Unit 3 - Income Statement

Question 1

Which of the following would represent the least likely use of an income statement prepared for a business enterprise?

A. Use by customers to determine a company’s ability to provide needed goods and services.
B. Use by labor unions to examine earnings closely as a basis for salary discussions.
C. Use by government agencies to formulate tax and economic policy.
D. Use by investors interested in the financial position of the entity.

Answer 1

D. Use by investors interested in the financial position of the entity.

Customers, labor unions, and government agencies may well make use of the income statement for the reasons noted in alternatives A, B, and C respectively. However, the income statement reports results of operations, not financial position. To determine financial position of an entity the investor would have to refer to the information in a balance sheet.

Question 2

The primary reason the income statement is so important to investors and creditors relates to its ability to provide information helpful in

A. determining the honesty of those involved in managing the enterprise.
B. assessing the financial position of the entity at a point in time.
C. predicting the amount, timing, and uncertainty of future cash flows.
D. determining the amount of future income the entity may generate from current operations.

Answer 2

C. predicting the amount, timing, and uncertainty of future cash flows.

Investors and creditors are most interested in the ability of the entity to generate cash flows into the future. Accurate predictions of future cash flows help investors assess the economic value of the enterprise and creditors determine the probability of repayment of their claims against the enterprise. The honesty of management or future income from current operations are not items primarily measured by the income statement. Also, financial position is a balance sheet concept.

Question 3

The income statement reveals:

A. resources and equities of a firm at a point in time.
B. resources and equities of a firm for a period of time.
C. net earnings (net income) of a firm at a point in time.
D. net earnings (net income) of a firm for a period of time.

Answer 3

D. net earnings (net income) of a firm for a period of time.

The income statement is defined as the financial statement of a business entity that reveals net earnings for a period of time.

Question 4

The occurrence that most likely would have no effect on 2021 net income is the:

A. sale in 2021 of an office building contributed by a stockholder in 1968.
B. collection in 2021 of a dividend from an investment.
C. purchase of inventory not sold before year end.
D. stock purchased in 2000 deemed worthless in 2021.

Answer 4

C. purchase of inventory not sold before year end.

inventory that is not sold before year end is held in the inventory account on the balance sheet, thus it does not affect net income.

Question 5

One of the primary benefits of the multiple-step income statement over the single-step income statement is that the

A. multiple-step income statement shows gross margin and recognizes different types of costs and expenses.
B. multiple-step income statement shows last year’s figures in comparison with the current year.
C. multiple-step income statement discriminates between administrative and selling expenses.
D. multiple-step income statement recognizes no distinction in types of costs or expenses.

Answer 5

A. multiple-step income statement shows gross margin and recognizes different types of costs and expenses.

One of the primary benefits of the multiple-step over the single-step income statement is that the multiple-step income statement shows gross margin and recognizes different types of costs and expenses. Analysts often find the multiple-step income statement useful in computing ratios and distinguishing operating and nonoperating activities. A single-step income statement generally has just two categories: (1) revenues and (2) expenses.

Question 6

In general, the basic difference between the concepts of revenues and gains concerns:

A. the materiality of the item being considered.
B. whether the event giving rise to the item relates to the typical activity of the enterprise.
C. whether the item is taxable in the current year.
D. the effect on total assets of the enterprise.

Answer 6

B. whether the event giving rise to the item relates to the typical activity of the enterprise.

Revenues represent inflows from activities that constitute the entity’s ongoing major or central operations. Gains, on the other hand, represent increases in equity from peripheral or incidental transactions of an entity. The concepts of materiality (A) or taxability (C) have nothing to do with distinguishing revenues from gains.

Question 7

When a manufacturing company sells one of its plant assets at a price in excess of its book value it should recognize
Revenue Gain
A. No Yes
B. No No
C. Yes No
D. Yes Yes

Answer 7

A. No Yes

Gains are increases in equity (net assets) resulting from peripheral or incidental transactions of an entity. The sale of plant assets by a manufacturing company is not a part of its regular operations and thus results in a gain rather than revenue.

Question 8

Any gain or loss experienced by a concern, whether directly or indirectly related to operations, contributes to the long-run profitability and should be included in the computation of net income. Those who favor such a philosophy adhere to the

Current Operating All-Inclusive
Performance Approach Concept

A. Yes Yes
B. No No
C. Yes No
D. No Yes

Answer 8

D. No Yes

This statement reflects a philosophy of net income known as the All-Inclusive Concept. Advocates of the all-inclusive concept to net income presentation insist that both regular earnings of the business and irregular gains and losses be included in net income because they reflect the longrange income producing ability of the enterprise.

Question 9

The income statement can be used to assess
a. liquidity.
b. solvency.
c. creditworthiness.
d. all of these answer choices are correct.

Answer 9

c. creditworthiness.

Question 10

The ________ approach focuses on the income-related activities that have occurred during the period.
a. transaction.
b. capital maintenance.
c. earnings quality.
d. classification.

Answer 10

a. transaction.

Question 11

Which of the following occur from peripheral or incidental transactions?
a. Sales revenue.
b. Cost of goods sold.
c. Gain on the sale of equipment.
d. Operating expenses.

Answer 11

c. Gain on the sale of equipment.

Question 12

In the single-step income statement:
a. interest revenue and rental revenue are reported as other revenues and gains.
b. just two groupings exist - revenues and expenses.
c. expenses are classified by functions, such as merchandising, selling and administration.
d. an income from operations figure is presented.

Answer 12

b. just two groupings exist - revenues and expenses.

Question 13

Which of the following is an acceptable method of presenting the income statement?
a. A classified income statement.
b. A current operating performance income statement.
c. A condensed income statement.
d. None of these answer choices are correct.

Answer 13

c. A condensed income statement.

Question 14

Which of the following is not considered an irregular item on the income statement?
a. Income tax expense.
b. Both Income tax expense and discontinued operations
c. Discontinued operations.
d. None of these

Answer 14

a. Income tax expense.

Question 15

Noncontrolling interest
a. Is not shown on the face of the income statement.
b. Is reported as a separate item below net income or loss.
c. Is shown in a separate section of the income statement after continuing operations but before extraordinary items, net of tax.
d. Is shown in a separate section of the income statement after extraordinary items, net of tax.

Answer 15

b. Is reported as a separate item below net income or loss.

Question 16

Income reporting follows which of the following approaches?
a. Current operating performance.
b. Modified all-inclusive.
c. All-inclusive.
d. Modified current operating performance.

Answer 16

b. Modified all-inclusive.

Question 17

Companies are required to highlight certain items in the financial statements so that users can better determine the long-run earning power of the company. Which of the following is not one of those items?
a. Unusual gains and losses.
b. Noncontrolling interest.
c. Changes in accounting principle.
d. Discontinued operations.

Answer 17

c. Changes in accounting principle.

Question 18

Which limitation of an income statement occurs when one company uses an accelerated depreciation method while another company uses straight-line depreciation?
a. Companies omit from the income statement items they cannot measure reliably.
b. Income measurement involves judgment.
c. Income numbers are affected by the accounting methods employed.
d. All of these answer choices are correct.

Answer 18

c. Income numbers are affected by the accounting methods employed.

Question 19

The major elements of the income statement are
a. revenue, cost of goods sold, selling expenses, and general expense.
b. operating section, non-operating section, discontinued operations, and extraordinary items.
c. revenues, expenses, gains, and losses.
d. revenue, cost of goods sold, operating expenses, non-operating section.

Answer 19

c. revenues, expenses, gains, and losses.

Question 20

Which of the following describes an expense?
a. Inflows or other enhancements of assets of an entity or settlements of its liabilities during a period from delivering or producing goods, rendering services, or other activities that constitute the entity’s ongoing major or central operations.
b. Outflows or other using-up of assets or incurrences of liabilities during a period from delivering or producing goods, rendering services, or carrying out other activities that constitute the entity’s ongoing major or central operations.
c. Increases in equity (net assets) from peripheral or incidental transactions of an entity except those that result from revenues or investments by owners.
d. Decreases in equity (net assets) from peripheral or incidental transactions of an entity except those that result from expenses or distributions to owners.

Answer 20

b. Outflows or other using-up of assets or incurrences of liabilities during a period from delivering or producing goods, rendering services, or carrying out other activities that constitute the entity’s ongoing major or central operations.

Question 21

A multiple-step income statement
a. highlights certain components of income that analysts use to compute ratios for assessing the financial performance of companies.
b. separates operating transactions from non-operating transactions.
c. matches costs and expenses with related revenues.
d. all of these answer choices are correct.

Answer 21

d. all of these answer choices are correct.

Question 22

Carollton, Inc. has the following information is available:
Cost of goods sold $148,500
Dividend revenue 3,750
Income tax expense 3,000
Operating expenses 79,500
Sales 255,000

In Carollton’s multiple-step income statement, gross profit
a. will not be reported.
b. will be reported at $24,000.
c. will be reported at $27,000.
d. will be reported at $106,500.

Answer 22

d. will be reported at $106,500.

$255,000 – $148,500 = $106,500

Question 23

The single-step income statement emphasizes
a. the gross profit and income from operations.
b. total revenues and total expenses.
c. extraordinary items and discontinued operations more than these are emphasized in the multiple-step income statement.
d. the various components of income from continuing operations.

Answer 23

b. total revenues and total expenses.

Question 24

The occurrence which most likely would have no effect on 2021 net income (assuming that all amounts involved are material) is the
a. sale in 2021 of an office building contributed by a stockholder in 2001.
b. collection in 2021 of a receivable from a customer whose account was written off in 2020 by a charge to the allowance account.
c. settlement based on litigation in 2021 of previously unrecognized damages from a serious accident which occurred in 2019.
d. worthlessness determined in 2021 of stock purchased on a speculative basis in 2019.

Answer 24

b. collection in 2021 of a receivable from a customer whose account was written off in 2020 by a charge to the allowance account.

Question 25

The gain or loss from disposal of a component of a business is shown as a (an):
a. unusual gain or loss.
b. part of discontinued operations.
c. ordinary income
d. normal income.

Answer 25

b. part of discontinued operations.

Question 26

Which of the following statements related to noncontrolling interest is incorrect?
a. Noncontrolling interest is sometimes called minority interest.
b. Noncontrolling interest is the portion of equity interest in a subsidiary not attributable to the parent company.
c. Noncontrolling interest in net income is reported as an expense on the income statement.
d. Consolidated net income is allocated to the parent and to the noncontrolling interest in proportion to their appropriate percentages of ownership.

Answer 26

c. Noncontrolling interest in net income is reported as an expense on the income statement.

Question 27

Which of the following is true about intraperiod tax allocation?
a. It arises because certain revenue and expense items appear in the income statement either before or after they are included in the tax return.
b. It is required for ordinary items and discontinued operations but not for normal adjustments.
c. Its purpose is to allocate income tax expense evenly over a number of accounting periods.
d. Its purpose is to relate the income tax expense to the items which affect the amount of tax.

Answer 27

d. Its purpose is to relate the income tax expense to the items which affect the amount of tax.

Question 28

Which of the following items may increase retained earnings?
a. Net income.
b. Dividends.
c. Net losses.
d. None of these.

Answer 28

a. Net income.

Question 29

Limitations of the income statement include all of the following except:
a. It provides a basis for predicting future performance.
b. Companies omit items from the income statement that they cannot reliably measure.
c. Income measurement involves judgment.
d. Income numbers are affected by the accounting methods employed.

Answer 29

a. It provides a basis for predicting future performance.

Question 30

Expenses include all of the following except:
a. dividends.
b. cost of goods sold.
c. taxes.
d. depreciation.

Answer 30

a. dividends.

Question 31

Which of the following is not included in the operating section of a multiple-step income statement?
a. Cost of goods sold.
b. Income tax expense.
c. Administrative expenses.
d. Sales.

Answer 31

b. Income tax expense.

Question 32

Sonya Company prepares a consolidated income statement that includes its subsidiary, Juan Co. Sonya’s income statement shows $19,200 of net income attributable to the noncontrolling interest which is presented as
a. an item of income.
b. an item of expense.
c. an allocation of net income.
d. a gain attributable to the noncontrolling interest

Answer 32

c. an allocation of net income.

Question 33

Earnings per share
a. represents the dollar amount paid to stockholders in the form of dividends.
b. measures the number of dollars earned by each share of common stock.
c. can be reported either on the face of the income statement or in the notes to the financial statement.
d. all of these answer choices are correct.

Answer 33

b. measures the number of dollars earned by each share of common stock.