets ([$3,200,000 + $3,600,000] ÷ 2 = $3,400,000). Return on assets (13.2%) can also be calculated by multiplying the net profit margin ratio (5%) times the total asset turnover ratio (2.65).

Difficulty: 2 Medium

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

98) Which of the following transactions will decrease both the return on assets ratio and the total asset turnover ratio?

A) Purchasing land by signing a note payable.
B) Accruing interest expense at year-end.
C) Accruing interest revenue at year-end.
D) Collecting cash from an account receivable.

Answer: A

Explanation: The denominator in both ratios is average total assets. Purchasing land increases average total assets and therefore decreases both ratios.

Difficulty: 3 Hard

Topic: Ratios – Effects of transactions

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

99) Which of the following does not increase the net profit margin ratio?

A) Increasing sales volume.
B) Increasing sales price.
C) Reducing inventory kept on hand.
D) Decreasing operating expenses.

Answer: C

Explanation: The net profit margin ratio is increased by increasing the sales volume and/or the sales price, or by decreasing the cost of goods sold and/or operating expenses.

Difficulty: 2 Medium

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Understand

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

100) Which of the following statements is true?

A) A decrease in net income decreases both the net profit margin ratio and the total asset turnover ratio.
B) An increase in average total assets results in a decrease in both the total asset turnover ratio and the net profit margin ratio.
C) A decrease in average total assets results in an increase in the total asset turnover ratio and a decrease in the net profit margin ratio.
D) An increase in net income increases both the net profit margin ratio and the return on assets ratio.

Answer: D

Explanation: The numerator for both ratios is net income. Therefore, an increase in net income results in an increase in both ratios.

Difficulty: 2 Medium

Topic: Ratios – Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Understand

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

101) Which of the following would most likely increase the net profit margin ratio?

A) An increase in the unit selling price.
B) A decrease in the overall sales volume.
C) An increase in operating expenses.
D) An increase in cost of goods sold.

Answer: A

Explanation: The net profit margin ratio is increased by increasing the sales volume and/or the sales price, or by decreasing the cost of goods sold and/or operating expenses.

Difficulty: 2 Medium

Topic: Ratios – Effects of transactions

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Understand

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

102) Which of the following statements is correct?

A) Income from operations increases when common stock is sold for more than par value.
B) The accrual of research and development costs does not affect the net profit margin ratio.
C) The payment of an accrued liability decreases total asset turnover.
D) The declaration and payment of a cash dividend increases the return on assets ratio.

Answer: D

Explanation: The cash payment decreases average total assets, which increases the total asset turnover ratio.

Difficulty: 3 Hard

Topic: Ratios – Effects of transactions

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

103) Which of the following statements correctly describes the effect of accruing interest revenue at year-end?

A) Income from operations increases.
B) The net profit margin ratio does not change.
C) The total asset turnover ratio increases.
D) The return on assets ratio is affected.

Answer: D

Explanation: The accrual of interest revenue increases both total assets and net income, which are the two components of return on assets.

Difficulty: 3 Hard

Topic: Ratios – Effects of transactions

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

104) The balance sheet for Glenwood Corporation at December 31, 2019 showed the following subtotals:

Current assets	$140,000
Current liabilities	80,000
Buildings and equipment	420,000
Total stockholders’ equity	420,000
Retained earnings	120,000
Total liabilities	210,000
Other long-term assets	70,000

Required:

Based on the above data, calculate the following amounts:

A.	Total assets	_______
B.	Long-term liabilities	_______
C.	Common stock and Additional paid-in capital	_______
D.	Total liabilities and stockholders’ equity	_______

Answer:

$140,000 + $420,000 + $70,000 = $630,000.
$210,000 – $80,000 = $130,000.
$420,000 – $120,000 = $300,000.
$210,000 + $420,000 = $630,000.

Difficulty: 3 Hard

Topic: Financial statements-Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

105) Ridgetop Corporation reported the following amounts on its balance sheet at December 31, 2019:

Total current assets	$1,800,000
Total long-term assets	900,000
Total current liabilities	1,300,000
Total long-term liabilities	500,000
Total stockholders’ equity	900,000
Net income	100,000

On January 1, 2019, total assets were $2,000,000, total liabilities were $1,200,000 and total stockholders’ equity was $800,000.

Calculate Ridgetop’s return on assets.

Answer: $100,000 ÷ ($2,000,000 + $2,700,000*/2) = 4.26%.

*($1,800,000 + $900,000)

Difficulty: 2 Medium

Topic: Ratios-Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

106) Complete the following balance sheet by entering the appropriate amounts in the blanks provided.

ASSETS
Cash				$15,000
Accounts receivable			(A.)	_______
Building		$60,000
Accumulated depreciation	(B.)	_______		35,000
Total Assets			(C.)	_______
LIABILITIES
Accounts Payable		$11,000
Notes payable, short-term		12,000
Income taxes payable Total current liabilities	(D)	_______		$25,000
Mortgage payable				25,000
Total Liabilities				50,000
STOCKHOLDERS’ EQUITY
Common stock		$25,000
Retained earnings		15,000
Total Stockholders’ Equity			(E.)	______
Total Liabilities and Stockholders’ Equity			(F.)	______

Answer:

$40,000. ($90,000 Total Assets (F) – $35,000 Book Value of Building – $15,000 Cash)
$25,000. ($60,000 Building – $35,000 Book Value)
$90,000. (Must equal to F.)
$2,000. ($25,000 Current liabilities – $11,000 Accounts Payable – $12,000 Notes payable)
$40,000. ($25,000 Common stock + $15,000 Retained earnings)
$90,000. ($50,000 Total Liabilities + $40,000 Total Stockholders’ Equity)

Difficulty: 2 Medium

Topic: Financial statements-Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

107) FocusMore, Inc., had the following list of accounts taken from its adjusted trial balance at December 31, 2019:

Accounts Payable	$15,000
Accounts Receivable	18,000
Accumulated Depreciation-Building	26,200
Advertising Expense	12,800
Building	100,000
Common Stock	60,000
Cash	15,000
Cost of Goods Sold	56,500
Depreciation Expense	2,000
Utilities Expense	3,800
Utilities Payable	1,900
Inventory	25,000
Land	30,000
Prepaid Insurance	4,600
Interest Revenue	2,500
Retained Earnings (Jan. 1, 2019)	58,000
Wages Expense	48,000
Wages Payable	4,600
Sales	150,000
Supplies Inventory	1,200
Supplies Expense	2,000
Deferred Rent Revenue	700

Required:

Prepare a multiple step income statement for the year ended December 31, 2019. (Include gross profit, but ignore income taxes.)

Answer: FocusMore, Inc.

Income Statement

For the Year Ended December 31, 2019

Sales		$150,000
Cost of Goods Sold		56,500
Gross Profit		93,500
Operating Expenses
Advertising	$12,800
Depreciation	2,000
Utilities	3,800
Supplies	2,000
Wages	48,000
Total Operating Expenses		68,600
Income from Operations		24,900
Other Revenue and Expenses
Interest Revenue		2,500
Net Income		$27,400

Difficulty: 2 Medium

Topic: Financial statements-Income statement

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

108) The following data were taken from the adjusted trial balance of Kent Corporation.

Kent Corporation

Adjusted Trial Balance Data

December 31, 2019

Accounts Payable	$12,000
Accounts Receivable	13,000
Accumulated Depreciation-Building	6,000
Accumulated Depreciation-Equipment	9,000
Building	60,000
Common Stock	40,000
Cash	24,000
Copyrights	22,000
Dividends Declared	12,000
Equipment	15,000
Land	25,000
Note Payable (10%, due in 5 years)	40,000
Office Supplies	1,000
Prepaid Insurance	3,000
Retained Earnings (January 1, 2019)	23,000
Wages Payable	2,000
Service Revenue	85,000
Wages Expense	28,000
Utilities Expense	2,000
Depreciation Expense	5,000
Insurance Expense	2,000
Office Supplies Expense	1,000
Interest Expense	4,000

Prepare a classified balance sheet in good form at December 31, 2019. (Ignore income taxes).

Answer:

Kent Corporation Balance Sheet December 31, 2019
Assets
Current Assets:
Cash			$24,000
Accounts Receivable			13,000
Office Supplies			1,000
Prepaid Insurance			3,000
Total Current Assets			41,000
Property, Plant, and Equipment:
Land		$25,000
Building	$60,000
Less Accumulated Depreciation:
Building	6,000	54,000
Equipment	15,000
Less Accumulated Depreciation:
Equipment	9,000	6,000
Total Property, Plant, and Equipment			85,000
Intangibles:
Copyrights			22,000
Total Assets			$148,000
Liabilities and Stockholders’ Equity
Current Liabilities:
Accounts Payable	$12,000
Wages Payable	2,000
Total Current Liabilities		$14,000
Long-term Liabilities:
Note Payable (10%, 5 year)		40,000
Total Liabilities			$54,000
Stockholders’ Equity:
Common Stock		40,000
Retained Earnings*		54,000
Total Stockholders’ Equity			94,000
Total Liabilities and Stockholders’ Equity			$148,000

*$23,000 (January 1 retained earnings) + $43,000 (net income) – $12,000 (dividends declared)

$43,000 net income = $85,000 – $28,000 – $2,000 – $5,000 – $2,000 – $1,000 – $4,000

Difficulty: 2 Medium

Topic: Financial statements-Balance sheet

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

109) Anthony Inc. reported the following amounts on its 2018 and 2019 income statements:

	2019	2018
Net Sales	$20,438	$20,367
Cost of sales	7,943	8,198

Compute the gross profit percentage for years 2018 and 2019.
Provide at least two potential causes for the change in Anthony’s gross profit percentage.

Answer:

2019 = 61.1% = ($12,495 ÷ $20,438).

2018 = 59.7% = ($12,169 ÷ $20,367).

Since there has been an increase in the gross profit percentage for 2019 as compared with 2018, Anthony Inc. may have higher sales prices, lower costs of producing their product, or is experiencing a change in the sales mix of their products toward selling more of the higher margin products.

Difficulty: 2 Medium

Topic: Ratios-Gross profit percentage

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Apply

AACSB: Analytical Thinking; Communication; Knowledge Application

Accessibility: Keyboard Navigation

110) Twin Lakes, Inc. reported the following December 31 amounts in its financial statements:

	2019	2018
Sales revenue	$250.0	$210.0
Gross profit	75.0	68.0
Net income	28.0	21.0
Total assets	90.0	80.0
Total stockholders’ equity	40.0	36.0

Compute the following for the 2019 ratios:

Gross profit percentage
Net profit margin
Total asset turnover
Return on assets

Answer:

($75.0 ÷ $250.0) = .30 or 30.0%
($28.0 ÷ $250.0) = .112 or 11.2%
($250.0 ÷ $85.0*) = 2.94
($28.0 ÷ $85.0) = .329 or 32.9%

Or, .329 = B (.112) * C (2.94)

*[($90.0 + $80.0) ÷ 2]

Difficulty: 2 Medium

Topic: Ratios-Gross profit percentage; Ratios-Return on assets and components

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.; 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

111) The following information was taken from the income statement and balance sheet of The Mickey Company for the years 2018 and 2019:

	2019	2018
Sales revenues	$30,752	$27,061
Net income	2,345	1,267
Total assets	53,902	49,988
Total stockholders’ equity	26,081	23,791

Compute the following ratios for 2019:

Net profit margin
Total asset turnover
Return on assets

Answer: A. Net profit margin ($2,345 ÷ $30,752) = .076 or 7.6%

Total asset turnover ($30,752 ÷ $51,945*) = .59
Return on assets ($2,345 ÷ $51,945*) = .045 or 4.5%

*[($49,988 + $53,902) ÷ 2]

Or, Return on assets (.045) = Net profit margin (.076) * Total asset turnover (.59)

Difficulty: 2 Medium

Topic: Ratios-Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

112) Determine the effect of the following transactions on the identified financial statement components and ratios. Code your answers as follows:

A: If the transaction results in an increase in the financial statement component or ratio.

B: If the transaction results in a decrease in the financial statement component or ratio.

C: If the transaction does not affect the financial statement component or ratio.

Transaction 1: A company issued common stock at a price in excess of par value.

Revenues _____

Assets _____

Stockholders’ equity _____

Return on assets ratio _____

Transaction 2: A company recorded depreciation expense at year-end.

Net income _____

Assets _____

Stockholders’ equity _____

Total asset turnover ratio _____

Answer: Transaction 1: A company issued common stock at a price in excess of par value.

Revenues C

Assets A

Stockholders’ equity A

Return on assets ratio B

Transaction 2: A company recorded depreciation expense at year-end.

Net income B

Assets B

Stockholders’ equity B

Total asset turnover ratio A

Difficulty: 3 Hard

Topic: Ratios-Effects of transactions

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

113) Determine the effect of the following transactions on the identified financial statement components and ratios. Code your answers as follows:

A: If the transaction results in an increase in the financial statement component or ratio.

B: If the transaction results in a decrease in the financial statement component or ratio.

C: If the transaction does not affect the financial statement component or ratio.

Transaction 1: A company accrued interest expense at year-end.

Net income _____

Assets _____

Stockholders’ equity _____

Total asset turnover ratio _____

Transaction 2: A company declared and paid cash dividends to stockholders.

Net income _____

Assets _____

Stockholders’ equity _____

Return on assets ratio _____

Answer: Transaction 1: A company accrued interest expense at year-end.

Net income B

Assets C

Stockholders’ equity B

Total asset turnover ratio C

Transaction 2: A company declared and paid cash dividends to stockholders.

Net income C

Assets B

Stockholders’ equity B

Return on assets ratio A

Difficulty: 3 Hard

Topic: Ratios-Effects of transactions

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

114) Determine the effect of the following transactions on the identified financial statement components and ratios. Code your answers as follows:

A: If the transaction results in an increase in the financial statement component or ratio.

B: If the transaction results in a decrease in the financial statement component or ratio.

C: If the transaction does not affect the financial statement component or ratio.

Transaction 1: A company paid for research and development costs incurred to develop a patent.

Net income _____

Property, plant, and equipment _____

Stockholders’ equity _____

Net profit margin ratio _____

Transaction 2: Inventory was purchased on account.

Net income _____

Current assets _____

Current liabilities _____

Return on assets ratio _____

Answer: Transaction 1: A company paid for research and development costs incurred to develop a patent.

Net income B

Property, plant, and equipment C

Stockholders’ equity B

Net profit margin ratio B

Transaction 2: Inventory was purchased on account.

Net income C

Current assets A

Current liabilities A

Return on assets ratio B

Difficulty: 3 Hard

Topic: Ratios-Effects of transactions

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

115) Determine the effect of the following transactions on the identified financial statement components and ratios. Code your answers as follows:

A: If the transaction results in an increase in the financial statement component or ratio.

B: If the transaction results in a decrease in the financial statement component or ratio.

C: If the transaction does not affect the financial statement component or ratio.

Transaction 1: A company acquired land by signing a long-term note payable.

Property, plant, and equipment _____

Total asset turnover ratio _____

Net profit margin ratio _____

Return on assets ratio _____

Transaction 2: Cash was used to pay a current liability.

Net income _____

Total asset turnover ratio _____

Net profit margin ratio _____

Return on assets ratio _____

Answer: Transaction 1: A company acquired land by signing a long-term note payable.

Property, plant, and equipment A

Total asset turnover ratio B

Net profit margin ratio C

Return on assets ratio B

Transaction 2: Cash was used to pay a current liability.

Net income C

Total asset turnover ratio A

Net profit margin ratio C

Return on assets ratio A

Difficulty: 3 Hard

Topic: Ratios-Effects of transactions

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

116) Determine the effect of the following transactions on the financial statements components identified. Code your answers as follows:

A: If the transaction results in an increase in the financial statement component or ratio.

B: If the transaction results in a decrease in the financial statement component or ratio.

C: If the transaction does not affect the financial statement component or ratio.

Transaction 1: A company sold inventory for an amount greater than its cost.

Gross profit _____

Current assets _____

Stockholders’ equity _____

Transaction 2: Advertising expense was recorded but has yet to be paid for.

Net income _____

Gross Profit _____

Stockholders’ equity _____

Answer: Transaction 1: A company sold inventory for an amount greater than its cost.

Gross profit A

Current assets A

Stockholders’ equity A

Transaction 2: Advertising expense was recorded but has yet to be paid for.

Net income B

Gross Profit C

Stockholders’ equity B

Difficulty: 2 Medium

Topic: Financial statements-Balance sheet; Financial statements-Income statement; Financial statements-Stockholders equity

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

117) For the year ending December 31, 2019, the accounts of Jackson Corporation showed the following balances:

Common stock, January 1, 2019	$500,000
Retained earnings, beginning balance, January 1, 2019	$100,000
Total revenues earned during 2019	$150,000
Total expenses incurred during 2019	$90,000
Total dividends declared during 2019	$10,000
Issuance of stock during 2019	$50,000

Determine the components of stockholders’ equity as of December 31, 2019.

Answer: Common stock: $550,000 = $500,000 + $50,000.

Retained earnings: $150,000 = $100,000 + $150,000 – $90,000 – $10,000.

Difficulty: 1 Easy

Topic: Financial statements-Stockholders equity

Learning Objective: 05-03 Recognize and apply the different financial statement and disclosure formats used by companies in practice and analyze the gross profit percentage.

Bloom’s: Remember

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

118) The following income statement was reported for Bauer Inc. for the first year of operations ending December 31, 2019 reported (in thousands of dollars):

Sales revenue		$24,500
Expenses:
Cost of Sales	$14,700
Wages	3,300
Rent	700
Utilities	500
Miscellaneous	200
Total Expenses		19,400
Income before taxes		5,100
Income tax expense		1,785
Net income		$3,315

Calculate gross profit percentage.
Calculate net profit margin.
Calculate earnings per share if there are 200,000 shares of common stock outstanding.

Answer: A. 40% (Sales $24,500,000) minus Cost of sales ($14,700,000) = Gross profit ($9,800,000). Gross profit ($9,800,000) divided by Sales $24,500,000) equals Gross profit percentage of 40%.

13.5% (net income $3,315,000 divided by sales revenue $24,500,000).
$16.58 per share (net income $3,315,000 divided by common shares outstanding 200,000).

Difficulty: 2 Medium

Topic: Financial statements-Income statement; Ratios-Gross profit percentage; Ratios-Return on assets and components

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

119) Describe the return on assets ratio and the DuPont approach for calculating return on assets.

Answer: The return on assets ratio is calculated by dividing net income by average total assets. The ratio measures the amount of income earned for every dollar invested in assets and is a measure of profitability and management effectiveness with respect to asset management. The DuPont formula states that the return on assets ratio has two component ratios, net profit margin and total asset turnover. The net profit margin ratio measures the net income generated per sales dollar and the total asset turnover ratio measures the net sales generated for average total assets. Return on assets equals net profit margin multiplied by total asset turnover. The DuPont formula implies that return on assets can be improved through both earnings and efficiency of asset use.

Difficulty: 2 Medium

Topic: Ratios-Return on assets and components

Learning Objective: 05-04 Analyze a company’s performance based on return on assets and its components and the effects of transactions on financial ratios.

Bloom’s: Remember

AACSB: Communication

Accessibility: Keyboard Navigation

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Financial Accounting Robert Libby 10e - Test Bank

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