A414 Ch. 4

MSK sold property worth $1,850,000 and allowed the buyer to make the payment in installments. MSK itself had bought the property 5 years ago for $1,140,000. The first two installments of $550,000 and $400,000 have been received in Years 1 and 2 respectively, while the rest of the payment is expected to be received in Year 3. The amount of profit that will be recognized in Year 2, given that the collectability of revenues is highly uncertain is closest to:

$0 If the collectability of revenues is highly uncertain, the cost‐recovery method is used and profits are only recognized once the total cash collections exceed total costs. Since total cash received by the company ($950,000) does not exceed the cost of the property ($1,140,000), MSK will not recognize any profits in Year 2.

Mega Construction Pvt. Ltd. obtains a $75 million contract to construct a building. It estimates that it will take 4 years to complete the project. The estimated cost of the project is $60 million. Mega Construction incurs costs amounting to $20 million in Year 1, $15 million in Year 2, $13 million in Year 3, and $12 million in Year 4. Assuming that the outcome of the project cannot be estimated reliably, and that Mega follows U.S. GAAP, the revenue that the company should recognize in Year 3 is closest to?

$0 Under U.S. GAAP, if the outcome of the project cannot be estimated reliably, the completed‐contract method is used. Under this method, no revenues or costs are recognized on the income statement until the entire project is completed.

Mega Construction Pvt. Ltd. obtains a $75 million contract to construct a building. It estimates that it will take 4 years to complete the project. The estimated cost of the project is $60 million. Mega Construction incurs costs amounting to $20 million in Year 1, $15 million in Year 2, $13 million in Year 3, and $12 million in Year 4. Assuming that the outcome of the project cannot be estimated reliably, and that Mega follows IFRS, the profit that the company should recognize in Year 2 is closest to?

$0 Under IFRS, if the outcome of the project cannot be estimated reliably, revenue is recognized on the income statement to the extent of costs incurred during the period. No profits are recognized until completion of the project.

A company incurs the following costs on a particular project: Year 20X6 20X7 20X8 Total Costs incurred ($ '000) 500 700 300 1,500 The total revenue from the project is expected to be $2,000,000. Under the percentage‐of‐completion method, the project's net income in 20X8 is closest to:

$100,000 Profit recognized in 20X8 = (300,000/1,500,000) (2,000,000 - 1,500,000) = $100,000

Supernova Inc. is a manufacturer of industrial chemicals. At the beginning of 20x9, it purchased a machine for $875,000. The machine has an estimate useful life of 8 years and a residual value of $60,000. Supernova's depreciation expense for 20x9 under the straight line method is closest to:

$101,875 Depreciation expense = (Cost - Residual Value) / Useful life. Depreciation expense = (875,000 - 60,000) / 8 = $101,875

Mega Construction Pvt. Ltd. obtains a $75 million contract to construct a building. It estimates that it will take 4 years to complete the project. The estimated cost of the project is $60 million. Mega Construction incurs costs amounting to $20 million in Year 1, $15 million in Year 2, $13 million in Year 3, and $12 million in Year 4. Assuming that the outcome of the project cannot be estimated reliably, and that Mega follows U.S. GAAP, the profit that the company should recognize in Year 4 is closest to?

$15 million Under U.S. GAAP, if the outcome of the project cannot be estimated reliably, the entire amount of revenues, costs, and net income will be recognized in Year 4 on the income statement.

XYZ Company recently purchased a machine for $75,000. It expects to use the machine for 6 years, after which it will have a residual value of $5,000. How much depreciation should the company charge in the second year using double‐declining balance depreciation?

$16,667 Depreciation expense (first year) = 2/6 (75,000) = $25,000. Depreciation expense (second year) = 2/6 (75,000 − 25,000) = $16,667

MSK sold property worth $1,850,000 and allowed the buyer to make the payment in installments. MSK itself had bought the property 5 years ago for $1,140,000. The first two installments of $550,000 and $400,000 have been received in Years 1 and 2 respectively, while the rest of the payment is expected to be received in Year 3. The amount of profit that MSK will recognize in Year 1, given that the collectability of revenues cannot be reasonably estimated is closest to:

$211,081 If the collectability of revenues cannot be reasonably estimated, the installment method is used. Profit for the period = (Cash collected in the period / Selling price) × Total profit Therefore, profit in Year 1 = (550,000 / 1,850,000) × 710,000 = $211,081.08

Blue Rose Inc. is an event management company and is currently involved in organizing a rock concert. It hires Howard and Co. as its agent to sell tickets for the concert. Howard only pays for the tickets that it manages to sell to customers. It purchases a ticket for $1,500 and sells it for $1,650. Assume that Howard sells 20,000 tickets for the concert and that there are no other revenues and expenses involved. The amount of revenue recognized by Howard and Co. is closest to:

$3 million Howard and Co. should report revenue on a net basis because: It only pays for tickets that it is able to sell to customers. Therefore, it does not bear any inventory risk. Howard is not the primary obligor under the contract. Therefore, Howard will recognize revenue equal to (1,650 - 1,500) 20,000 = $3 million.

Blue Rose Inc. is an event management company and is currently involved in organizing a rock concert. It hires Howard and Co. as its agent to sell tickets for the concert. Howard only pays for the tickets that it manages to sell to customers. It purchases a ticket for $1,500 and sells it for $1,650. Assume that Howard sells 20,000 tickets for the concert and that there are no other revenues and expenses involved. The amount of revenue recognized by Blue Rose Inc. is closest to:

$30 million Blue Rose Inc. recognizes revenue on the basis of gross reporting. Hence, it will recognize revenue equal to: 1,500 20,000 = $30 million

MSK sold property worth $1,850,000 and allowed the buyer to make the payment in installments. MSK itself had bought the property 5 years ago for $1,140,000. The first two installments of $550,000 and $400,000 have been received in Years 1 and 2 respectively, while the rest of the payment is expected to be received in Year 3. The amount of profit that will be recognized in Year 3, given that the cost‐recovery method is used and that the third installment is received, is closest to:

$710,000 Under the cost‐recovery method, profits are only recognized once the total cash collections exceed total costs. If the third installment of $900,000 is received in Year 3, the company will recognize a profit of $710,000.

Which of the following is least likely to be classified as other comprehensive income under U.S. GAAP?

Changes in the value of long‐lived assets that are measured using the revaluation model The revaluation model is not allowed under U.S. GAAP; it uses the cost model.

Under U.S. GAAP, which of the following revenue recognition methods is most likely to be used by a firm if the outcome of the contract cannot be measured reliably?

Completed - contract method According to U.S. GAAP, if the outcome of the project cannot be measured reliably, the completed‐contract method is used to recognize revenue.

Which of the following is least likely an example of grouping an expense by nature?

Cost of goods sold Cost of goods sold is an example of grouping an expense by function and may include salaries, material costs, depreciation, and other direct sales‐related expenses.

If an analyst wants to review a firm's revenue recognition policies, she is most likely to refer to:

Financial statement footnotes Companies are required to disclose their revenue recognition policies in the financial statement footnotes.

Which of the following is the most appropriate classification of profit on sale of discontinued operations by a manufacturing firm?

Gain reported after continuing operations Gain on sale of discontinued operations is reported after income from continuing operations.

ABC Corporation sells electronic goods. It typically offers a 2‐year warranty on its products. It calculates annual warranty expense as 2% of total sales. ABC Corporation should recognize a particular year's warranty expense on its income statement:

In the current period, based on the matching principle. Expense recognition should be based on the matching principle, which requires that expenses incurred to generate revenue should be recognized in the same period as the related sales.

Which of the following inventory methods is not allowed under IFRS?

Last in, first out (LIFO) IFRS does not permit the last in, first out (LIFO) method.

When an income statement explicitly shows gross profit as a subtotal, it most likely uses a:

Multi - step format When the income statement shows a gross profit subtotal, it is said to use a multi‐step format.

Under IFRS, if a firm can estimate the outcome of the project reliably, it is most likely to use which of the following revenue recognition methods?

Percentage - of - completion method According to IFRS, if the outcome of the project can be measured reliably, the percentage‐of‐completion method is used to recognize revenue.

The converged standards most likely follow which of the following approaches to revenue recognition?

Principles - Based Approach The converged standards provide a principles‐based approach to revenue recognition.

Which of the following statements regarding revenue recognition methods is most accurate?

The completed‐contract method is more conservative as compared to the percentage‐of‐completion method in recognizing revenue. The percentage‐of‐completion method results in revenue recognition sooner than the completed‐contract method and thus may be considered a less conservative approach. The percentage‐of‐completion method relies more on management estimates and is, therefore, more subjective as compared to the completed‐contract method. The percentage‐of‐completion method results in better matching of revenue recognition with the accounting period in which it was earned.

The percentage‐of‐completion method is most likely to be used when?

The costs associated with the project can be reliably measured Under U.S. GAAP and IFRS, the percentage‐of‐completion method can only be used when the outcome of the project can be measured reliably.

Which of the following statements most accurately defines the completed‐contract method for recognizing revenue?

Under this method, no revenues or costs are recognized on the income statement until the entire project is completed. Statement A describes the method used under IFRS if the outcome of the project cannot be estimated reliably. Statement B describes the installment method.

Under U.S. GAAP, a firm is most likely to use net revenue reporting in which of the following circumstances?

When it does not bear the inventory and credit risk Under U.S. GAAP, if a company does not bear inventory and credit risk associated with a sale, it should use net revenue reporting. If a company can choose its suppliers and has reasonable latitude to establish price, it can use gross revenue reporting.

Which of the following statements is least accurate?

A correction of prior period errors is made by restating all the financial statements presented in the financial report. A change in accounting principle is applied retrospectively.

If a firm delivers a good or a service for which cash will be received in the following month, it is most likely to record the transaction as an:

Accrued revenues assets Accrued revenue is recognized when a firm has already delivered a good or a service for which cash will be received in future. Accrued revenue is an asset for the firm.

Which of the following statements is most accurate regarding recognition of revenue from barter transactions under IFRS? Under IFRS, revenue from barter transactions is based on the:

Fair value of revenues from similar nonbarter transactions with unrelated parties. Under IFRS, revenue from barter transactions can be reported on the income statement based on the fair value of revenues from similar nonbarter transactions with unrelated parties. Statement C describes the treatment of revenue recognition from barter transactions under U.S. GAAP.

The following information relates to Alpha One Ltd. for the year ended 2009: •Net income = $2,360,000 •10% preferred stock = $500,000 •Dividends paid to common shareholders = $44,000 •Weighted average number of shares outstanding = $500,000 The company also has 500 convertible preferred shares outstanding, which pay a dividend of $75 per share every year. Each convertible preferred share can be converted into 50 common shares. Alpha One's basic and diluted earnings per share are closest to: Basic EPS ($) Diluted EPS ($) I 4.65 4.5 I 4.55 4.4 III 4.62 4.42

Diluted EPS is $4.4 Basic EPS is $4.545 Row II is correct answer Preferred dividend = 500,000 × 0.1 = $50,000 Dividend paid on convertible preferred stock = 500 × 75 = $37,500 Basic EPS = (2,360,000 - 50,000 - 37,500) / 500,000 = $4.545 In calculating diluted EPS, it is assumed that convertible preferred shares are converted into common shares. Hence, no dividend is paid on them and the number of converted shares is added to the denominator. Number of converted shares = 500 × 50 = 25,000 Diluted EPS = (2,360,000 - 50,000) / (500,000 + 25,000) = $4.4

Which of the following statements is most accurate? Under the completed‐contract method:

Revenues, expenses, and profits are recognized when the project is complete. Under the completed‐contract method, revenues, expenses, and profits are recognized when the project is complete. However, expected losses must be recognized immediately.

In which of the following circumstances is a firm least likely to recognize revenue according to the FASB?

Risks and rewards of ownership of the goods have been transferred, but the buyer is unlikely to pay. According to the FASB, one of the conditions for recognizing revenue is that the seller is reasonably sure of collecting money.

Which of the following is least likely another name for the income statement?

Statement of financial position Statement of financial position refers to the balance sheet.

Under the IASB, the transfer of risks and rewards of ownership most likely occurs when:

The goods are delivered to the buyer The IASB states that the transfer of risks and rewards typically occurs when goods are delivered to the buyer or when the legal title to the goods is transferred.