F2 Financial Reporting and Disclosures

Question 1

M2 F1
Explain performance obligation?

Answer 1

When goods/service is transferred to customer, it must be distinct and separately identifiable. Service performance obligations can be combined to 1 when services are all very similar and can be provided in similar manner.

Question 2

When can a contract modification occur and how is it treated?

Answer 2

It is a change in price or scope (or both). When this occurs a new contract must be created b/c it represents stand-along prices. The result of termination of original and new is distinct prices/services are added but prices do not increase by stand-alone prices. A contract modification is considered separate when scope of original contract increases by addition of distinct goods/services.

Question 3

Explain deferred revenue and how it is treated on another company’s books?

Answer 3

Deferred revenue is a liability until service is performed. Revenue that has been received in cash but not yet earned, it represents billing for services that have not yet been performed. In another company’s books it will be recorded as prepaid expense.

Question 4

What is the difference between output and input method when recognizing revenue?

Answer 4

Output method is like milestones achieved while input method is like resource consumption, labor hour expenses, or costs incurred to total expected costs.

Question 5

Explain the difference when revenue is recognized point in time and overtime

Answer 5

Indication is if buyer benefits as seller performs per terms of contract. Point in time is if buyer has legal title to an asset ie physical possession is transferred to buyer. It will be ensured when obligation is delivered to customer and will not be recognized when rewards and risks of ownership remain with seller. While overtime is if customer receives and consumes benefits of performance as it is performed like service contract of cleaning service or monthly payroll process service.

Question 6

JE of revenue recognized evenly over contract as service performed?

Answer 6

a) DR cash and CR unearned rev liab
b) every period DR unearned rev liab and CR income rev

Collections received for service contracts recorded increases unearned revenue

Question 7

Examples of when to recognize revenue

Answer 7

a) calculate current year revenue: recognize full amount of initial fee; do not recognize amount received when agreement signed nor amount paid following year
b) calculate YE 4 revenue in I/S: $member charged yearly * # members * (# of month collection from YE / 12)

Question 8

M2 M5
Explain difference when F/S are considered “issued” v “available to be issued”?

Answer 8

Issued is when F/S are in form and format that complies with GAAP and have been widely distributed to users Available to be issued is when F/S are in form and format that comply with GAAP and all approval necessary for issuance of F/S have been received.

Question 9

What is the subsequent event evaluation period for filer v non-filer?

Answer 9

Filer is through date F/S issued and issued is date widely distributed to users, while non-filer is date F/S are AVAILABLE to be issued.

Question 10

Explain difference between recognized subsequent events and non-recognized events.

Answer 10

Recognized is when a) recorded and disclosed b) settlement of litigation that arose is before B/S date and settled after B/S c) loss on an uncollectible receivable due to customers bankrupts after B/S date. Non-recognized events a) does not exist at balance sheet date b) should be disclosed.

Question 11

Explain difference between entities that file with F/S v those that don’t file?

Answer 11

Entities that file are not required to disclose date through which subsequent events have been evaluated; while entities that do not file F/S with SEC are required to disclose both date through subsequent events have been evaluate and date F/S were issued or date F/S were available to be issued.

Question 12

What is requirement when “reasonably possible” loss?

Answer 12

only footnote disclose such as nature, possible loss or range of loss

Question 13

Examples of subsequent treatment?

Answer 13

a) Issued Y1 F/S in March 15 and plant destroyed Y2 March 1 = Y1 F/S loss will be disclosed but not recognized
b) Y2 explosion occurred. Management concludes likely claims of estimated reasonable liab of $1,250,00, public policy liab is $5M with deductible of $250K = footnote disclosure of possible loss of $250K
c) Issued Y1 F/S on March 15 Y2 and cost of issued shares of $100K occurred March 1 Y2 = reported as a note disclosure only

Question 14

F2 M7
Explain the special purpose framework (OCBOA)?

Answer 14

Its a hybrid of a hybrid of cash basis and accrual basis accounting, with statement titles that cannot be labeled to appear as a view of GAAP accrual basis financial statements

When going from cash basis to accrual: 1) difference of assets value will switch signs and 2) difference of liabilities will have same sign.

Cash basis income is computed by comparing cash inflows to cash outflows. Cash inflows= revenue; outflow = expenses

Question 15

Explain flow of account basis to accrual basis

Answer 15

• AR increase = add to cash revenue
• AR decreases = subtract from cash revenue
• AP increases = add to cash expenses
• AP decreases = subtract from cash expenses
• unearned revenue increases = subtract from cash revenue
• unearned revenue decreases = add to cash revenue

Question 16

Explain flow of account basis to accrual basis

Answer 16

• prepaid expenses increase = subtract from cash expenses
• prepaid expenses decrease = add to cash basis
• accrued expenses increase = add to cash expense
• accrued expenses decrease = subtract from cash expenses
• add back depreciation and amortization expenses
• inventory increases = subtract from cash COGS
• inventory decreases = add to cash COGS

Question 17

Steps when going to cash basis to accrual basis and vise versa

Answer 17

Step 1 Lay out accounts
Step 2 Identify beginning balance
Step 3 Determine differences
Step 4 Understand what movements mean for accounts ie. benefits received v not, cash paid v not

Question 18

Profitability Ratios

Answer 18

1) Net Profit Margin = NI / Revenue
2) ROA = NI/ Total assets = higher # is good
3) ROE = NI / shareholders equity = higher # is good
4) Gross Profit margin = Gross Profit / Revenue = higher # is good
5) return on sales = operating profit / revenue = higher # is good

Question 19

Efficiency Ratio

Answer 19

1) asset turnover ratio= net sales/ average total assets = higher # is good
2) Inventory turnover ratio = COGS / Ave inventory= higher # strong sales & inv management
3) AR turnover ratio = Net sales / average AR = higher # more efficient collection
4) AP turnover ratio = total supplier purchases / Ave AP = higher # paying off suppliers quickly

Question 20

Market value ratios

Answer 20

1) EPS = NI / # of common shares outstanding
2) P/E = market price per share / EPS =higher # higher expectation for future growth
3) dividend payout = (total dividends paid / NI) * 100
4) EBITDA = NI + Interest + taxes + depreciation + amortization

Question 21

Cash Flow Ratios

Answer 21

1) operating cash flow = operating cash flow / total debts
2) FCFE = cash flow from operations - capital expenditures - debt payments + debt issued

Question 22

Solvency Ratio

Answer 22

1) debt to equity = total liab / equity = higher # is high risk
2) total debt = total laib / total assets = higher # is high risk
3) timers interest earned ie interest coverage ratio = higher # is less risk

Question 23

F2 M4
Explain summary of significant accounting policies?

Answer 23

An intro with details relating to policies such as:
- measurement base used in preparing F/S
- specific accounting principles & methods used during period like basis of consolidation, depreciation methods, amount of intangibles, and inventory pricing.

It does not contain specifics, breakdown of accounts, adequacy of pension plan assets, refinancing details, nor guarantees of indebtedness of others

Question 24

What are examples of note disclosures in footnote in F/s?

Answer 24

• carrying value and gross unrealized gains/losses on marketable securities
• descriptions of company’s pension plan
• material info on inventory & other significant assets/ liab
• info on change in equity & other info about significant assets and or liab accounts
• any recognition of subsequent events
• account principles and all other disclosures that are integral part of F/S

Question 25

What are examples that will not be disclosed in footnotes in F/S?

Answer 25

• excerpts from minutes of BOD meeting
• info not pertinent to F/S
• duplicate details disclosed elsewhere
• be limited to principles & methods peculiar to industry
• fixed by GAAP

Question 26

Under US GAAP, what is the disclosure req for risk and uncertainties?

Answer 26

• disclosure of entity’s major products/services and principle market
• disclosure of use of estimates in preparation of F/S
• disclosure of concentrations when it is reasonably possible that a concentration could cause severe impact near team

Question 27

What is the criteria for disclosure of vulnerability to concentration?

Answer 27

All most be met
a) concentration exists as of F/S date
b) concentration makes entity vulnerable to risk of near term severe impact
c) @ least reasonable possible that events that could cause a severe impact from vulnerability will occur near term

Example: when entity has 2 significant customers contributing to sales the concentrations in volume of business transactions like amount of revenue should be disclosed

Question 28

Example: what should be classification and disclosure when
- $10M notes payable due 3 months after YE
- notes payable refinanced when LT bonds issued 1 month after YE $11M
- Dec 31 F/S issued 2 months after YE

Answer 28

Classification of Liab non-current
Note disclosure required Yes

• Notes payable existed as of B/S date, refinancing occurring prior to statements being issued = liab recognized as non-curr and note disclosure added explaining change in classification

Question 29

F2 M2
Explain prospective treatment and examples ie current and future adjustments?

Answer 29

-do not look back and not affect previous periods
a) changes in accounting principles
- change from equity to cost method
- shown in net of tax on RE statement
- footnote disclosure is appropriate but not for accounting treatment
b) changes in accounting estimate: estimate previously used is incorrect. No accounting change is needed

Question 30

Explain retroactive treatment and examples ie restatements of all past changes?

Answer 30

Retroactive treatment as prior period adj to RE w restatement of prior periods. Meaning all past statements changes
a) correction of an error
- change from cost method to equity method
- change from cash basis to accrual basis b/c cash basis is not accepted basis of accounting
b) change in entity like changing companies in consolidated F/S and consolidated F/S v previous individual F/S (including note disclosure required)
c)

Question 31

How is correction of error (retroactive treatment) reported in F/S ?

Answer 31

• prior period reported in net of tax, in current statement of RE as adj of opening balance. Do not affect I/S, got to RE.
• correction of error is before NI
• offsetting adj to cumulative affect of error is not made to compressive income to correct error
• an error is not corrected by spreading difference into future years or double

Question 32

How are extraordinary items recognized?

Answer 32

Not recognized

Question 33

If change in accounting estimate can’t be distinguished from change in accounting principle then?

Answer 33

considered change in estimate.
- example of both change in accounting principle and change in accounting estimate is change in depreciation method a b/c also changes estimated future benefits of assets.

Change between acc estimate and acc principle is harder than change in acc estimate and correction of error b/c change can essentially change both in estimate and principle

Question 34

How is cumulative-effect adj reported?

Answer 34

In RE statement in year of change. Cumulative effect of change in accounting principle is presented in comparative F/S as net of tax as adj to beginning RE in statement of stockholders equity

Question 35

Examples of how correction of error is reported?

Answer 35

• in Y3 error was discovered in Y1 & Y2 F/S = Y1 & Y2 is restated and assets & liab carrying amounts will be corrected in each YR F/S and shown as restated in Y3. Y3 cumulative effect of error will be reflected in carrying amounts of effected assets & liab