Accounting Principles and Methods Quiz
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Questions and Answers

What principle recognizes revenues in the period earned regardless of when cash is received?

  • Revenue recognition principle (correct)
  • Expense recognition principle
  • Matching principle
  • Cash basis of accounting

    • Which statement accurately describes how expenses are recorded under accrual accounting?

  • Expenses are recorded when cash is received
  • Expenses are recorded when authorisation occurs
  • Expenses are paid before they are recorded
  • Expenses are recognized in the same period as related revenues (correct)

    • Which of the following is true about the relationship between income statements and retained earnings?

  • Retained earnings are unaffected by the income statement.
  • Net income or loss is reported in retained earnings as a component of equity. (correct)
  • The statement of cash flows includes retained earnings information.
  • Net income or loss affects retained earnings instantly.

    • Under which accounting method are revenues recognized when cash is received?

    <p>Cash basis (B)</p> Signup and view all the answers

    What does GAAP state regarding the cash basis of accounting?

    <p>It cannot be used for preparing financial statements. (B)</p> Signup and view all the answers

    How are ending inventories treated in financial statements?

    <p>Reported in current assets and affect cost of goods sold (A)</p> Signup and view all the answers

    What is a key characteristic of accrual accounting?

    <p>Records financial effects at the time they occur (D)</p> Signup and view all the answers

    Which item is reconciled with the statement of changes in equity?

    <p>Net income from the statement of income (A)</p> Signup and view all the answers

    What are considered current assets on the statement of financial position?

    <p>Inventories (A)</p> Signup and view all the answers

    Which of the following is a noncurrent liability?

    <p>Bonds payable (C)</p> Signup and view all the answers

    How are assets generally reported in the statement of financial position?

    <p>By order of liquidity (C)</p> Signup and view all the answers

    Which classification method for assets is not used in the United States?

    <p>Production order (B)</p> Signup and view all the answers

    What is the main criterion for classifying an asset as current?

    <p>It is expected to be realized in cash or consumed within one year (C)</p> Signup and view all the answers

    Which of the following is a component of equity?

    <p>Retained earnings (D)</p> Signup and view all the answers

    Which of the following liabilities is classified under current liabilities?

    <p>Current maturities of noncurrent liabilities (D)</p> Signup and view all the answers

    What characterizes noncurrent assets?

    <p>They are expected to provide value beyond one year (A)</p> Signup and view all the answers

    What does the statement of financial position primarily report?

    <p>Assets, liabilities, and equity (D)</p> Signup and view all the answers

    Which equation represents the basic accounting equation?

    <p>Assets = Liabilities + Stockholders’ Equity (B)</p> Signup and view all the answers

    What does the proprietary theory derive from the basic accounting equation?

    <p>Stockholders’ Equity = Assets - Liabilities (C)</p> Signup and view all the answers

    What is recorded as an increase on the declaration date of a property dividend?

    <p>Property dividend payable (A)</p> Signup and view all the answers

    Which of the following is NOT an aspect assessed by the statement of financial position?

    <p>Market share (B)</p> Signup and view all the answers

    What is the journal entry effect on retained earnings when declaring a property dividend?

    <p>Decrease by the value of the property dividend (D)</p> Signup and view all the answers

    What impact does each transaction have on the accounting equation?

    <p>Every transaction impacts at least two elements of the equation (C)</p> Signup and view all the answers

    Which term is used traditionally to refer to the impact of transactions in the CMA exam?

    <p>Increases and decreases (A)</p> Signup and view all the answers

    Which factor determines whether a stock dividend is considered small or large?

    <p>The percentage of new shares relative to previously outstanding shares (C)</p> Signup and view all the answers

    What is assessed by the relationship between assets, liabilities, and equity?

    <p>Capital structure (D)</p> Signup and view all the answers

    When a company declares a small stock dividend, which of the following statements is true?

    <p>Retained earnings are reclassified to common stock at par value. (D)</p> Signup and view all the answers

    What happens to land on the payment date of a property dividend?

    <p>It decreases by the total value of the land distributed. (B)</p> Signup and view all the answers

    How does the statement of financial position aid users?

    <p>By enabling assessment of liquidity and financial health (A)</p> Signup and view all the answers

    What should be recorded in additional paid-in capital when a small stock dividend is declared?

    <p>The excess of the fair value over par value of new shares issued (B)</p> Signup and view all the answers

    How is a large stock dividend typically recognized in accounting practices?

    <p>As a stock split (B)</p> Signup and view all the answers

    What journal entry reflects the gain on land remeasurement when declaring a property dividend?

    <p>Gain on land remeasurement credited (B)</p> Signup and view all the answers

    Which of the following is NOT considered a cash outflow from financing activities?

    <p>Cash payments for inventory purchases (C)</p> Signup and view all the answers

    What is an example of a noncash financing activity?

    <p>Conversion of debt to equity (B)</p> Signup and view all the answers

    Which items must be adjusted when using the indirect method to determine operating cash flows?

    <p>Both noncash revenues and deferrals of past operating cash flows (A)</p> Signup and view all the answers

    When calculating cash flow from operating activities, which of the following is considered a noncash expense?

    <p>Depreciation expenses (B)</p> Signup and view all the answers

    What type of activity is represented by the payment of cash dividends?

    <p>Financing activity (D)</p> Signup and view all the answers

    Which of the following describes an item that would NOT be included in cash flows from financing activities?

    <p>Cash receipts from selling inventory (B)</p> Signup and view all the answers

    Why must adjustments be made to net income when calculating operating cash flows?

    <p>To adjust for noncash revenues and expenses (A)</p> Signup and view all the answers

    What is the primary purpose of disclosing noncash investing and financing activities in the notes?

    <p>To inform stakeholders about significant cashless transactions (C)</p> Signup and view all the answers

    What primarily distinguishes a controlling entity from a controlled entity?

    <p>The ability to absorb losses or benefits (A)</p> Signup and view all the answers

    What must be accounted for using the acquisition method in a business combination?

    <p>Fair value of identifiable net assets acquired (B)</p> Signup and view all the answers

    What does goodwill represent in the context of business combinations?

    <p>Intangible asset reflecting unidentifiable economic benefits (A)</p> Signup and view all the answers

    When is a gain from a bargain purchase recognized?

    <p>When the fair value of consideration transferred is less than net assets acquired (B)</p> Signup and view all the answers

    What is the purpose of preparing consolidated financial statements?

    <p>To provide a clearer picture of the economic entity's financial position (D)</p> Signup and view all the answers

    What is contained within the acquisition-date balance sheet of a consolidated entity?

    <p>The financial position as of the acquisition date (A)</p> Signup and view all the answers

    What must be measured at acquisition-date fair value in business combinations?

    <p>Identifiable assets and liabilities of the acquiree (A)</p> Signup and view all the answers

    How can one entity exert control over another entity without direct ownership?

    <p>Through contractual arrangements (A)</p> Signup and view all the answers

    Flashcards

    Accrual Basis of Accounting

    Financial statements are prepared using the accrual basis of accounting, which records financial effects when they occur, regardless of when cash is exchanged.

    Revenue Recognition Principle

    The revenue recognition principle states that revenue is recognized in the period when it is earned, even if cash is received later.

    Matching Principle

    The matching principle states that expenses are recognized in the same period as the related revenue.

    Expense Recognition Principle

    Expenses are recognized in the period in which they were incurred, even if cash is paid later.

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    Cash Basis of Accounting

    The cash basis of accounting recognizes revenue when cash is received and expenses when cash is paid. It is not allowed under GAAP.

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    Retained Earnings

    The equity section of the statement of financial position includes the retained earnings account, which reflects net income or loss from the statement of income.

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    Statement of Cash Flows Reconciliation

    The statement of cash flows reconciles the components of cash and cash equivalents from the statement of financial position.

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    Inventory on Financial Statements

    Ending inventories are reported as current assets on the statement of financial position and are used in calculating cost of goods sold on the statement of income.

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    Statement of Financial Position

    A financial statement that shows an organization's assets, liabilities, and equity at a specific point in time.

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    Assets

    Items of value owned by a business, including cash, accounts receivable, and equipment.

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    Liabilities

    Financial obligations of a business, including accounts payable, notes payable, and salaries payable.

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    Equity

    The owners' stake in a business, representing the difference between assets and liabilities.

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    Accounting Equation

    A fundamental accounting equation that states that assets are equal to the sum of liabilities and equity.

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    Liquidity

    The ability to pay current liabilities with current assets.

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    Financial Flexibility

    The flexibility to take advantage of opportunities and respond to unexpected demands.

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    Capital Structure

    The structure of a company's long-term financing, including debt and equity.

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    Current Assets

    Assets expected to be converted to cash, sold, or consumed within one year or the operating cycle, whichever is longer.

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    Noncurrent Assets

    Assets expected to be held for more than one year or an operating cycle.

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    Current Liabilities

    Obligations expected to be settled within one year or an operating cycle, whichever is longer.

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    Noncurrent Liabilities

    Obligations expected to be settled after one year or an operating cycle.

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    Liquidity Ordering

    The order in which assets are listed on the statement of financial position, based on their expected conversion to cash.

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    Operating Cycle

    A company's usual period of time to convert inventory into cash.

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    Financial Statements

    Financial records used to track the financial position of an entity.

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    Property Dividend

    The process of recognizing and distributing a dividend to stockholders using assets other than cash, such as land or inventory.

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    Declaration of a Property Dividend

    The accounting entry to reflect the declaration of a property dividend. This involves recognizing the value of the dividend liability and the gain on the appreciation of the asset distributed.

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    Distribution of a Property Dividend

    The accounting entry to reflect the distribution of a property dividend. This reduces the assets given as dividend and eliminates the dividend payable liability.

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    Stock Dividends

    Stock Dividends are issued using existing retained earnings. This is a reclassification of equity accounts that does not change total equity.

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    Small Stock Dividend

    This occurs when a company issues new shares to current stockholders, where the number of new shares is less than 20% to 25% of the previously outstanding shares.

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    Large Stock Dividend

    This occurs when a company issues new shares to current stockholders, where the number of new shares is more than 20% to 25% of the previously outstanding shares.

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    Stock Split (in the Form of a Dividend)

    When a company issues a large stock dividend (over 20% to 25%), GAAP requires it to be recognized as a stock split.

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    Accounting for Stock Dividends

    In accounting for stock dividends, the fair value of the new shares issued is reclassified from retained earnings to common stock (at par value), with the difference going to additional paid-in capital.

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    Cash Payments for Finance Lease Reduction

    Cash payments made to reduce the amount owed on a finance lease.

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    Indirect Method (Reconciliation Method)

    This method adjusts net income to arrive at the actual cash flow from operating activities.

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    Items Related to Investing/Financing Activities

    Items included in net income that relate to investing or financing activities.

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    Noncash Revenue and Expenses

    Noncash expenses that were already included in net income (e.g., depreciation, amortization, impairment losses).

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    Changes in Operating Assets and Liabilities

    Changes in asset and liability accounts that reflect deferrals or accruals of future cash flows.

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    Noncash Investing/Financing Activities

    Activities that affect recognized assets or liabilities but don't involve cash flows.

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    Cash Dividends Payments

    Paying cash dividends to shareholders.

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    Conversion of Debt to Equity

    The process of converting debt into equity, without involving cash.

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    Controlling Interest

    One entity controls another, absorbing its losses and benefits, but the controlled entity retains financial independence.

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    Acquisition Method - Fair Value Recognition

    The acquirer, in a business combination, recognizes and values the fair market value of assets acquired, liabilities assumed, and any noncontrolling interest at the acquisition date.

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    Goodwill

    Goodwill, an intangible asset, represents the future economic benefits acquired in a business combination that aren't individually identified.

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    Consolidated Financial Reporting

    Financial statements of a controlling and controlled entity are combined to reflect a single economic unit, even if separate legally.

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    Substance Over Form

    Consolidated financial reporting is about the economic reality of control, not just legal form. This is a key accounting principle.

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    Calculation of Goodwill & Bargain Purchase Gain

    The fair value of consideration transferred minus the fair value of identifiable net assets acquired. A positive difference is goodwill, a negative difference is a gain from a bargain purchase.

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    Acquisition-Date Balance Sheet

    A balance sheet for the consolidated entity on the acquisition date. This captures the financial position of the combined entity.

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    Acquisition Date

    The date a business combination is finalized, serving as a crucial point for fair value measurements.

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    Study Notes

    External Financial Statements

    • This study unit is the first of six on external financial reporting decisions
    • The relative weight assigned to this topic in the exam is 15%
    • This study unit covers fundamental concepts in financial accounting, crucial for understanding subsequent units (2-5).
    • Key topics include accounting users, accrual accounting, basic financial statements, the accounting equation, and equity transactions.
    • There are six total study units in this section

    Study Unit 1: External Financial Statements

    • The objective of general-purpose financial reporting is to provide useful financial information for resource allocation decisions.
    • The reporting relates to an entity's economic resources, claims to resources (financial position), and changes in these resources and claims.
    • Useful information allows users to evaluate liquidity, solvency, financing needs, and the probability of obtaining financing.

    Users of Financial Statements

    • External users (investors, creditors, financial advisors, analysts, stock exchanges, and regulatory agencies) determine the firm's businessworthiness.
    • Internal users (management, employees and the board of directors) utilise financial statements to manage business operations.

    Features of Financial Statements

    • Financial statements are the primary means for communicating financial information to external parties.
    • Notes to the financial statements are an essential part, providing additional detail and explanations of information presented.
    • The first footnote often outlines accounting policies, estimates used, assumptions, and policies for revenue recognition and asset allocation.

    Financial Statement Relationships

    • The financial statements complement each other, providing a comprehensive view of a company's economic decisions.
    • Components like net income (statement of income) are reflected in the retained earnings portion (statement of financial position).
    • The statement of cash flows reconciles the statement of financial position and changes to the cash account.
    • Items like inventory and depreciation (statement of income) are represented as asset and liability balances (statement of financial position).

    Accrual Basis of Accounting

    • Financial statements are prepared using an accrual basis, accounting for transaction impacts when they happen, not necessarily when cash is exchanged.
    • Revenues are recognized when earned, despite future cash receipt
    • Expenses are recognized when incurred, regardless of future cash payment
    • Matching principle: expenses and revenues are connected and recognized in the same time frames.

    Statement of Financial Position (Balance Sheet)

    • Reports assets, liabilities, and equity at a point in time.
    • Assets represent probable future economic benefits.
    • Liabilities represent probable future outflows of economic resources.
    • Equity is the residual interest in assets after deducting liabilities (assets = liabilities + equity).

    Income Statement

    • Reports the results of operations over a period of time.
    • Key components include revenues, gains, expenses, and losses.
    • Income is calculated as: (Revenues + Gains) - (Expenses + Losses)
    • Reports various aspects of sales like cost of goods sold to help determine gross and net profits.

    Cost of Goods Sold

    • Calculates the cost of goods sold using beginning inventory, purchases, and ending inventory.
    • Manufacturers need to consider cost of goods manufactured and finished goods inventory to determine cost of goods sold.

    Other Expenses

    • General and administrative expenses: unrelated to a specific function (e.g., office rent, utilities, salaries...)
    • Selling expenses: related to marketing or sales (e.g., sales staff salaries, advertisement...)
    • Interest expense: calculated based on the passage of time. (e.g., bonds, notes, finance leases...).

    Statement of Changes in Equity

    • Shows changes to equity accounts over a period.
    • Key components: net income, net loss, distributions to owners, issuance of common stock, and changes from other comprehensive income and treasury stock.

    Prior Period Adjustments

    • Involves the cumulative impact of changes in accounting principles or prior-period errors.
    • These adjustments are applied retrospectively to previous periods' financial statements.
    • Changes in estimate are treated prospectively.

    Stock Dividends and Stock Splits

    • A stock dividend represents additional shares issued to existing shareholders.
    • A stock split increases the number of outstanding shares, but the overall equity of the company is not changed.
    • The treatment and calculation for stock dividends and stock splits differ based on the % increase in shares.

    Cash Dividends

    • Cash dividends are distributions of cash to shareholders.
    • Key dates: Declaration date (board of directors decides), record date (stockholders are officially listed as receiving the dividend), and payment date (cash is sent).

    Property Dividend

    • A dividend involving transfer of tangible property to shareholders.
    • The property is revalued at the declaration date which is treated as a gain or loss on the income statement.
    • The carrying value is reduced to reflect the property's fair value.

    Statement of Cash Flows

    • Shows the cash inflows and outflows related to operating, investing, and financing activities.
    • Useful to assess liquidity, solvency, and financial flexibility.
    • Can use indirect (adjusting net income) or direct methods (accounting for each cash transaction).

    Consolidation Accounting

    • Used when one entity controls another entity.
    • Consolidating financial statements present the parent and subsidiary as if they're a single economic entity.
    • Eliminates intraentity balances, items like investment in subsidiary and dividends paid are eliminated.

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    CMA Study Unit 1 Outline PDF

    Description

    Test your knowledge on key accounting principles such as accrual and cash accounting, revenue recognition, and the relationship between income statements and retained earnings. This quiz covers essential topics in financial accounting, including the classification of assets and liabilities under GAAP standards.

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