Exam 2, Exam 2 True/False

Companies recognize the gain or loss on retiring convertible debt as comprehensive income.

False

Nondetachable warrants, as with detachable warrants, require an allocation of the proceeds between the bonds and the warrants.

False

The market value method is used to account for the exercise of convertible preferred stock.

False

Unrealized holding gains and losses are recognized in net income for available-for-sale debt securities.

False

All market declines are considered temporary. Fair value adjustments at December 31, 2021 should be established with a corresponding charge against

Correct Answer $15,000$20,000

Instrument Corporation has the following investment which was held throughout 2021-2022: ​​Fair Value Cost12/31/2112/31/22 Equity investment$900,000$1,200,000$1,140,000 What amount of gain or loss would Instrument Corporation report in its income statement for the year ended December 31, 2022 related to its investment?

60,000 loss

A requirement for a security to be classified as held-to-maturity is

All of these are required.

Which of the following is not correct in regard to trading securities?

All of these choices are correct.

With respect to the computation of earnings per share, which of the following would be most indicative of a simple capital structure?

Ownership interest consisting solely of common stock

A company should allocate the proceeds from the sale of debt with detachable stock warrants between the two securities based on their market values.

True

Companies do not report changes in the fair value of available-for-sale debt securities as income until the security is sold.

True

Companies report trading securities at fair value, with unrealized holding gains and losses reported in net income.

True

If a stock dividend occurs after year-end, but before issuing the financial statements, a company must restate the weighted-average number of shares outstanding for the year.

True

If preferred stock is cumulative and no dividends are declared, the company subtracts the current year preferred dividend in computing earnings per share.

True

The recording of convertible bonds at the date of issue is the same as the recording of straight debt issues.

True

Trading securities are securities bought and held primarily for sale in the near term to generate income on short-term price differences.

True

When a company has a complex capital structure, it must report both basic and diluted earnings per share.

True

On January 2, 2021, Farr Co. issued 10-year convertible bonds at 105. During 2021, these bonds were converted into common stock having an aggregate par value equal to the total face amount of the bonds. At conversion, the market price of Farr's common stock was 50 percent above its par value. On January 2, 2021, cash proceeds from the issuance of the convertible bonds should be reported as

a liability for the entire proceeds.

Koehn Corporation accounts for its investment in the common stock of Sells Company under the equity method. Koehn Corporation should ordinarily record a cash dividend received from Sells as

a reduction of the carrying value of the investment.

Compensation expense resulting from a compensatory stock option plan is generally

allocated to the periods benefited by the employee's required service.

In computing earnings per share for a simple capital structure, if the preferred stock is cumulative, the amount that should be deducted as an adjustment to the numerator (earnings) is the

annual preferred dividend.

In applying the treasury stock method to determine the dilutive effect of stock options and warrants, the proceeds assumed to be received upon exercise of the options and warrants

are used to calculate the number of common shares repurchased at the average market price, when computing diluted earnings per share.

When computing diluted earnings per share, convertible bonds are

assumed converted only if they are dilutive.

Debt securities acquired by a corporation which are accounted for by recognizing unrealized holding gains or losses that are included as other comprehensive income and as a separate component of stockholders' equity are

available-for-sale debt securities.

A corporation issues bonds with detachable warrants. The amount to be recorded as paid-in capital is preferably

based on the relative market values of the two securities involved.

In the diluted earnings per share computation, the treasury stock method is used for options and warrants to reflect assumed reacquisition of common stock at the average market price during the period. If the exercise price of the options or warrants exceeds the average market price, the computation would

be antidilutive.

The if-converted method of computing earnings per share data assumes conversion of convertible securities as of the

beginning of the earliest period reported (or at time of issuance, if later).

When a company has acquired a "passive interest" in another corporation, the acquiring company should account for the investment

by using the fair value method.

Investments in debt securities are generally recorded at

cost including brokerage and other fees.

An available-for-sale debt security is purchased at a discount. The entry to record the amortization of the discount includes a

debit to Debt Investments.

Under the equity method of accounting for investments, an investor recognizes its share of the earnings in the period in which the

earnings are reported by the investee in its financial statements.

A correct valuation for debt securities is

held-to-maturity at amortized cost.

Securities which could be classified as held-to-maturity are

municipal bonds.

Stock warrants outstanding should be classified as

paid-in capital-stock warrants.

Proceeds from an issue of debt securities having stock warrants should not be allocated between debt and equity features when

the warrants issued with the debt securities are nondetachable.

What effect will the acquisition of treasury stock have on stockholders' equity and earnings per share, respectively?

Decrease and increase

A convertible bond issue should be included in the diluted earnings per share computation as if the bonds had been converted into common stock, if the effect of its inclusion is

Diluted Yes No

At December 31, 2021, Atlanta Company has an equity portfolio valued at $160,000. Its cost was $132,000. If the Securities Fair Value Adjustment has a debit balance of $8,000 at December 31, 2020, which of the following journal entries is required at December 31, 2021?

Fair Value Adjustment20,000 Unrealized Holding Gain or Loss-Income20,000

If an employee fails to exercise a stock option before its expiration date, the company should decrease compensation expense.

False

In computing diluted earnings per share, stock options are considered dilutive when their option price is greater than the market price.

False

The Fair Value Adjustment account has a normal credit balance.

False

The Unrealized Holding Gain/Loss—Income account for equity securities is reported as a part of other comprehensive income.

False

Under the fair value method, companies compute total compensation expense based on the fair value of options on the date of exercise.

False

When stock dividends or stock splits occur, companies must restate the shares outstanding after the stock dividend or split, in order to compute the weighted-average number of shares.

False

An investor has a long-term investment in stocks. Regular cash dividends received by the investor are recorded as

Income. A reduction of the investment

Santo Corporation declares and distributes a cash dividend that is a result of current earnings. How will the receipt of those dividends affect the investment account of the investor under each of the following accounting methods?

No EffectDecrease

Judd, Inc., owns 35% of Cosby Corporation. During the calendar year 2021, Cosby had net earnings of $300,000 and paid dividends of $30,000. Judd mistakenly recorded these transactions using the fair value method rather than the equity method of accounting. What effect would this have on the investment account, net income, and retained earnings, respectively?

Understate, understate, understate

On July 1, 2021, an interest payment date, $150,000 of Parks Co. bonds were converted into 3,000 shares of Parks Co. common stock each having a par value of $45 and a market value of $54. There is $6,000 unamortized discount on the bonds. Using the book value method, Parks would record

a $9,000 increase in paid-in capital in excess of par.

Watt Company purchased $300,000 of bonds for $315,000. If Watt intends to hold the securities to maturity, the entry to record the investment includes

a debit to Debt Investments at $315,000.

Corporations issue convertible debt for two main reasons. One is the desire to raise equity capital that, assuming conversion, will arise when the original debt is converted. The other is

that many corporations can obtain debt financing at lower rates.

Unrealized holding gains or losses which are recognized in income are from debt securities classified as

trading.