Practice Exam for Final Exam -with Solution

Ch.16:
36.Due to differences between depreciation reported in the income statement and depreciation deducted for tax purposes Lucas Corp. has two million dollars in temporary differences that will increase taxable income next year. Assuming that Lucas has no other temporary differences, deferred income taxes should be reported on this year's ending balance sheet as a: A) Current deferred asset account. B) Noncurrent deferred tax liability. C) Current deferred tax liability account. D) Noncurrent deferred tax asset account. Answer: B Learning Objective: 8 Level of Learning: 3

37.In reconciling net income to taxable income, interest earned on municipal bonds is: A) Ignored. B) A temporary difference. C) A reversing difference. D) A permanent difference. Answer: D Learning Objective: 4 Level of Learning: 3

39.Which of the following causes a permanent difference between taxable income and pretax accounting income? A) Advance collections of revenues. B) MACRS depreciation method used for equipment. C) The installment method used for sales of merchandise. D) Interest earned on municipal securities. Answer: D Learning Objective: 4 Level of Learning: 2

40. Which of the following causes a temporary difference between taxable and pretax accounting income? A) Investment expenses incurred to generate tax-exempt income. B) MACRS used for depreciating equipment. C) The dividends received deduction. D) Life insurance proceeds received due to the death of an executive. Answer: B Learning Objective: 1 Level of Learning: 2

41.SFAS 109 requires the following procedure. A) Computation of deferred tax assets and liabilities based on future temporary differences. B) Computation of deferred income tax based on permanent differences. C) Computation of income tax expense based on taxable income. D) Computation of deferred income tax based on future temporary and permanent differences.

Answer: A

Learning Objective: 1

Level of Learning: 2

42. Which of the following would never require reporting deferred tax assets or deferred tax liabilities? A) Depreciation on equipment. B) Accrual of warranty expense. C) Insurance premiums. D) Rent revenue received in advance. Answer: C Learning Objective: 4 Level of Learning: 2

43. Of the following temporary differences, which one ordinarily creates a deferred tax asset? A) Intangible drilling costs. B) MACRS depreciation. C) Rent received in advance. D) Installment sales. Answer: C Learning Objective: 2 Level of Learning: 2

44.Which of the following differences between financial accounting and tax accounting ordinarily creates a deferred tax liability? A) Interest income on municipal bonds. B) Proceeds from life insurance received due to death of an executive. C) Prepaid Rent D) None of the above. Answer: C Learning Objective: 1 Level of Learning: 2

45. Which of the following differences between financial accounting and tax accounting ordinarily creates a deferred tax asset? A) Tax depreciation in excess of book depreciation. B) Revenue collected in advance C) The installment sales method. D) None of the above. Answer: B Learning Objective: 2 Level of Learning: 2

46.The result of interperiod tax allocation is that: A) Large fluctuations in a company's tax liability are eliminated. B) The income tax expense is allocated among the income statement items that caused the expense. C) The income tax expense in the income statement is the sum of the income taxes payable for the year and the changes in deferred tax asset or liability balances for the year. D) The income tax expense shown in the income statement is equal to the deferred taxes for the year. Answer: C Learning Objective: 1 Level of Learning: 2

47. At the end of the current year, Newsmax Inc. has $400,000 of subscriptions received in advance included in its balance sheet. A footnote reveals that the entire $400,000 will be

earned in next year. In the absence of other temporary differences, in the balance sheet one would also expect to find a: A) Noncurrent deferred tax liability. B) Noncurrent deferred tax asset. C) Current deferred tax liability. D) Current deferred tax asset. Answer: D Learning Objective: 2 Level of Learning: 3

50.If a company's deferred tax asset is not reduced by a valuation allowance, the company believes it is more likely than not that: A) Sufficient financial income will be generated in future years to realize the full tax benefit. B) Sufficient financial and taxable income will exist in future years to realize the full tax benefit. C) Sufficient taxable income will be generated in future years to realize the full tax benefit. D) Tax rates will not change in future years. Answer: C Learning Objective: 5 Level of Learning: 2

52.For reporting purposes, current deferred tax assets and current deferred tax liabilities are: A) Netted against one another in the balance sheet. B) Reported separately in the balance sheet. C) Reflected only in the footnotes. D) Combined respectively with noncurrent deferred tax assets and noncurrent deferred tax liabilities in the balance sheet. Answer: A Learning Objective: 8 Level of Learning: 1

53. A deferred tax asset represents a: A) Future income tax benefit. B) Future cash collection. C) Future tax refund. D) Future amount of money to be paid out. Answer: A Learning Objective: 2 Level of Learning: 1

54. The valuation allowance account that is used in conjunction with deferred tax assets is a(n): A) Liability. B) Component of owners' equity. C) Asset. D) Contra asset. Answer: D Learning Objective: 3 Level of Learning: 1

55. The valuation allowance account that is used in conjunction with deferred taxes relates: A) Only to deferred tax liabilities. B) To both deferred tax assets and liabilities. C) Only to deferred tax assets.

D) Only to income taxes receivable due to net operating loss carrybacks. Answer: C Learning Objective: 3 Level of Learning: 1

57.Which of the following items creates a deferred tax asset? A) An unrealized loss from recording investments at fair value. B) Prepaid expenses. C) An unrealized gain from recording investments at fair value. D) Accelerated deprecation in the tax return. Answer: A Learning Objective: 2 Level of Learning: 2

58. Which of the following items creates a deferred tax liability? A) An unrealized loss from recording inventory at LCM. B) Accelerated depreciation in the tax return. C) Estimated warranty expense. D) Subscriptions collected in advance. Answer: B Learning Objective: 1 Level of Learning: 2

59. Under current tax law a net operating loss may be carried back: A) 5 years. B) 2 years. C) 15 years. D) 20 years. Answer: B Learning Objective: 7 Level of Learning: 1

60. Under current tax law a net operating loss may be carried forward up to: A) 5 years. B) 10 years. C) 15 years. D) 20 years. Answer: D Learning Objective: 7 Level of Learning: 1

66.Which of the following circumstances create future taxable amount conditions? A) Service fees collected in advance from customers: taxable when received, recognized for financial reporting when earned. B) Accrued compensation costs for future payments. C) Straight-line depreciation for financial reporting and accelerated depreciation for tax reporting. D) Investment expenses incurred to obtain tax-exempt income (not tax deductible). Answer: C Learning Objective: 1 Level of Learning: 1

67. Which of the following circumstances create future deductible amount conditions? A) Earning of non-taxable interest on municipal bonds B) Sales of property (installment method for tax purposes) C) Prepaid operating expenses D) Accrued warranty expenses

Answer: D

Learning Objective: 2

Level of Learning: 1

69.A magazine publisher collects one year in advance for subscription revenue. In the year of providing the magazines, the company would record: A) An increase in a deferred tax asset. B) A decrease in a deferred tax asset. C) An increase in a deferred tax liability. D) A decrease in a deferred tax liability. Answer: B Learning Objective: 2 Level of Learning: 2

70. In 2006, Magic Table Inc. decides to add a 36 month warranty on its new product sales that is tax deductible when claims are settled. In its financial statements for 2006, Magic Table Inc incurs: A) An increase in a deferred tax asset. B) A decrease in a deferred tax asset. C) An increase in a deferred tax liability. D) A decrease in a deferred tax liability. Answer: A Learning Objective: 2 Level of Learning: 2

71. Which of the following usually results in increases in deferred tax assets? A) Accelerated depreciation for tax reporting and straight-line depreciation for financial reporting B) Prepaid insurance C) Subscriptions delivered for which customers had paid in advance D) None of the above is correct. Answer: D Learning Objective: 2 Level of Learning: 2

72. Which of the following usually results in increases in deferred tax liabilities? A) Accrual of estimated operating expenses B) Revenue collected in advance C) Prepaid operating expenses D) All of the above are correct. Answer: C Learning Objective: 1 Level of Learning: 2

Ch.17:
50.Which of the following statements typifies defined contribution plans? A) Investment risk is borne by the corporation sponsoring the plan. B) The plans are more complex than defined benefit plans. C) Present value factors are used to determine the annual contributions to the plan. D) The employer's obligation is satisfied by making the periodic contribution to the plan. Answer: D Learning Objective: 1 Level of Learning: 2

54.Which of the following describes defined benefit pension plans?

A) They raise few accounting issues for employers. B) Retirement benefits depend on how much money has accumulated in an individual's account. C) They are simple to construct. D) Retirement benefits are based on the plan benefit formula. Answer: D Learning Objective: 1 Level of Learning: 1

55. Which of the following describes defined benefit pension plans? A) The investment risk is borne by the employee. B) The plans are simple and easy to construct. C) The investment risk is borne by the employer. D) Retirement benefits depend on the individual's account balance. Answer: C Learning Objective: 1 Level of Learning: 1

56.Pension expense is decreased by: A) Amortization of prior service cost. B) Amortization of unrecognized net gain. C) Benefits paid to retired employees. D) Prior service cost. Answer: B Learning Objective: 5 Level of Learning: 1

57. The PBO is increased by: A) An increase in the average life expectancy of employees. B) Amortization of prior service cost. C) An increase in the actuary's assumed discount rate. D) A return on plan assets that is lower than expected. Answer: A Learning Objective: 3 Level of Learning: 2

66.Which of the following is a correct statement concerning the reporting of the pension plan on the face of the balance sheet? A) Only the plan assets are reported. B) Only the pension obligation is reported. C) Both the pension obligation and the plan assets are reported. D) Neither the pension obligation nor the plan assets are reported. Answer: D Learning Objective: 7 Level of Learning: 1

67. SFAS 87 applies to: A) Defined benefit pension plans. B) Defined contribution pension plans. C) Post employment health plans. D) Defined benefit and defined contribution plans. Answer: A Learning Objective: 1 Level of Learning: 1

71.The portion of the obligation that plan participants are entitled to receive regardless of their continued employment is called the:

A) B) C) D)

Vested benefit obligation. Retiree benefit obligation. Actual benefit obligation. True benefit obligation. Level of Learning: 1

Answer: A Learning Objective: 2

72. Which of the following is true? A) A projected benefits approach is used to determine minimum pension liability. B) An accumulated benefits approach is used to determine the periodic pension expense. C) A vested benefits approach is used to determine the periodic pension expense. D) An accumulated benefits approach is used to determine the minimum pension liability. Answer: D Learning Objective: 7 Level of Learning: 1

73. Consider the following: I. present value of vested benefits at present pay levels II. present value of nonvested benefits at present pay levels III. present value of additional benefits related to projected pay increases Which of the above constitutes the accumulated benefit obligation? A) I & II. B) I, II, III. C) II & III. D) II only. Answer: A Learning Objective: 2 Level of Learning: 2

76.Interest cost will: A) Increase the PBO and increase pension expense. B) Increase pension expense and reduce plan assets. C) Increase the PBO and reduce plan assets. D) Increase pension expense and reduce the return on plan assets. Answer: A Learning Objective: 3 Level of Learning: 1

78.Compared to the ABO, the PBO usually is: A) Less material. B) Less representationally faithful. C) Less relevant. D) Less reliable. Answer: D Learning Objective: 2 Level of Learning: 1

79.Compared to the PBO, the ABO usually is: A) More relevant. B) More representationally faithful. C) More reliable. D) More material.

Answer: C Learning Objective: 2

Level of Learning: 1

80. The projected benefit obligation is computed by actuaries using: A) Future value concepts. B) Present value concepts. C) Market value concepts. D) Fair value concepts. Answer: B Learning Objective: 2 Level of Learning: 1

81.The component of pension expense that results from amending a pension plan to give recognition to previous service of currently enrolled employees is called: A) Prior service costs. B) Previous service costs. C) Retiree service costs. D) Transition costs. Answer: A Learning Objective: 6 82. Payment of retirement benefits: A) Increases the PBO. B) Increases the ABO. C) Reduces the GBO. D) Reduces the PBO. Answer: D Learning Objective: 3 Level of Learning: 2 Level of Learning: 1

83. An underfunded pension plan means that: A) PBO is less than plan assets. B) PBO exceeds plan assets. C) ABO is less than plan assets. D) ABO exceeds plan assets. Answer: B Learning Objective: 3 Level of Learning: 2

88.Conceptually, the pension liability is best measured by the: A) Minimum pension liability. B) Accrued pension costs. C) Accumulated benefit obligation. D) Projected benefit obligation. Answer: D Learning Objective: 6 Level of Learning: 1

93.Accounting for postretirement benefits is similar, in most respects, to accounting for: A) Payroll taxes. B) Health insurance costs for current employees. C) Pensions. D) Sick pay and vacation pay. Answer: C Learning Objective: 8 Level of Learning: 1

102.The postretirement benefit obligation is the: A) Future value of the estimated benefits during retirement. B) Present value of the estimated benefits during retirement. C) Fair value of the estimated benefits during retirement. D) Actual value of estimated benefits during retirement. Answer: B Learning Objective: 9 Level of Learning: 2

105. The process of assigning the cost of benefits to the years during which those benefits are assumed to be earned by employees is called: A) Restitution. B) Retribution. C) Attribution. D) Assignation. Answer: C Learning Objective: 9 Level of Learning: 1

Use the following to answer questions 122-125: The following information reconciles the funded status of Havana Corporation's defined benefit pension plan with the amount reported in its balance sheet for the prepaid (accrued) pension: ($ in 000s) 2006 Beginning balances ($6,000) 5,760 ($240) 600 720 $ 1,080 2006 Ending balances ($6,504) 6,336 ($168) 552 672 $ 1,056

Projected benefit obligation Plan assets Funded status Unamortized prior service cost Unamortized net loss Prepaid (accrued) pension cost

At the end of 2006, Havana contributed $696 thousand to the pension fund and benefit payments of $624 thousand were made to retirees. The expected rate of return on plan assets was 10%, and the actuary's discount rate is 8%. There were no changes in actuarial estimates and assumptions regarding the PBO. 122. What is Havana's 2006 actual return on plan assets? A) $504 thousand B) $618 thousand C) $1,128 thousand D) None of the above is correct. Answer: A Learning Objective: 4 Level of Learning: 3 Rationale: The computation ($ in 000s) is as follows: Plan assets Beginning of 2006 $5,760 Actual return ? 504 Cash contributions 696 Less: Retiree benefits (624)

End of 2006

$6,336

123. What is Havana's 2006 gain or loss on plan assets? A) $115.2 thousand B) $160.8 thousand C) $276 thousand D) None of the above is correct. Answer: D Learning Objective: 4 Level of Learning: 3 Rationale: The computation (in $ 000s) is as follows: Expected return $576 (10% x $5,760) Actual return (504) from question 122 Loss on plan assets $ 72 124. What is the 2006 service cost for Havana's plan? A) $276 thousand B) $528 thousand C) $648 thousand D) Cannot be determined from the given information. Answer: C Learning Objective: 3 Level of Learning: 3 Rationale: The computation is as follows: Beginning of 2006 $6,000 Service cost ? $648 Interest cost 480 (8% x $6,000) Loss (gain) on PBO 0 Less: Retiree benefits (624) End of 2006 $6,504 125.What is the 2006 pension expense for Havana's plan? A) $594 thousand B) $606 thousand C) $678 thousand D) None of the above is correct. Answer: B Learning Objective: 5 Level of Learning: 3 Rationale: The computation is as follows: Service cost $ 648 (from question 124) Interest cost 480 (8% x $6,000) less: Expected return on plan assets (576) (10% x $5,760) Amortization of: a. Prior service cost 48 ($600 - 552) b. Net loss 6 ($720 - 642 - 72*) Pension expense $606 * 2006 gain on plan assets 132.A company's defined benefit pension plan had a PBO of $265,000 on January 1, 2006.

During 2006, pension benefits paid were $40,000. The actuarial discount rate for the plan for this year was 10%. Service cost for 2006 was $80,000. Plan assets (fair value) increased during the year by $45,000. The amount of the PBO at December 31, 2006, was: A) $225,000. B) $305,000. C) $331,500. D) None of the above is correct. Answer: C Learning Objective: 3 Rationale: PBO/1/1 Service cost Interest cost ($265,000 x 10%) Benefits paid PBO 12/31 Level of Learning: 3 $265,000 80,000 26,500 (40,000 $331,500

133.Scallion Company received the following reports on its defined benefit pension plan for the current calendar year: PBO Balance, January 1 Service cost Interest cost Benefits paid Balance, December 31 $400,000 195,000 32,000 (80,000) $547,000 Plan assets Balance, January 1 Actual return Annual contribution Benefits paid Balance, December 31 $250,000 25,000 110,000 (80,000) $305,000

The long-term expected rate of return on plan assets is 10%. Assuming no other data are relevant, what is the pension expense for the year? A) $195,000. B) $227,000. C) $172,000. D) $202,000. Answer: D Learning Objective: 5 Rationale: Service cost Interest cost Expected return on plan assets Pension expense Level of Learning: 3 $195,000 32,000 (25,000 ) $202,000

134.Fox Company received the following reports on its defined benefit pension plan for the current calendar year: PBO Balance, January 1 Service cost Interest cost Benefits paid Balance, December 31 $600,000 360,000 64,000 (90,000) $934,000 Plan assets Balance, January 1 Actual return Annual contribution Benefits paid Balance, December 31 $500,000 50,000 220,000 (90,000) $680,000

The long-term expected rate of return on plan assets is 8%. Assuming no other data are relevant, what is the pension expense for the year? A) $384,000. B) $360,000. C) $424,000. D) $374,000. Answer: A Learning Objective: 5 Rationale: Service cost Interest cost Expected return on plan assets Pension expense Ch.18: 54.The two primary components of shareholders' equity are: A) Preferred stock and retained earnings. B) The par value of common stock plus retained earnings. C) Paid-in capital and retained earnings. D) Preferred and common stock. Answer: C Learning Objective: 1 Level of Learning: 1 Level of Learning: 3 $360,000 64,000 (40,000 ) $384,000

59.The preemptive right refers to the shareholder's right to: A) Maintain a proportional ownership interest in the corporation. B) Vote for members of the board of directors. C) Receive a share of dividends. D) Share in profits proportionally with all other stockholders. Answer: A Learning Objective: 3 Level of Learning: 1

62.Preferred stock is called preferred because it usually has two preferences. These preferences relate to: A) Dividends and voting rights. B) Par value and dividends. C) The preemptive right and voting rights. D) Assets at liquidation and dividends. Answer: D Learning Objective: 7 Level of Learning: 1

67.Outstanding common stock is: A) Stock that is performing well on the New York Stock Exchange. B) Stock that has been authorized by the state for issue. C) Stock held in the corporate treasury. D) Stock in the hands of shareholders. Answer: D Learning Objective: 1 Level of Learning: 1

68. Issued stock refers to the number of shares: A) Outstanding plus treasury shares. B) Shares issued for cash. C) In the hand of shareholders. D) That may be issued under state law. Answer: A Learning Objective: 1 Level of Learning: 1

72.Treasury shares are most often reported as: A) A reduction of total shareholders' equity. B) A reduction of total paid-in capital. C) A reduction to retained earnings. D) An expense on the income statement. Answer: A Learning Objective: 5 Level of Learning: 1

74.When treasury shares are resold at a price below cost: A) Paid-in capital and/or retained earnings is reduced. B) Paid-in capital and/or retained earnings is increased. C) Retained earnings is always reduced. D) A loss is taken on the income statement. Answer: A Learning Objective: 5 Level of Learning: 2

75. When treasury stock is purchased for an amount greater than its par value, what is the effect on total shareholders' equity? A) Increase B) Decrease C) No effect D) Cannot tell from the given information. Answer: B Learning Objective: 5 Level of Learning: 2

76. When stock is issued in exchange for property, the best evidence of market value might be any of the following except: A) The appraised value of the property received. B) The selling price of the stock in a recent transaction. C) The price of the stock quoted on the stock exchange. D) The average book value of outstanding stock. Answer: D Learning Objective: 3 Level of Learning: 2

82.When dividends are declared in one fiscal year and paid in the next fiscal year, the liability for the dividend should be recorded as of the: A) Date the dividend is declared. B) Last day of the fiscal year. C) Date of record. D) Date of payment. Answer: A Learning Objective: 7 Level of Learning: 1

83. When a property dividend is declared, the reduction in retained earnings is for: A) The book value of the property on the date of declaration. B) The book value of the property on the date of distribution. C) The fair market value of the property on the date of distribution. D) The fair market value of the property on the date of declaration. Answer: D Learning Objective: 7 Level of Learning: 2

86.When a property dividend is declared, the property to be distributed should be revalued to fair market value as of the: A) Record date. B) Date of distribution. C) Date of declaration. D) Announcement date. Answer: C 87. A) B) C) D) Learning Objective: 7 Level of Learning: 2

The declaration and issuance of a common stock dividend: Has no effect on assets, liabilities, or total shareholders' equity. Decreases total shareholders' equity and increases common stock. Decreases assets and decreases total shareholders' equity. Does not change retained earnings or paid-in capital. Learning Objective: 8 Level of Learning: 1

Answer: A

88. Stock splits are issued primarily to: A) Increase the number of outstanding shares. B) Increase the number of authorized shares. C) Increase legal capital. D) Induce a decline in market value per share. Answer: D Learning Objective: 8 Level of Learning: 1

89. A small stock dividend is defined as one that is: A) Less than or equal to 25%. B) Less than 20%. C) Less than or equal to 20%. D) Less than 25%. Answer: D Learning Objective: 8 Level of Learning: 1

90. The common stock account on a company's balance sheet is measured as: A) The number of common shares outstanding x the stock's par value per share. B) The number of common shares outstanding x the stock's current market value per share. C) The number of common shares issued x the stock's par value per share. D) None of the above is correct. Answer: C Learning Objective: 1 Level of Learning: 1

100. Pug Corporation has 10,000 shares of $10 par common stock outstanding and 20,000 shares of $100 par, 6% noncumulative, nonparticipating preferred stock outstanding. Dividends have not been paid for the past two years. This year, a $150,000 dividend will be paid. What are the dividends per share for preferred and common, respectively? A) $7.50; $0. B) $6; $3. C) $6; $1.50. D) None of the above is correct. Answer: C Learning Objective: 7 Level of Learning: 3 Rationale: Preferred: $6 per share x 20,000 = $120,000 Common: ($150,000 - $120,000)/20,000 = $1.50 101. Beagle Corporation has 20,000 shares of $10 par common stock outstanding and 10,000 shares of $100 par, 6% cumulative, nonparticipating preferred stock outstanding. Dividends have not been paid for the past two years. This year, a $300,000 dividend will be paid. What are the dividends per share payable to preferred and common, respectively? A) $6; $12. B) $18; $6. C) $6; $6. D) None of the above is correct. Answer: B Learning Objective: 7 Level of Learning: 3 Rationale: Preferred: $6 x 3 x 10,000 = $180,000 Common: ($300,000 - $180,000)/20,000 = $6 109.The board of directors of Capstone Inc. declared a $0.60 per share cash dividend on its $1 par common stock. On the date of declaration, there were 50,000 shares authorized, 20,000 shares issued, and 5,000 shares held as treasury stock. What is the entry for the dividend declaration? A) Retained earnings 9,000 Dividends payable 9,000 B) Retained earnings 9,000 Cash 9,000 C) Retained earnings 10,000 Dividends payable 10,000 D) Retained earnings 10,000 Cash 10,000 Answer: A Learning Objective: 7 Level of Learning: 3 Rationale: Retained earnings [(20,000 5,000) x $.60] 9,000 Dividends payable 9,000 110. On October 1, 2006, Chief Corporation declared and issued a 10% stock dividend. Prior to this date, Chief had 80,000 shares of $5 par common stock outstanding. The market value of Chief Corporation on the date of declaration was $10 per share. As a result of this dividend, Chief's retained earnings will:

A) B) C) D)

Decrease by $80,000. Not change. Decrease by $40,000. Increase by $80,000.

Answer: A Learning Objective: 6 Level of Learning: 3 Rationale: Retained earnings (8,000 shares x $10/share) 80,000 Common stock (8,000 shares x $5/share) 40,000 Paid-in capitalexcess of par 40,000 111. Lucid Company declared a property dividend of 20,000 shares of $1 par Polk Company common stock. The Polk stock was purchased for $5 per share. Market value was $10 per share on the declaration date and $11 per share on the distribution date. What is the amount of the dividend? A) $100,000. B) $200,000. C) $220,000. D) $300,000. Answer: B Learning Objective: 7 Rationale: 20,000 x $10 = $200,000 Level of Learning: 3

Use the following to answer questions 112-114: As of December 31, 2006, Warner Corporation reported the following: Dividends payable Treasury stock Paid-in capital share repurchase Other paid-in capital accounts Retained earnings 20,000 600,000 20,000 4,000,000 3,000,000

During 2007, half of the treasury stock was resold for $240,000; net income was $600,000; cash dividends declared were $1,500,000; and stock dividends declared were $500,000. 112. What was shareholders' equity as of December 31, 2006? A) $7,020,000. B) $6,440,000. C) $6,420,000. D) $6,400,000. Answer: C Learning Objective: 1 Rationale: Paid-in capital share repurchase Other paid-in capital accounts Retained earnings Treasury stock Total shareholders equity Level of Learning: 3 $ 20,000 4,000,000 3,000,000 (600,000 ) $6,420,000

113. The 2007 sale of half of the treasury stock would:

A) B) C) D)

Reduce income before tax by $60,000. Reduce retained earnings by $60,000. Increase total shareholders' equity by $300,000. Decrease retained earnings by $40,000. Learning Objective: 5 Level of Learning: 3 240,00 0 20,000 40,000 300,00 0

Answer: D Rationale: Cash

Paid-in capital share repurchase Retained earnings Treasury stock ($600,000/2)

114. What would shareholders' equity be as of December 31, 2007? A) Amount is not shown. B) $5,760,000. C) $5,820,000. D) $6,760,000. Answer: B Rationale: Learning Objective: 1 Level of Learning: 3 Retained Earnings $3,000,000 Treasury (Dr) Cr Stock Total $(600,000 ) $6,420,000

12/31/2006 Sale of Treasury Stock Net Income Cash Dividends Stock Dividends

Paid-in Capital Other Paid-in Share Capital Repurchase Accounts $20,000 $4,000,000 (20,000 ) _________ $0 500,000 $4,500,000

(40,000 ) 300,000 240,000 600,000 600,000 (1,500,000 ) (1,500,000 ) (500,000 ) ________ ________ $1,560,000 $(300,000 ) $5,760,000

Ch.19:
42.A primary goal of earnings per share determination is: A) Conservatism. B) Comparability. C) Materiality. D) Objectivity. Answer: B Learning Objective: 12 Level of Learning: 1

48.When computing earnings per share, noncumulative preferred dividends not declared should be: A) Ignored. B) Deducted from earnings for the year. C) Added to earnings for the year. D) Deducted, net of tax effect, from earnings for the year.

Answer: A

Learning Objective: 8

Level of Learning: 1

49. When computing earnings per share, cumulative preferred dividends not declared should be: A) Deducted from earnings for the year. B) Deducted, net of tax effect, from earnings for the year. C) Added to earnings for the year. D) Ignored. Answer: A Learning Objective: 8 Level of Learning: 1

50. Basic earnings per share is computed using: A) The actual number of common shares outstanding at the end of the year. B) A weighted-average of preferred and common shares. C) The number of common shares outstanding plus common stock equivalents. D) Weighted-average common shares outstanding for the year. Answer: D Learning Objective: 6 Level of Learning: 1

55.When computing diluted earnings per share, which of the following will be omitted from the calculation? A) Dividends paid on common stock. B) The weighted average common shares. C) The effect of stock splits. D) The number of common shares represented by stock purchase warrants. Answer: A Learning Objective: 6 Level of Learning: 1

56. When computing diluted earnings per share, stock options: A) Are included if they are antidilutive. B) Should be ignored. C) Are included if they are dilutive. D) Increase the numerator while not affecting the denominator. Answer: C Learning Objective: 9 Level of Learning: 2

57. Basic and diluted earnings per share data are required to be reported: A) In footnotes to the financial statements. B) Only if they add to the relevance of the income statement. C) In the summary section of the annual report. D) On the face of the income statement. Answer: D Learning Objective: 12 Level of Learning: 2

58.Which of the following will require a recalculation of weighted-average shares outstanding for all years presented? A) Stock dividends and stock splits. B) Stock dividends but not stock splits. C) Stock splits but not stock dividends. D) Stock rights.

Answer: A

Learning Objective: 9

Level of Learning: 2

59. All other things equal, what is the effect on earnings per share when a corporation acquires shares of its own stock on the open market? A) Decrease. B) No effect if the shares are held as treasury shares. C) Increase only if the shares are considered to be retired. D) Increase. Answer: D Learning Objective: 7 Level of Learning: 2

60. If a stock dividend were distributed, when calculating the current year's EPS, the shares distributed are treated as having been issued: A) At the end of the year. B) At the beginning of the year. C) On the declaration date. D) On the date of distribution. Answer: B Learning Objective: 7 Level of Learning: 2

61. If a stock split occurred, when calculating the current year's EPS, the shares are treated as issued: A) At the end of the year. B) On the first day of the next fiscal year. C) At the beginning of the year. D) On the date of distribution. Answer: C Learning Objective: 7 Level of Learning: 1

66. Which of the following is not a potential common stock? A) Convertible preferred stock. B) Convertible bonds. C) Stock rights. D) Participating preferred stock. Answer: D Learning Objective: 5 Level of Learning: 1

67. Basic earnings per share ignores: A) All potential common shares. B) Some potential common shares, but not others. C) Dividends declared on noncumulative preferred stock. D) Stock splits. Answer: A Learning Objective: 5 Level of Learning: 1

69.Stock options do not affect the calculation of: A) Diluted EPS. B) Weighted-average common shares. C) The denominator in the diluted EPS fraction. D) Basic EPS.

Answer: D

Learning Objective: 9

Level of Learning: 2

70. The calculation of diluted earnings per share assumes that stock options were exercised and that the proceeds were used to: A) Buy common stock as an investment. B) Retire preferred stock. C) Buy treasury stock. D) Increase net income. Answer: C Learning Objective: 9 Level of Learning: 2

72.When we assume conversion of convertible bonds, the numerator is increased by: A) The amount of after-tax interest. B) The gross amount of interest. C) The weighted-average interest. D) The amount of cash paid during the current year for interest. Answer: A Learning Objective: 10 Level of Learning: 1

73. When we take into account the dilutive effect of stock options, rights, and warrants in the calculation of EPS, the method used is called the: A) Optional method. B) If converted method. C) Dilution method. D) Treasury stock method. Answer: D Learning Objective: 9 Level of Learning: 1

74. When we take into account the dilutive effect of convertible securities in the calculation of EPS, the method used is called the: A) Treasury stock method. B) If converted method. C) Optional method. D) Dilution method. Answer: B Learning Objective: 10 Level of Learning: 1

79.Contingently issuable shares may be included in: A) Basic EPS. B) Diluted EPS. C) Both A and C. D) None of the above is correct. Answer: B Learning Objective: 11 Level of Learning: 1

Use the following to answer questions 87-88: During 2006, Falwell Inc. had 500,000 shares of common stock and 50,000 shares of 6% cumulative preferred stock outstanding. The preferred stock has a par value of $100 per share. Falwell did not declare or pay any dividends during 2006.

Falwell's net income for the year ended December 31, 2006, was $2.5 million. The income tax rate is 40%. Falwell granted 10,000 stock options to its executives on January 1 of this year. Each option gives its holder the right to buy 20 shares of common stock at an exercise price of $29 per share. The market price of the common stock averaged $30 per share during 2006, and the price on 12/31/06 was $33. 87. What is Falwell's basic earnings per share for 2006, rounded to the nearest cent? A) $3.14 B) $4.40 C) $5.00 D) None of the above is correct. Answer: B Rationale: net income $2,500,000 Learning Objective: 9 preferred dividends - (50,000 x $100 x 6%) $2,200,000 500,000 shares = $4.40/share Level of Learning: 3

= 500,000 common shares

88. What is Falwell's diluted earnings per share for 2006, rounded to the nearest cent? A) $3.14 B) $4.90 C) $4.34 D) Cannot determine from the given information. Answer: C Learning Objective: 9 Level of Learning: 3 Rationale: The computation ($ in 000's) is as follows: net preferred income $2,500,000 dividends - (50,000 x $100 x 6%) $2,200,000 506,667 shares = $4.34/share

= 500,000 + 6,667 * common shares net shares added from on 1/1/06 conversion of options

*10,000 options x 20 shares/option = 200,000 shares; Proceeds = 200,000 x $29 = $5,800,000 $5,800,000 / $30 per share = 193,333 shares of treasury stock Net shares added = 200,000 - 193,444 = 6,667 Use the following to answer questions 89-90:

During 2006, Angel Corporation had 900,000 shares of common stock and 50,000 shares of 6% preferred stock outstanding. The preferred stock does not have cumulative or convertible features. Angel declared and paid cash dividends of $300,000 and $150,000 to common and preferred shareholders, respectively, during 2006. On January 1, 2005, Angel issued $2,000,000 of convertible 5% bonds at face value. Each $1,000 bond is convertible into 5 common shares. Angel's net income for the year ended December 31, 2006, was $6 million. The income tax rate is 20%. 89. What is Angel's basic earnings per share for 2006, rounded to the nearest cent? A) $5.29 B) $5.57 C) $6.50 D) None of the above is correct. Answer: C Learning Objective: 5 Level of Learning: 3

Rationale: The basic EPS is $6.50. The computation is as follows: net preferred income $6,000,000 dividends 150,000 $5,850,000 900,000 shares = $6.50/share

= 900,000 common shares

90. What will Angel report as diluted earnings per share for 2006, rounded to the nearest cent? A) $6.43 B) $6.25 C) $6.22 D) None of the above is correct. Answer: D Rationale: Learning Objective: 10 Level of Learning: 3

net

preferred

after-tax

income dividends interest savings $6,000,000 150,000 + $80,000* = $6.52/share** 900,000 + (2,000 x 5) shares conversion at Jan. 1 of bonds

$5,930,000 = 910,000 shares

* (2,000,000 x 5%) = $100,000 in interest; $100,000 x 20% = $20,000 in tax savings So, after-tax interest cost = $80,000. **Because, this increases EPS, it is antidilutive. Only $6.50 basic EPS will be reported. 100.On December 31, 2005, Albacore Company had 300,000 shares of common stock issued and outstanding. Albacore issued a 10% stock dividend on June 30, 2006. On September 30, 2006, 12,000 shares of common stock were reacquired as treasury stock. What is the appropriate number of shares to be used in the basic earnings per share computation for 2006? A) 303,000. B) 342,000. C) 312,000. D) 327,000. Answer: D Learning Objective: 2 Level of Learning: 3 Rationale: (300,000 x 1.10) (12,000 x 3/12) = 327,000 101. On December 31, 2005, Beta Company had 300,000 shares of common stock issued and outstanding. Beta issued a 5% stock dividend on June 30, 2006. On September 30, 2006, 40,000 shares of common stock were reacquired as treasury stock. What is the appropriate number of shares to be used in the basic earnings per share computation for 2006? A) 315,000. B) 307,500. C) 305,000. D) 267,500. Answer: C Learning Objective: 7 Level of Learning: 3 Rationale: (300,000 x 1.05) (40,000 x 3/12) = 305,000 102. On December 31, 2005, the Bennett Company had 100,000 shares of common stock issued and outstanding. On July 1, 2006, the company sold 20,000 additional shares for cash. Bennett's net income for the year ended December 31, 2006 was $650,000. During 2006, Bennett declared and paid $89,000 in cash dividends on its nonconvertible preferred stock. What is the 2006 basic earnings per share? A) $5.91. B) $5.61. C) $5.10.

D) None of the above is correct. Answer: C Learning Objective: 7 Level of Learning: 3 Rationale: $650,000 $89,000 $561,000 = = $5.10 100,000 + ( 20,000 6 / 12) 110,000 103.On December 31, 2005, the Frisbee Company had 250,000 shares of common stock issued and outstanding. On March 31, 2006, the company sold 50,000 additional shares for cash. Frisbee's net income for the year ended December 31, 2006 was $700,000. During 2006, Frisbee declared and paid $80,000 in cash dividends on its nonconvertible preferred stock. What is the 2006 basic earnings per share? A) $2.16. B) $3.50. C) $3.10. D) $2.80. Answer: A Learning Objective: 6 Level of Learning: 3 Rationale: $700,000 $80,000 $620,000 = = $2.16 250,000 + (50,000 x 9/12) 287,500 104.Flyaway Travel Company reported net income for 2006 in the amount of $90,000. During 2006, Flyaway declared and paid $2,125 in cash dividends on its nonconvertible preferred stock. Flyaway also paid $10,000 cash dividends on its common stock. Flyaway had 40,000 common shares outstanding from January 1 until 10,000 new shares were sold for cash on April 1, 2006. What is the 2006 basic earnings per share? A) $1.85. B) $1.64. C) $1.76. D) None of the above is correct Answer: A Learning Objective: 6 Level of Learning: 3 Rationale: $90,000 $2,125 $87,875 = = $1.85 40,000 + (10,000 9 / 12) 47,500 105. Getaway Travel Company reported net income for 2006 in the amount of $50,000. During 2006, Getaway declared and paid $2,000 in cash dividends on its nonconvertible preferred stock. Getaway also paid $10,000 cash dividends on its common stock. Getaway had 40,000 common shares outstanding from January 1 until 10,000 new shares were sold for cash on July 1, 2006. A 2-for-1 stock split was granted on July 5, 2006. What is the 2006 basic earnings per share? A) $.42. B) $.47. C) $.53. D) $.56. Answer: C Learning Objective: 7 Level of Learning: 3

Rationale: $50,000 $2,000 $48,000 = = $.53 (40,000 x 2) + (10,000 x 6/12 x 2) 90,000 106.Baldwin Company had 40,000 shares of common stock outstanding on January 1, 2006. On April 1, 2006 the company issued 20,000 shares of common stock. The company had outstanding stock options for 10,000 shares exercisable at $10 that had not been exercised by its executives. The end-of-year market price of common stock was $11 while the average price for the year was $12. What number of shares of stock should be used in computing diluted earnings per share? A) 65,000. B) 56,667. C) 55,000. D) 61,667. Answer: B Learning Objective: 9 Level of Learning: 3 Rationale: 40,000 + (20,000 x 9/12) + (10,000 - 8,333*) = 56,667 *(10,000 x $10)/$12 = 8,333 107. Blue Cab Company had 50,000 shares of common stock outstanding on January 1, 2006. On April 1, 2006, the company issued 20,000 shares of common stock. The company had outstanding stock options for 5,000 shares exercisable at $10 that had not been exercised by its executives. The end-of-year market price of common stock was $11 while the average price for the year was $12. The company reported net income in the amount of $269,915 for 2006. What is the diluted earnings per share? A) $3.60. B) $4.10. C) $4.50. D) $3.81. Answer: B Learning Objective: 9 Level of Learning: 3 Rationale: $269,915 = $4.10 65,833 * *(5,000 x $10) / $12 = 4,167 from options, plus 50,000 + (20,000 x 9/12). 109. Burnet Company had 30,000 shares of common stock outstanding on January 1, 2006. On April 1, 2006, the company issued 15,000 shares of common stock. The company had outstanding stock options for 5,000 shares exercisable at $10 that had not been exercised by its executives. The end-of-year market price of common stock was $8 while the average for the year was $9. The company reported net income in the amount of $189,374 for 2006. What is the effect of the options? A) The options are antidilutive. B) The options will dilute EPS by $.09 per share. C) The options will dilute EPS by $.33 per share. D) The options will dilute EPS by $.17 per share. Answer: A Learning Objective: 9 Level of Learning: 3 Rationale: Market price is less than exercise price, so the options are ignored when computing EPS.

110. At December 31, 2006, Hansen Corporation had 50,000 shares of common stock and 5,000 shares of 6%, $100 par cumulative preferred stock outstanding. No dividends were declared or paid in 2006. Net income was reported as $200,000. What is basic EPS? A) $4.00. B) $3.40. C) $3.64. D) $4.02. Answer: B Learning Objective: 8 Rationale: $200,000 30,000 $170,000 = = $3.40 50,000 50,000 Use the following to answer questions 111-112: Rudyard Corporation had 100,000 shares of common stock and 10,000 shares of 8%, $100 par convertible preferred stock outstanding during the year. Net income for the year was $400,000 and dividends were paid to both common and preferred shareholders. Rudyard's effective tax rate is 40%. Each share of preferred stock is convertible into 5 shares of common. 111. What is Rudyard's basic EPS? A) $2.13. B) $4.80. C) $4.00. D) $3.20. Answer: D Learning Objective: 8 Rationale: $400,000 $80,000 = $3.20 100,000 112.What is Rudyard's diluted EPS? A) $2.13 B) $2.67 C) $3.20 D) $4.80 Answer: B Learning Objective: 10 Level of Learning: 3 Rationale: $400,000 $400,000 = = $2.67 100,000 + (10,000 5) 150,000 115.Dublin Inc. had the following common stock record during the current calendar year: Outstanding - beginning of year Additional shares issued 6/30 Additional shares issued 9/30 2,000,000 100,000 100,000 Level of Learning: 3 Level of Learning: 3

A 10% stock dividend was paid on December 1. What is the number of shares to be used in computing basic EPS? A) 2,075,000. B) 2,282,500. C) 2,475,000. D) 2,620,000. Answer: B Learning Objective: 7 Level of Learning: 3 Rationale: [2,000,000 + (100,000 x 6/12) + (100,000 x 3/12)] x 1.10 = 2,282,500 116. During the current year, East Corporation had 2 million shares of common stock outstanding. Two thousand, $1,000, 8% convertible bonds were issued at face amount at the beginning of the year. East reported income before tax of $3 million and net income of $1.8 million for the year. Each bond is convertible into ten shares of common stock. What is diluted EPS? A) $.90. B) $.95. C) $.89. D) $.94. Answer: D Learning Objective: 10 Level of Learning: 3 Rationale: $1,800,000 + [$160,000 x (1 - 40%*)] $1,896,000 = = $.94 2,000,000 + (2,000 x 10) 2,020,000 *($3-$1.8)/$3 = 40% 117. Morrison Corporation had the following common stock record during the current calendar year: Outstanding - January 1 Additional shares issued 3/31 Distributed a 10% stock dividend on 6/30 Additional shares issued 9/30 2,000,000 100,000 100,000

What is the number of shares to be used in computing basic EPS? A) 2,000,000. B) 2,200,000. C) 2,307,500. D) 2,310,000. Answer: C Learning Objective: 7 Level of Learning: 3 Rationale: ($2,000,000 x 1.10) + (100,000 x 9/12 x 1.10) + (100,000 x 3/12) = 2,307,500