Study Unit 3: Income Statement

Question 1

When is revenue recognized in an installment sale?

Answer 1

Revenue recognized upon receipt of cashOnly used when cash collection is uncertain

Question 2

What is deferred gross profit?

Answer 2

Gross Profit that can’t be recognized until cash is receivedD.GP : Gross Profit % x Accounts Receivable Pay attention to the year if GP% varies

Question 3

What is the cost recovery method?

Answer 3

No revenue recognized until all costs are recovered from purchase of the assetMost conservative method of revenue recognition when collection of sale price is uncertain

Question 4

Describe fair value with respect to an asset

Answer 4

The price you would receive if you sold the assetAssumes asset is at its highest and best valueAssumes asset is sold at its most advantageous market to get the best price possible

Question 5

What market assumptions are made in a fair value assessment?

Answer 5

Buyer and Seller are not RelatedBuyer and Seller are KnowledgeableBuyer and Seller are able to transact - i.e. This isn’t a hypothetical transaction for Fair Value measurement purposes. The buyer actually does have the $10M to purchase the asset you’re trying to value at $10MBuyer and Seller are both motivated to buy/sell

Question 6

What items are included in a Level 1 input in the fair value hierarchy?

Answer 6

Price quotes or market pricesFor example NYSE or NASDAQ

Question 7

What items are included in a Level 2 valuation input?

Answer 7

Interest ratesPrime rate

Question 8

What items are included in Level 3 inputs of the fair value hierarchy?

Answer 8

Unobservable inputs such as assumptions or forecastsLowest priority for valuation

Question 9

What are acceptable valuation techniques for fair value?

Answer 9

Market approach - uses market transactions and prices to value the assetIncome approach - uses present value discounts earningsCost approach - uses replacement cost to value the asset

Question 10

What is a deferred revenue?

Answer 10

A type of current liability Payments that have been received but cannot be recorded as revenue yetExample: Tenant pre-pays rent - Landlord still must perform to earn it and is a liability until this happens

Question 11

When are revenues recognized?

Answer 11

When they have been earned; i.e. company has performed

Question 12

What is a gain?

Answer 12

Increase in equity from an activity or event that is not central to the main activities of the businessCan be operating or non-operating

Question 13

What is a loss?

Answer 13

Decrease in equity from an activity or event that is not central to the main activities of the businessCan be operating or non-operating

Question 14

How is an event that is unusual and/or infrequent reported on the Income Statement?

Answer 14

As part of the calcuation for continuing operations and before discontinued items.

Question 15

When are expenses recognized?

Answer 15

When they are incurred. Accrue if not yet paid.

Question 16

Where is Comprehensive Income reported?

Answer 16

Reported in a Single or Combined Income Statement

Question 17

How are changes in accounting principle applied?

Answer 17

Retrospective Application:Prior Periods adjustedRetained Earnings adjustedCompleted Contract to % CompletionEx: LIFO to FIFO

Question 18

Would a change from Completed Contract to Percentage of Completion be a change in accounting principle- or a change of estimate?How would it be applied?

Answer 18

A change of principle.Applied retrospectively.

Question 19

Would a change from LIFO to FIFO be a change in accounting principle or a change of estimate? How would this change be applied?

Answer 19

A change in accounting principle.Applied retrospectively.

Question 20

How is a change in accounting estimate applied?

Answer 20

A change in accounting estimate is applied prospectively (going forward).No backwards adjustment is made.

Question 21

Would a change from straight line depreciation to double declining balance be a change in accounting principle or a change in estimate?How would this change be applied?

Answer 21

Change in depreciation method would be a change in accounting estimate. It is applied prospectively.

Question 22

How is a correction of an accounting error made?

Answer 22

Restating the Prior-Period Statements (Retrospective). The beginning balances of (1) assets, (2) liabilities, (3) Retained Earnings are adjusted in the earliest period presented in the comparative statements.The correction of the error must be included in the footnotes.

Question 23

What are the requirements for a prior period adjustment?

Answer 23

Effect is MaterialIs identifiable in Prior PeriodCouldn’t be estimated in Prior Periods

Question 24

How is a change from a non-GAAP accounting method to a GAAP method recorded?

Answer 24

It is treated as a correction of an accounting error.Cumulative effect of error gets adjusted to the beginning balances of assets and liabilities in the earliest period presented in the comparative statementsCorrection of the error must be included in the footnotes

Question 25

How does an inventory error effect the financial statements?

Answer 25

Effect on Ending Inventory : Effect on Net IncomeIf one is overstated- both overstated. If one is understated- both understated.Misstating inventory corrects itself after TWO periods.

Question 26

How is a change in entity recorded?

Answer 26

Applied retrospectively.All prior periods presented for comparative purposes must reflect the changeFootnote disclosures must be madeChanging to Consolidated Statements

Question 27

Error analysis addresses…

Answer 27

1) Whether an error affects prior-periods2) The timing of error detection 3) Whether comparative statements are presented, and 4) Whether the error is counterbalancing

Question 28

What is the purpose of Fair Value Option?

Answer 28

The FVO allows entities to measure most recognized financial assets and liabilities at Fair Value. - Unrealized gains and losses are reported in EARNINGS(Income statement) at each subsequent reporting date.

Question 29

How are financial instruments elected for FV?

Answer 29

The decision whether to elect the FVO is made IRREVOCABLY at an election date (unless a new election date occurs).With certain exceptions, the decision is made Instrument by Instrument and only for an Entire Instrument.

Question 30

How is FVO applied to multiple instruments in a single transaction?

Answer 30

The FVO generally need NOT be applied to ALL instruments in a single transaction.-But an instrument that constitutes one legal contract is indivisible for FVO purposes.

Question 31

The election for the FVO may be made only on the date of?

Answer 31

1) Initial recognition of an eligible item2) Making an eligible firm commitment3) A change in accounting for an investment in another entity b/c it becomes subject to the equity method4) Deconsolidation of a subsidiary or a variable interest entity (w/ retentino of an interest)5) An event requiring measurement of an eligible item at F.V on that date but NOT subsequently (exclude LCM impairment)

Question 32

What are some examples of events that require either Remeasurement at FV or initial recognition (or both) of eligible items

Answer 32

1) Business Combination2) Consolidation or deconsolidation, or3) Significant modification of debt

Question 33

How are items with Fair Values reported on the Balance sheet?

Answer 33

Assets and Liabilities measured using FVO are reported by separating their reported FV from the carrying amounts of similar items

Question 34

How are items with Fair Values reported on the Income Statement?

Answer 34

Unrealized gains and losses on items measured using the FVO are recognized in EARNINGS at each subsequent reporting date.- Upfront costs and fees related to those items are recognized as incurred

Question 35

How are items with Fair Values reported on the Cash Flow Statement?

Answer 35

Classified according to their nature and purpose.

Question 36

Define Earnings Per Share

Answer 36

EPS is the amount of current-period earnings that can be associated w/ a single share of common stock

Question 37

In relation to BEPS, how is Preferred Stock Treated.

Answer 37

Preferred stock holders have superior claim and the amounts related to P/S must be removed from the calculation of BEPS.

Question 38

What is used to determine the value of the BEPS numerator?

Answer 38

Income Statement Amount minusDividends on P/S (cumulative or declared non cumulative)

Question 39

How are Stock Dividend and Stock Splits accounted for in the calculation for the BEPS Denominator?

Answer 39

Adjusted retroactively to reflect change as if it occurred at the BEGINNING of the FIRST period presented. Even if occur after the end of the current reporting period but before issuance of the statements.

Question 40

Dilution reduces BEPS due to the following assumptions…

Answer 40

1) Convertible securities2) Options, Warrants exercised3) Contingently C/S were issued

Question 41

Potential Common Shares (PCS) are included in the calculation of DEPS only if

Answer 41

The PCS are dilutive, reducing BEPS