Chapter 3 - Intermediate Accounting Spiceland 9e

Discuss the role of management intent in the preparation of a classified Balance Sheet, including two variations in reporting that could result, depending upon specific intentions that may be present, for at least two components of the Balance Sheet

A classified Balance Sheet separates assets and liabilities between current and non-current (or long-term). Determining whether an asset or liability is current or non-current depends very much on management intent. The classification of current is used for assets that are expected to convert to cash within 12 months or liabilities that are expected to be paid or come due within 12 months. Accounts receivable would normally be classified as current, but only if management intends on collecting the balances within 12 months. If not, then accounts receivable would be non current. Similarly, management's intention with regard to paying interest owed, for example, would determine whether the interest payable liability is reported as a current liability or a non-current liability. Even the most liquid of assets, cash, could be reported as a non-current asset if, for example, it has been set aside and restricted (for management's intention) to pay off debt or expand facilities

Describe in detail how estimates influence Balance Sheet reporting, including at least two example components from the Balance Sheet that are clearly influenced by estimation.

Almost all components of the Balance Sheet are likely influenced by estimates. Estimates are often necessary because needed information for exact determination of amounts to report will not be available until sometime in the future. For assets, estimates help to determine the value to report, in some cases using historical cost and in other cases using fair value. Estimates also can influence liabilities, in determining amounts to report for obligations. Two specific examples where estimates influence reporting on the Balance Sheet are (1) allowance for doubtful accounts, which is estimated based on either a percentage of credit sales or a percentage of accounts receivable and (2) premium on bonds payable, which is valued based on estimates of current market rates applicable to a certain variety of debt instrument. Many other examples exist

Assets not used directly in the operations of the business are called what? a. Inventories b. Investments c. Property d. Prepaid assets

Ans: Details: *Investments*- Most companies occasionally acquire assets that are not used directly in the operations of the business. These assets include investments in equity and debt securities of other corporations, land held for speculation, long-term receivables, and cash set aside for special purposes (such as for future plant expansion). These assets are classified as long-term because management does not intend to convert the assets into cash in the next year (or the operating cycle if that's longer).

On January 1 of the current year, Lafferty signs a contract to rent a building for $1,000 per month for the next three years. On that date, Lafferty pays $36,000 for rent. On January 1 when payment is made, what is the amount of the prepaid rent that should be classified as a noncurrent asset?

Ans: $24,000 Details: Whether a prepaid expense is current or noncurrent depends on when its benefits will be realized. For example, if rent on an office building were prepaid for one year, then the prepayment is classified as a current asset. However, if rent were prepaid for a period extending beyond the coming year, a portion of the prepayment is classified as an other asset, a long-term asset.

___________________ _____________________ result from the sale of goods or services on credit.

Ans: Accounts Receivable Details: *Accounts receivable* - result from the sale of goods or services on credit (discussed in Chapter 7). Accounts receivable often are referred to as *trade receivables* because they arise in the course of a company's normal trade. Nontrade receivables result from loans or advances by the company to individuals and other entities. When receivables are supported by a formal agreement or note that specifies payment terms they are called notes receivable

Probable future economic benefits obtained or controlled by particular entity as a result of past transactions or events are referred to as ____________________.

Ans: Assets Details: *Assets* - probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events. Simply, these are the economic resources of a company.

The current versus noncurrent classification applies to what in the financial statements?

Ans: Assets and Liabilities Details: The usefulness of the balance sheet is enhanced when assets and liabilities are grouped according to common characteristics. The broad distinction made in the balance sheet is the current versus long-term (non-current) classification of both assets and liabilities.

Which of the following financial statements shows a firm's financial position on a particular date?

Ans: Balance sheet Details: The purpose of the balance sheet, sometimes referred to the statement of financial position, is to report a company's financial position on a particular date. The balance sheet presents an organized array of assets, liabilities, and shareholders' equity at a point in time. It is a freeze frame or snapshot of financial position at the end of a particular day marking the end of an accounting period

A company's total assets minus its total liabilities as shown on the balance sheet is known as the ________________ value.

Ans: Book value Details: Despite its usefulness, the balance sheet has limitations. One important limitation is that a company's book value, its reported assets minus liabilities as shown in the balance sheet, usually will not directly measure the company's market value. Market value is the amount someone would be willing to pay to own the company. For a company with publicly traded stock, market value can easily be computed as the current stock price times the number of shares outstanding.

Money on hand and in banks that is available for use in the operations of the business is shown in the ___________________ account on the balance sheet.

Ans: Cash Details: The most liquid asset, cash, is listed first. Cash includes cash on hand and in banks that is available for use in the operations of the business and such items as bank drafts, cashier's checks, and money orders.

A signed contract with a customer for him to pay his balance owed (related to a previous purchase) in equal monthly installments, plus interest, over the next 24 months. Reported as what on the balance sheet?

Ans: Current Assets and Other Assets (or long term investments) Details: The described notes receivable includes payments to be received within the next year but also additional payments beyond a year. So, it would be reported as both a current asset (for the portion due within a year) and a non-current asset (for the portion due beyond a year), either as OA or LTI

An agreement to replace or repair any appliances that the company sold, for one year after the date of sale. Reported as what on the balance sheet?

Ans: Current Liability Details: Because the warranty only covers the products for one year from the date of sale, the entire obligation is expected to "come due" within one year of the Balance Sheet date and thus it is only a current liability.

Identify the primary goal of the FASB/IASB Financial Statement Presentation project?

Ans: Develop new common standards for presenting financial statements. Details: above

Who is currently working on the Financial Statement Presentation project?

Ans: FASB and IASB Details: In 2004, the FASB and IASB began working together on a project, Financial Statement Presentation, to establish a common standard for presenting information in the financial statements, including classifying and displaying line items and aggregating line items into subtotals and totals. This project could have a dramatic impact on the format of financial statements. An important part of the proposal involved the organization of elements of the balance sheet ( statement of financial position), statement of comprehensive income (including the income statement), and statement of cash flows into a common set of classifications.

Pension obligations are generally not reflected on the Balance sheet of most companies, because it is impossible to know in advance when eligible employees will retire and for how long they will live after retiring. True or False

Ans: False Details: It is true that recording pension obligations requires considerable estimation. But, so do many other amounts that we record and report. An actuary is usually hired to provide estimates for retirement ages, future salaries, and lifespans, so that an appropriate obligation can be recorded and reported.

Land held for speculation is reported in the property, plant, and equipment section of the balance sheet. True or False

Ans: False Details: Only fixed assets in use in the business can be reported in the PP&E section. Land held for speculation would likely be reported as long-term investments.

For highly-liquid companies, the quick ratio will usually be substantially higher than 1.00 and also substantially higher than the current ratio for the same date. True or False

Ans: False Details: The usual threshold for adequate liquidity using the current ratio sometimes is lower than 1.00. The bigger issue here is that the quick ratio can never be higher than the current ratio (for the same company on the same date), because they both have the same denominator but the quick ratio excludes non-liquid current assets such as inventory and prepaids from the numerator.

Another term for equity is?

Ans: Net assets Details: *Equity* - (or *net assets*), called shareholder's equity or stockholders' equity for a corporation, is the residual interest in the assets of an entity that remains after deducting liabilities. Stated another way, *equity equals total assets minus total liabilities*.

The time period necessary to convert cash to raw materials, convert raw materials into finished products, sell the products, and collect on the account receivable is referred to as the ________ cycle.

Ans: Operating Details: Above

Investments in stock and debt securities of other corporations are included as ____________ if the company has the ability and intent to sell them within the next 12 months.

Ans: Short-term investments Details: Liquid investments not classified as cash equivalents are reported as *short-term investments*, sometimes called temporary investments or short-term marketable securities. Investments in stock and debt securities of other corporations are included as short-term investments if the company has the ability and intent to sell those securities within the next 12 months or operating cycle, whichever is longer.

What is the role of the auditors attest function?

Ans: To provide an opinion on the financial statements Details: Auditors examine financial statements and the internal control procedures designed to support the content of those statements. Their role is to attest to the fairness of the financial statements based on the examination. The auditors' attest function for public business entities results in an opinion stated in the *auditor's *report

Notes Receivable, including any associated premium or discount, is initially recorded at fair value; however, for late Balance Sheet dates, it is NOT reported at fair value. True or False

Ans: True Details: The computation of the premium or discount associated with a notes receivable issuance is based on the present value of the future cash flows related to the note, which considers the market rate of interest for similar notes on the date of issue. As such, the initial recorded amount, with the premium or discount included, should reflect the fair value for the note. However, in later periods, the premium or discount will be amortized using the effective interest method. Because the market rates will change, though, and because the amortization process continues to use the market rate as of the issuance date, the note will not generally be reported at fair value on later dates.

Which of the following assets would NEVER be reported at fair value on the Balance Sheet? a. Held-to-Maturity Investments b. Inventory c. Patent d. Trading Securities

Ans: a Details: Held-to-Maturity investments are reported at amortized cost, which would generally not equal fair value. Inventory is reported at the lower-of-cost-or-market, so it could be at historical cost or it could be at market/fair value. A patent is generally reported at historical direct cost, offset by accumulated amortization, although it could be reduced to market value if it satisfies all of the conditions for impairment. Trading securities are reported at fair value on the Balance Sheet date, with unrealized gains and losses included in net income.

When a company spends large amounts on research and development to obtain a patent on its own, the research and development cost is... a. Expensed as incurred b. Included in intangible assets c. Included in investments

Ans: a Details: Not all intangible assets are purchased; some are developed internally. For example, instead of purchasing a patent granting the exclusive right to manufacture a certain drug, a pharmaceutical company may spend significant amounts in research and development to discover the drug and obtain a patent on its own. For internally developed intangibles, none of the research and development costs incurred in developing the intangible asset are included in reported cost. Instead, *research and development costs are expensed as incurred*.

A __________ firm will include finished goods, work in process, and raw materials as part of their inventory. a. Manufacturing b. Service c. Retail d. Wholesale

Ans: a Details: above

An investment should be classified as current on the balance sheet if... a. It will be sold within 12 months b. Management has the intent and ability to liquidate it in the near term c. It does not have a maturity date. d. It is an investment of stock in another company

Ans: a, b Details: Investments in stock and debt securities of other corporations are included as short-term investments if the company has the ability and intent to sell those securities within the next 12 months or operating cycle, whichever is longer

Which of the following are common characteristics of property, plant, and equipment? a. Tangible b. Used in normal operations c. Used within 1 year or the operating cycle, whichever is longer d. Intangible e. Long lived

Ans: a, b, e Details: Virtually all companies own assets classified as property, plant, and equipment. The common characteristics these assets share are that they are *tangible, long-lived, and used in the operations of the business*. Property, plant, and equipment often are the *primary revenue-generating assets* of the business

A liability has which of the following characteristics? a. It is a probable future sacrifice of an economic benefit. b. It is a probable future economic benefit. c. It is a present obligation. d. It is due to a past transaction or event.

Ans: a, c, d Details: *Liabilities* - Probable future sacrifices of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities in the future as a result of past transactions of events. Simply, these are the obligations of a company.

Which of the following are noncurrent assets? a. Investments b. A/R c. Inventory d. Machines e. Property

Ans: a, d, e Details: Property, plant, and equipment (long-term, noncurrent asset) includes *land, buildings, equipment, machinery, furniture, and vehicles*, as well as *natural resources, such as mineral mines, timber tracts, and oil wells.*

Current ____________ include cash and other items that will be converted to cash or consumed within the coming year.

Ans: assets Details: Current Assets - include cash and other assets that are reasonably expected to be converted to cash or consumed within the coming year, or within the normal operating cycle of the business if that's longer than one year. The operating cycle for a typical merchandising or manufacturing company refers to the period of time from the initial outlay of cash for the purchase of inventory until the time the company collects cash from a customer form the sale of inventory.

Goodwill is shown on the balance sheet a. When a company has loyal customers and well trained employees. b. When one company acquires another company for a price above the fair value of the assets acquired c. When one company acquires another company for a price below the fair value of the assets acquired. d. When a company has a reputable management and executive team.

Ans: b Details: Another common type of intangible asset is goodwill. Goodwill isn't associated with any specific identifiable right, but instead arises when one company acquires another company. The amount reported for goodwill equals the acquisition price above the fair value of the identifiable net assets acquired.

What is the criterion to classify an investment as a cash equivalent versus a short-term investment? a. It is an investment in stock of another company that is held for active trading b. It is a highly liquid investment with a maturity date of 3 months or less from date of purchase c. It is a marketable security being held for sale d. It is a short-term investment with a maturity date of 12 months or less.

Ans: b Details: Most companies draw a distinction between investments classified as cash equivalents and the next category of current assets, short-term investments, according to the scheduled maturity of the investment. It is common practice to classify investments that have a maturity date of *three months or less* from the date of purchase as cash equivalents.

If a company's long-term investments are not material in amount, where should they be disclosed on the balance sheet? a. Intangible assets b. Other assets c. Cash and cash equivalents d. Goodwill

Ans: b Details: Other assets might also include any long-term investments that are not material in amount and that were not reported separately in the long-term investments category discussed earlier. In the disclosure notes to its financial statements

Cash set aside for future plant expansion and a 3-year note receivable are both examples of what on a company's balance sheet? a. Other assets b. Investments c. Property, plant, and equipment d. Intangible assets

Ans: b Details: See above

Assume a company has a policy that unused vacation leave can be carried over from year to year if not used. Also assume that employees of the company are expected to work for, on average, 15 more years and that, because of a staff shortage and busy work demands, no employees are expected to use vacation leave in the next year. Which of the following would be the proper Balance Sheet classification for compensable vacation leave? a. Current Liability b. Non-Current Liability c. Both Current and Non-Current Liability d. Neither Current Liability nor Non-Current Liability.

Ans: b Details: Because none of the employees are expected to use vacation leave in the next year, even though they are eligible to do so, the entire liability should be classified as non-current/long-term. This is an example of using management intent or expectations to classify appropriately on the Balance Sheet.

Which of the following items should not be included in cash and cash equivalents in the balance sheet? a. cashier's checks b. restricted cash c. Treasury bills d. Money market funds

Ans: b Details: Cash that is restricted for a special purpose and not available for current operations should not be included in the primary balance of cash and cash equivalents. *These restrictions could include future plans to repay debt, purchase equipment, or make investments*. *Restricted cash* is classified as a current asset if it is expected to be used within one year. Otherwise, restricted cash is classified as a long-term asset.

How should income taxes payable that are due to be paid on March 15th, 2015, but that the company does not expect to be able to pay until 2016 (or late), be reported on the December 31st, 2014 Balance Sheet? a. Current Liability b. Non-Current Liability c. Both (a) and (b) d. Neither (a) nor (b)

Ans: b Details: Even though the payable is due to be paid within one year of the Balance Sheet date, it should be reported as a non-current liability if the company does not expect to actually pay the debt within that time period. Management intent overrules liability due date when the two would result in different classifications.

Which of the following lists represents (in order) the most appropriate Balance Sheet classifications for unearned revenues, notes payable, preferred stock, and accumulated depreciation, respecitvely? a. Current Liabilities, Non-Current Assets, Investments, and Intangible Assets b. Current Liabilities, Non-Current Liabilities, Capital Stock, and Property, Plant, and Equipment c. Retained Earnings, Non-Current Assets, Capital Stock, and Intangible Assets d. Retained Earnings, Non-Current Liabilities, Investments, and Property, Plant, and Equipment

Ans: b Details: none

Which of the following items are considered to be cash equivalents? a. Cashier's checks payable on demand b. Commercial paper due in less than 3 months c. Money market funds quickly converted into cash d. N/R

Ans: b, c Details: *Cash equivalents* frequently include certain negotiable items such as *commercial paper, money market funds, and U.S. treasury bills*. Cash equivalents are highly liquid investments that can be quickly converted into cash.

Schwinn is a company that makes bicycles. Which of the following items would be included in Schwinn's inventory? a. Salary for salesperson b. Bicycle chains c. Finished bicycles d. Bicycle tires

Ans: b, c, d Details: *Inventories* for a *wholesale or retail company* consist of *finished goods* for sale to customers. For example, you buy finished goods such as shoes and athletic wear from Nike, potato chips at Costco, school supplies at Staples, and a new shirt at Gap. However, the inventory of a *manufacturer* will include not only finished goods, but also *goods in the course of production* (work in process) and goods to be consumed directly or indirectly in production (*raw materials*). Manufacturers typically report all three types of inventory either directly in the balance sheet or in a disclosure note Inventories are reported as current assets because they normally are sold within the operating cycle.

Which of the following are noncurrent assets? a. Inventory b. Land c. Building d. Intangible assets

Ans: b, c, d Details: See above about noncurrent assets

Which of the following items is classified as cash? a. Treasury bills b. Investment in stock of another company c. Bank drafts d. A/R

Ans: c Details: The most liquid asset, *cash*, is listed first. Cash includes cash on hand and in banks that is available for use in the operations of the business and such items as *bank drafts, cashier's checks, and money orders*.

Zantrol Corp. pays $100,000 for robotic equipment to be used in its production facility. Zantron should include this transaction as.... a. An increase in inventory b. Equipment expense on the income statement. c. An increase in plant, property, and equipment.

Ans: c Details: Above, everything involving PPE These various assets usually are reported as a single amount in the balance sheet, with details provided in a note. They are reported at original cost less accumulated depreciation (or depletion for natural resources) to date. Quite often, a company will present only the net amount of property, plant, and equipment in the balance sheet and provide details in a disclosure note.

Which of the following note disclosures is likely to occur for essentially all companies and periods? a. Pension Plans b. Subsequent Events c. Summary of Significant Accounting Policies d. All of the above

Ans: c Details: Almost every company will include a note that summarizes the significant accounting policies utilized, such as the inventory and depreciation methods used. That is usually either the first or second note. Some companies will have a pension plan note, but usually only if they have a defined-benefit pension plan. The subsequent events note is only included if a noteworthy transaction occurred between the end of the fiscal year and the issuance of the fin statement.

Which of the following would be most helpful in assessing solvency (the longer-term likelihood that a company will be able to pay its obligations) a. Asset Turnover Ratio b. Current Ratio c. Debt to Asset Ratio d. Return on Equity Ratio

Ans: c Details: Solvency relates to the long-term ability of a company to pay its debts, which is most commonly measured using the debt-to-assets ratio. That ratio divides total liabilities by total assets, so lower values are more desirable.

If an investor wants to know the useful lives that a company's management uses for depreciation of different property, plant, and equipment assets, what part of the Annual Report would provide that information? a. Financial Statements b. Management's Discussion and Analysis (MD&A) c. Notes to the Financial Statements d. None of the above (i.e. such information is not generally provided)

Ans: c Details: The financial statements might well indicate the depreciation expense for the period and the accumulated depreciation to date, but it is usually a note disclosure specific to PP&E that indicates the useful lives estimated for each asset type.

The two sources of stockholder's equity are amounts _____________ a. Borrowed from related companies b. Borrowed from banks c. Paid in from shareholders d. Earned by the corporation

Ans: c, d Details: Shareholders' equity for a corporation arises primarily from: *Paid-in capital* - is the amount that shareholders have invested in the company. It most often arises when the company issues stock. *Retained earnings* - represents the accumulated net income reported by a company since its inception minus all dividends paid to shareholders. In other words, it's the accumulated lifetime profits a company has earned for its shareholders but has not yet distributed to those shareholders. The fact that a company does not pay all of its profits each year as dividends is not necessarily a bad thing from the shareholders' perspective. Instead of paying additional cash dividends, Nike's management can put those undistributed profits to productive use, such as buying additional inventory or equipment or paying liabilities as they come due.

Other assets represent... a. A catch-all category of current assets b. Assets that are immaterial c. Any asset other than cash or cash equivalents d. A catch-all category of noncurrent assets

Ans: d Details: This category of long-term assets (reported by most companies) represents a *catch-all classification of long-term assets* that were not reported separately in one of the other long-term classifications. This amount most often includes long-term prepaid expenses, called deferred charges

How are accounts receivable classified on the balance sheet? a. Current liability b. Noncurrent liability c. Noncurrent asset d. Current asset

Ans: d Details: Accounts receivable usually are due in *30 to 60 days*, depending on the terms offered to customers and are, therefore, classified as current assets. Any receivable, regardless of the source, not expected to be collected within one year or the operating cycle, whichever is longer, is classified as a long-term asset, investments.

Inventories held for sale in the normal course of business are classified in the balance sheet as... a. Noncurrent liabilities b. Noncurrent assets c. Current assets d. Current liabilities

Ans: d Details: Inventories are reported as current assets because they normally are sold within the operating cycle.

What asset is listed as a separate item on the balance sheet because it has an unlimited life and is not depreciated? a. Furniture b. Investments c. Buildings d. Land

Ans: d Details: Land often is listed as a separate item in this classification because it has an unlimited useful life and thus is not depreciated

Which of the following items represents an expense paid in advance that creates benefits used in the future? a. A/R b. Inventory c. Cash equivalents d. Prepaid expense

Ans: d Details: a prepaid expense represents an asset recorded when an expense is paid in advance, creating benefits beyond the current period. Examples are prepaid rent and prepaid insurance. Even though these assets are not converted to cash, they would involve an outlay of cash if not prepaid.

The net assets of a business are equal to which of the following? a. Current Assets minus Current Liabilities b. Total Assets plus Total Liabilities c. Total Assets minus Total SHE d. None of the above

Ans: d Details: Net assets (which is the same amount as total stockholder's equity, based on the accounting equation) equals total assets minus total liabilities. Note that answer (a), current assets minus current liabilities, is the definition of working capital. Neither answer (b) nor answer (c) are common measures, although answer (c) should equal total liabilities.

Which of the following descriptions does NOT represent one of the limitations of the Balance Sheet, as discussed? a. Goodwill is not reported as an asset when it is internally developed b. Land is reported at the cost of acquiring it and readying it for use c. Receivables are reported net of estimated bad debts d. Trading Securities are reported at fair value

Ans: d Details: The three limitations of the Balance Sheet, as discussed, are (1) that most assets and liabilities are reported at historical cost, which relates to choice (b) (2) that judgments and estimates influence reported amounts, which relates to choice (c) (3) That many items of value are omitted, which relates to choice (a). Choice (d) actually is perceived as a positive attribute of the Balance Sheet, in that it varies from the otherwise presented limitation of reporting at historical cost.

The order of the following current assets on the balance sheet: a. A/R b. Inventory c. Prepaid expenses d. Cash and Cash Equivalents

Ans: d -> a -> b -> c Details: In keeping with common practice, the individual current assets are listed in the order of their liquidity (the ability to convert the asset to cash)

An asset that has no physical substance is referred to as a(n) ______________ asset.

Ans: intangible Details: Some assets used in the operations of a business have *no physical substance*. These assets are appropriately called *intangible assets*. Many intangible assets grant an exclusive right to a company to provide a product or service. This right can be a valuable resource in generating future revenues. Patents, copyrights, franchises, and trademarks are examples. Intangible assets generally are reported in the balance sheet at their purchase price less accumulated amortization

Rice Company purchases a building for $500,000, which will be used as a production facility. How should the building be classified on the balance sheet?

Ans: noncurrent asset Details: When assets are expected to provide economic benefits beyond the next year, or operating cycle, they are reported as long-term (or noncurrent) assets. Typical classifications of long-term assets are as follows: -Investments -Property, plant, and equipment -Intangible assets -Other long-term assets

Differences between IFRS and GAAP

Details: There are more similarities than differences in balance sheets prepared according to U.S. GAAP and those prepared applying IFRS. Some of the differences are: -International standards specify a minimum list of items to be presented in the balance sheet. GAAP has no minimum requirements. -IAS No. 1, revised, changed the title of the balance sheet to statement of financial position, although companies are not required to use that title. Some US companies use the statement of financial position title as well. -Under GAAP, we present current assets and liabilities before concurrent assets and liabilities. IAS No. 1 doesn't prescribe the format of the balance sheet, but balance sheets prepared using IFRS often report non current items first. A recent survey of large companies that prepare their financial statements according to IFRS reports that 73% of the surveyed companies list concurrent items first.

Initial purchase of inventory for a finished good. merchandising vs. manufacturing company.

Details: For a *merchandising company*, the initial purchase of inventory often is for a finished good, although some preparation may be necessary to get the inventory ready for sale (such as packaging or distribution). For a *manufacturing company*, the initial outlay of cash often involves the purchase of raw materials, which are then converted into a finished product through the manufacturing process.

Describe a specific accounting scenario where management intent is likely to impact the classification of an item on the balance sheet. Also discuss how the use of management intent for balance sheet classification might be abused.

Management intent plays a part in the classification of many components of the balance sheet. For example, management intent often determines whether an asset or liability is classified as current or long-term (that is, whether management intends on liquidating the asset or liability within 12 months). Another example is the classification of short-term investments, between trading securities, available for sale securities, and held-to-maturity securities. The holding gains and losses for these three classifications of investments are treated differently. Therefore, using management intent for classification purposes could be abused, for example, if an equity investment is classified as an available-for-sale security instead of a trading security. (In other words, management could claim that their intent is to not actively trade the security, when in fact they actually do.) If the security has a holding / unrealized loss, then classifying it as an available-for-sale security results in a reduction to other comprehensive income instead of net income, which could artificially inflate net income for the period.