Chapter 1;

Question 1

The three stages in necessary in almost any discipline from sailing to accounting

Answer 1

Theory, instrument, application

Question 2

Accounting is the production of what?

Answer 2

Information

Question 3

Different types of accounting information

Answer 3

Financial, managerial, tax, etc.

Question 4

What ties all the branches of accounting together?

Answer 4

Some people have information that others need

Question 5

Broad principles and conventions of general application as well as rules and procedures that determine accepted accounting practices

Answer 5

Generally Accepted Accounting Principles (GAAP)

Question 6

Evidence that can potentially affect and individuals decision

Answer 6

Information

Question 7

What creates the demand for financial reporting?

Answer 7

Decision-making needs

Question 8

A condition in which some people have more information than others

Answer 8

Information Asymmetry

Question 9

For information to be useful it must be what?

Answer 9

Verifiable

Question 10

Communication of information that is otherwise unverifiable, by means of an action that is costly to the seller

Answer 10

Costly Signal

Question 11

Communication of information that is otherwise unverifiable by means that are virtually costless

Answer 11

Cheap Talk

Question 12

A type of information asymmetry whereby one party to a contract has an information advantage over another party. Hidden information from past and present

Answer 12

Adverse Selection

Question 13

A type of information asymmetry whereby one party to a contract cannot observe some actions relating to the fulfillment of the contractural terms by the other party. Essentially hidden future actions

Answer 13

Moral Hazard

Question 14

A separation of ownership and management such that the owners are not able to monitor management personnel to ensure that management makes decisions in the best interests of the owners

Answer 14

Agency Problem

Question 15

Adverse selection leads the company to provide as much credible information as possible so that the company obtains the highest price for its what?

Answer 15

Shares

Question 16

In the case of moral hazard investors need to ensure management is properly using the company’s assets and therefore need more what information?

Answer 16

Current

Question 17

Two reasons for flexibility in financial reporting

Answer 17

Variety of businesses and estimates for the future

Question 18

A theory for understanding managers’ motivations, accounting choices, and reactions to accounting standards

Answer 18

Positive Accounting Theory

Question 19

Managers’ efforts to bias reported accounting information in one way or another

Answer 19

Earnings Management

Question 20

• influence investors to make higher estimates and charge more for shares
• give the appearance of lower risk and get lower interest rates
• to meet regulatory standards for banks
• provide a stronger bargaining position in mergers and against competitors
• to obtain higher profit based bonuses

Answer 20

Reasons for Earnings Management

Question 21

• reduce likelihood of taxes of highly profitable
• get more gov aid
• level the curve and show all years as doing equally well
• improve bargaining power against unions

Answer 21

Reasons for Negative Earnings Management

Question 22

A general term used to refer to markets for securities (Ex. Toronto Stock Exchange)

Answer 22

Security Market

Question 23

Securities markets take accounting information as inputs in the formation of what?

Answer 23

Prices

Question 24

Firms with equity, debt, or other securities traded in public markets

Answer 24

Public Companies

Question 25

One in which the prices of securities traded in the market at all times properly reflect all information that is publicly known about those securities

Answer 25

Efficient Securities Market (Semi-Strong Form)

Question 26

1. Securities prices react quickly to accounting information
2. Accounting info competes with other sources of info
3. It is important to distinguish new info from what was already reflected in the prices (try not to double react)
4. Using only publicly known info, it is hard to earn abnormal profits
5. It is possible to earn abnormal profits using info that is NOT publicly available
6. Accounting reports and standards can assume that users have a reasonable level of sophistication
7. Efficient market theory influences legal doctrine

Answer 26

Implications of Efficient Market Theory on Accounting