F2 Flashcards
1
Q
what are the steps in the 5 step approach to revenue recognition?
what is the mnemoic to remember?
A
- identify the contract with the customer
- identify the separate performance obligations in the contract
- determine the transaction price
- allocate the transaction price to the separate performance obligations
- recognize revenue when or as the entity satisfies each performance obligation
I-STAR or I am a STAR
2
Q
what is a performance obligation?
A
promise to transfer either a good or service to a customer
3
Q
when is a contract asset booked?
A
work completed necessary to recognize revenue but entity does not have unconditional right to consideration of good/service as no payment has occurred
4
Q
when is a contract liability booked?
A
when the entity has an obligation to transfer goods/services when the customer has already paid prior to performance
5
Q
when is revenue recognized when a long-term construction contract does not meet the criteria for recognizing revenue over time?
A
when the contract is completed
6
Q
what does a bill-and-hold arrangement do?
A
allows revenue to be recognized prior to the customer receiving the product
7
Q
when is revenue recognized in a consignment relationship?
A
upon sale to a customer or after the expiration of a defined period of time
8
Q
what 4 contracts are covered by other standards than the 5 step approach to revenue recognition?
A
leases
insurance
non-warranty guarantees
financial instruments
9
Q
what does commercial substance mean?
A
did/will future cash flows change?
10
Q
what are the two instances revenue can be recognized if the criteria of the contract are NOT met but consideration has been paid by the customer?
A
consideration is nonrefundable
no remaining obligation to transfer goods/services or the contract has terminated
11
Q
what warrants treating a modification of a contract as a new contract?
A
scope increases due to the addition of distinct goods or services
price increase appropriately reflects the standalone selling price of additional goods/services
12
Q
what 2 criteria must BOTH be met for a performance obligation to be distinct?
A
the good or service is separately identifiable from other goods or services in the contract
customer can benefit from good/service independently or when combined with the customer’s available resources
13
Q
what 3 things make a good or service separately identifiable?
A
entity does not integrate the good or service with other ones in the contract
it does not customize or modify another good/service in the contract
it does not depend on or relate to other goods or services in the contract
14
Q
what 4 things go into determining the transaction price?
A
variable consideration
significant financing (TVM)
noncash considerations (fair value)
any consideration payable to the customer (reduce revenue recognized)
15
Q
what are the two options for determining variable consideration?
A
expected value
most likely amount
16
Q
what are the 2 methods for recognizing revenue over time?
A
output method
input method
17
Q
what is the output method?
A
revenue is recognized based on the value to the customer of the goods/services transferred to date relative to remaining goods/services promised
units produced/delivered, time elapsed, surveys of performance completed to date
18
Q
what is the input method?
A
revenue is recognized based on the entity’s efforts or inputs to the satisfaction of the PO relative to total expected inputs
costs incurred to date vs. total expected costs, resources consumed, labor hours expended, time elapsed
19
Q
what are the 5 things that constitute control for revenue to be recognized at a point in time?
A
customer has accepted the asset
entity has right to payment and the customer is obligated to pay for the asset
transfer of physical possession of the asset
customer has legal title of the asset
customer has the significant rewards and risks of ownership
20
Q
what are the 3 criteria that allow revenue to be recognized over time if any one of them are met?
A
entity’s performance creates or enhances an asset the customer controls (annual service contract)
customer simultaneously receives and consumes benefit as entity performs it (subscription service)
entity creates an asset customized to the customer’s needs
21
Q
how are construction contract revenue recognized on the B/S?
A
construction in progress (inventory account)
progress billings (contra-inventory account)
net these two against each other
22
Q
when would you have a net asset position for a construction contract?
A
CIP > progress billings
built more than you have billed the customer
23
Q
when would you have a net liability position for a construction contract?
A
CIP < progress billings
billed the customer more than you have built
24
Q
what are the 4 steps for accounting for construction revenue recognized over time?
A
- compute gross profit on total contract
- compute percentage of completion
- compute gross profit earned to date
- compute gross profit earned for current year
25
what are estimated total costs?
total costs for a long-term contract from inception to completion
ex. 3 year total contract (costs in year 1, 2, 3)
26
what are estimated costs to complete?
added costs incurred to date to arrive at estimated total costs
ex. 3 year total contract (if you are currently in year 2, then estimated costs to complete would be the costs estimated in just year 3)
27
what is the difference in CIP account between percentage of completion and at-completion method for long-term contracts revenue recognition?
% of completion: CIP includes costs incurred and estimated gross profit earned to date
at-completion: CIP only includes costs incurred
28
what are incremental costs of obtaining a contract?
costs incurred that would not have been incurred if the contract had not been obtained and costs that are recognized as an asset (capitalized and amortized) if the entity expects to recover these costs
ex. commission to sales employees, legal fees for drawing up the contract
29
what are costs to fulfill a contract?
costs that are incurred to fulfill a contract that are not within the scope of another standard will be recognized as an asset
30
what are 3 things classifying a party as an agent?
another party is primarily responsible for fulfilling the contract
the entity does not have inventory risk
the entity does not have discretion in establishing prices for other party's goods/services
ex. travel agency books your flight, hotel, rental car
31
what are 3 things classifying a party as a principal?
entity is primarily responsible for fulfilling the contract
entity bears inventory risk
entity has right to establish the price of goods/services
ex. airplane company the travel agency booked
32
3 main types of repurchase agreements
a forward (entity's obligation to repurchase the asset)
a call option (entity's right to repurchase the asset)
a put option (entity's obligation to repurchase the asset at customer's request)
33
what are the two possibilities with a forward or call option in a repurchasing agreement?
classified as a lease (repurchase price < selling price)
classified as financing agreement (repurchase price >= selling price)
34
if the repurchase agreement is a financing arrangement what 3 things does the entity do?
recognize the asset
recognize financial liability for any consideration received from customer
recognize interest expense (difference between repurchase price and selling price)
35
what are 2 ways to account for a put option repurchased for less than selling price?
a lease (if customer has significant economic incentive to exercise right)
a sale with right of return (if customer does not have economic incentive to exercise right)
## Footnote
most put options are repurchased at less than selling price
36
what are 2 ways to account for a put option repurchased for equal to or greater than selling price?
financing arrangement (repurchase price > market value of asset)
sale with right of return (repurchase price <= market value of asset & customer does not have economic incentive to exercise right)
37
what is a bill-and-hold arrangement and can revenue be recognized?
entity bills a customer for a product that is not yet delivered to the customer
revenue cannot be recognized until customer obtains control of product
38
what are the 4 criteria that MUST be met for revenue to be recognized under a bill-and-hold arrangement?
1. must be a substantive reason for arrangement (ex. customer requested because they do not have space for product)
2. product has been separately identified as belonging to the customer
3. product is currently ready for transfer to the customer
4. entity cannot use the product or direct it to another customer
39
what are 3 indicators of a consignment arrangement?
entity controls the product until a specified event occurs
dealer does not have an unconditional obligation to pay the entity for the product
entity can require return of the product or transfer the product to another party
40
what does accounting for a warranty depend on?
depends on whether a customer has the option to purchase the warranty separately
if so, the warranty serves as a separate PO
41
what does refund liability represent?
the amount an entity does not expect to be entitled to receive
42
is a reasonable estimation of returns on the day of the sale needed to recognize revenue?
yes
43
what are two examples of a change in accounting principle that is inseparable from a change in estimate and is accounted as a change in estimate?
change in depreciation method
changing inventory method to LIFO
44
what are 3 things to note with a change in accounting estimate?
it is not an error
do not restate prior years
follow prospective approach
45
should a change in estimate be disclosed? what is the exception?
yes, disclosed in the notes
however, a change in ordinary accounting estimate that is NOT material does not need to be disclosed
46
what are 8 examples of changes in accounting estimates?
changes in lives of fixed assets
adjustments of year end accrual of officers' salaries/bonuses
write downs of obsolete inventory
economic conditions
product demand
settlement of litigation
change in accounting principle inseparable from a change in estimate
revisions of estimates regarding discontinued operations
47
is beginning retained earnings adjusted gross or net of tax during a change in accounting principle?
net of tax
(1 - tax rate)
48
what is a change in accounting principle
a change from one acceptable accounting method to another acceptable accounting method
49
what are 2 examples of error correction?
correction of error in recognition, measurement, presentation, or disclosure in FS (mathematical mistake, mistake in applying GAAP, oversight or misuse of facts)
a change from a non-GAAP accounting method to a GAAP accounting method
50
what does the rule of preferability say?
change of accounting principle has to be justified
changed if: required by GAAP or alternative principle is preferred because it presents information more fairly
51
in a change in accounting principle/entity what is the earliest year you adjust retrospectively?
the earliest year presented
RE for accounting principle
entire FS for accounting entity
52
what are 3 examples of a change in accounting entity?
mergers
acquisition
divestitures
53
what are the 3 things included in a full disclosure of a change in accounting entity?
changes in income from:
* continuing operations
* net income
* retained earnings
54
for an error correction what is the earliest year you adjust retrospectively?
if the error occurred in a year presented on the FS then **adjust the error in those FS**
if the error does not appear in the years presented on the FS then adjust the **beginning RE of the earliest year presented**
55
is the cash or income tax basis of accounting accepted under GAAP?
no, therefore switching from cash/income tax basis to accrual accounting would be considered a correction of an error
56
what does an understatement of inventory result in on the I/S?
overstatement of COGS and understatement of NI
57
what are the 3 rules of AJEs?
1. must be recorded by the end of the fiscal year before the preparation of FS
2. never involve the cash account
3. will involve one I/S account and one B/S account
58
what is the purpose of AJEs?
record revenues and expenses in the correct periods as this is not necessarily when the cash received
59
is interest payable recorded for a noninterest-bearing note?
no, the interest is implicit in the face value of the note
60
if contracts are sold evenly throughout the year how do you account for this in terms of deferred revenue?
treat it as if all contracts were sold on July 1st (so half of the year)
61
what does the summary of significant accounting policies reflect?
the **methods and policies** employed by the firm
revenue recognition policy, depreciation method, inventory method, etc.
62
what is the purpose of the remaining notes to the FS?
contain all other information relevant to decision makers as they disclose facts not presented in the body of the FS or the summary of significant accounting policies
63
what are 4 examples of items not included in the significant accounting policies footnote?
composition and detailed dollar amounts of account balances
details relating to changes in accounting principles
dates of maturity and amounts of LTD
yearly computation of depreciation, depletion, amortization
64
what are the 3 main purposes of disclosures of risks and uncertainties?
describe the **risks and uncertainties** around major operations
describe the **relative importance** of each business if the entity operates multiple businesses
describe the **use of accounting estimates** in the preparation of FS
65
what are the 3 main requirements that if met, then concentrations should be disclosed in the footnotes?
concentration exists at the FS date
concentration makes the entity vulnerable to the risk of a severe impact
reasonably possible the severe impact could occur in the near-term
66
how should investments in bonds held to maturity be reported at?
amortized cost, not fair value
67
what is the 3 tier fair value hierarchy for fair value measurements?
level 1: quoted prices (active and identical)
level 2: observable inputs (active and comparable)
level 3: unobservable inputs
68
do you include customers by name in footnotes?
no
69
what is a subsequent event and what are the two types?
event or transaction that occurs after the balance sheet date but before the FS are issued or available to be issued
recognized subsequent event
nonrecognized subsequent event
70
what is a recognized (type 1) subsequent event and how must it be recognized?
provides additional information about conditions that existed as of the balance sheet date
must be recognized or adjusted in the FS
## Footnote
ex. settlement of litigation, loss of an uncollectible receivable
71
what is a nonrecognized (type 2) subsequent event and how must it be recognized?
provides information about conditions that did NOT exist as of the balance sheet date
are not recognized and FS are not required to be adjusted
**should be disclosed if it keeps FS from being misleading**
72
what are 6 examples of nonrecognized subsequent events?
sale of bond or capital stock
business combination
settlement of litigation (if litigation arose after BS date)
loss of plant or inventory due to fire or natural disaster
changes in fair value of assets, liabilities, exchange rates
entering into significant commitment or contingent liabilities
73
what does the subsequent event evaluation period depend on?
if company is public or private
public companies must evaluate events through date the FS are issued
private companies must evaluate events through date the FS are available to be issued
74
does a company have to deal with subsequent events if FS are reissued/revised?
no unless an adjustment is required by GAAP
75
what is the difference between disclosing the subsequent evaluation period for a public vs. a private company?
public companies do not have to disclose when their subsequent event evaluation period ended
private companies have to disclose the date when subsequent event evaluations ended and whether this is the date of issuance or date available to be issued
76
what is the most advantageous market?
the market with the best price for the asset (maximizes selling price) or liability (minimizes payment to transfer) after considering transaction costs
77
what are the 3 approaches to use in fair value measurement?
MIC:
Market approach
Income approach
Cost approach
or a COMBO of these approaches
78
what are the 3 things included in the fair value measurement disclosure?
valuation techniques (MIC) and inputs (level 1, 2, 3) used to measure FV
uncertainty in the FV measurements
how changes in FV measurements affect the entity's performance and cash flows
79
what are the 3 cases allowing an entity to be exempt from FV measurement?
it is not practical to measure FV
FV cannot be reasonably determined
FV cannot be measured with sufficient reliability
80
what are the 2 markets FV is measured in
principal market
most advantageous market (if principal market is absent)
81
what are the 3 things with an exception to FV disclosure?
share based compensation
leases
vendor-specific measurements
82
how do transaction and transportation costs relate to FV?
transaction costs only considered in most advantageous market but not in the measurement of FV if using the most advantageous market
transportation costs included if location is an attribute of the asset/liability
83
market participants (buyers and sellers) must be what?
independent (not related parties)
knowledgeable of the asset or liability
willing and able to transact
acting in their best economic best interest
84
what is the principal market?
the market with the greatest volume or level of activity for the asset or liability
reporting entity must have access to principal market
85
why does the highest and best use concept not apply to financial assets (stocks, bonds) or FV of liabilities
these items do not have alternative uses
their FVs do not depend on their use within a group of other assets/liabilities
86
what does the market approach use?
uses prices and other relevant info from market transactions involving identical/comparable assets/liabilities
87
what does the income approach use?
converts future amounts to a single discounted amount to measure FV (discounted cash flows)
88
what does the cost approach use?
the current replacement cost
89
is measuring the FV on an instrument-by-instrument basis?
yes
90
what measurement basis is used on bonds intended to be held to maturity?
amortized cost (initial investment +/− amortization of discount or premium)
91
what are special purpose frameworks and what is the other name it is commonly known as?
non-GAAP presentations that have widespread understanding and support
OCBOA (other comprehensive basis of accounting)
92
what are the 5 OCBOA presentations?
cash basis
modified cash basis
income tax basis
price level adjusted
regulatory basis
## Footnote
cash basis, modified cash basis, and income tax basis the most popular
93
what are the guidelines OCBOA FS have to follow?
FS titles should be different from accrual basis FS titles
SCF not required
disclosures are similar
94
what essentially is modified cash basis?
hybrid of cash and accrual basis
95
what are 5 common modifications to modified cash basis FS?
capitalizing and depreciating fixed assets
accrual of income taxes
recording liabilities and related interest expense
capitalizing inventory
reporting investments at fair value
96
what is income tax basis FS?
prepared based on methods and principles used to prepare the entity's tax return
does not use GAAP or any accounting rules
97
how does income tax basis deal with nontaxable revenues and expenses?
record nontaxable revenues and expenses not reported in the period received or paid by cash-basis taxpayers and in the period accruable for accrual-basis taxpayers
98
the process of converting from the cash basis to the accrual basis I/S is _____?
the **OPPOSITE** of the process used to prepare the SCF from accrual basis FS
99
what are the two things you need to perform I/S conversion from cash to accrual basis?
beginning and ending B/S balances
100
what is formula for accrual basis revenue when converting from cash basis?
cash basis revenue
+ ending AR
- beginning AR
- ending unearned revenue
+ beginning unearned revenue
101
what is formula for accrual basis COGS when converting from cash basis?
cash paid for purchases
+ ending AP
- beginning AP
- ending INV
+ beginning INV
102
what is formula for accrual basis operating expenses when converting from cash basis?
cash paid for operating expenses
+ ending accrued liabilities
- beginning accrued liabilities
- ending prepaid expenses
+ beginning prepaid expenses
103
income tax basis FS differs from GAAP FS in that it...
recognizes certain revenues and expenses in different reporting periods
104
In financial statements prepared on the income-tax basis, how should the nondeductible portion of expenses such as meals and entertainment be reported?
Included in the expense category in the determination of income
105
what should you do with increases and decreases in current assets and liabilities when converting from cash basis to accrual basis net income?
add increases in CA
subtract decreases in CA
add decreases in CL
subtract increases in CL
106
what are financial ratios?
financial indicators that portray relevant information about a business entity by quantifying the relationship among selected items on the FS
107
what are profitability ratios?
measures of the success or failure of an entity for a given time period
if the ratio is >= the standard then we are happy
108
what are liquidity ratios?
measures of a firm's short term ability to pay maturing obligations
109
what are solvency ratios?
measures of security or protection for long-term creditors/investors
110
what are performance metrics?
measures used to evaluate operating performance and elements of a company's stock performance from the perspective of current and potential investors
111
what is a limitation of financial ratios?
they are dependent entirely on the reliability of the data which is based on estimates, historical costs, fair value and so on
112
what are 5 things financial ratios show?
risk (operating and financial)
performance
growth potential
value
identify trends
113
what is horizontal analysis useful for?
identifying trends and noting material changes
114
what is vertical analysis useful for?
comparing companies of different sizes
115
what is gross profit margin heavily dependent on?
bargaining power of suppliers
as # of suppliers increases, COGS decreases, GP increases
116
what is profit margin heavily dependent on?
competition and substitutes
as competition increases, PM decreases
117
what is asset turnover dependent on?
management efficiency
ex. you do not want too many stores, too many trucks, too many airplanes or too little
118
what does ROA x DFL equal and why?
ROE because ROA is amplified by the DFL
119
what happens if operating cash flow ratio or current ratio increases?
risk of short term distress decreases
120
as current assets increase relative to noncurrent assets what does this mean?
risk decreases (pro) but ROA decreases (con)
121
what does it mean if days in inventory is too high? too low?
too high: you have a surplus or demand decreases
too high: you have a shortage or sales price too low
122
what does it mean if days in AP is too high? too low?
too high: difficulty paying on time which is a "red flag"
too low: paying too quickly means poor cash mgmt or because of a discount offered
123
what is debt to equity ratio dependent on?
the DOL and financial risk management is willing and able to assume
124
what does it mean when total debt ratio decreases? increases?
ratio improving and risk decreasing
ratio deteriorating and risk increasing
125
what is the equity multiplier also known as?
degree of financial leverage (DFL)
126
what are the two ways to calculate equity multiplier/DFL?
total assets / total equity
A/E = 1 + D/E
127
if the P/E ratio is less than the industry what does that mean? greater than the industry?
stock could be relatively undervalued (buy)
stock could be relatively overvalued (sell)
128
what is variance analysis a tool for?
comparing some measure of performance to a plan, budget, or standard for that measure
used for planning and control purposes
can be used to evaluate revenues and costs
129
how are variable and fixed costs related to operating leverage?
as VC increases, DOL decreases
as FC increases, DOL increases
130
is the numerator for debt to equity ratio total liabilities or long-term liabilities?
total liabilities
131
Distinguish between the treatment of costs incurred in obtaining a contract as assets or as expenses
if an entity expects to recover these costs through the performance of the contract, the entity will treat them as assets. If the costs are incurred regardless of whether the contract is obtained they are treated as expenses
