Issues in Financial Accounting, 16th Edition By Scott Henderson Test Bank

Issues in Financial Accounting, 16th Edition By Scott Henderson

Email: richard@qwconsultancy.com

Henderson, Issues in Financial Accounting 16e Chapter 1: Institutional arrangements for setting accounting standards in Australia 1) Which of these are the main sources of regulations governing financial reporting in Australia?

A) Government legislation, stock exchange listing rules, accounting standards and pronouncement of FAASB B) Accounting standards, conceptual framework, stock exchange listing rules C) The Corporations Act, the AASB, CLERP D) AASB, FRC, government legislation Answer: A AACSB: Written and Oral Communication Topic: 1.1 Introduction Learning Objective: LO 1.1 Identify the main sources of financial reporting.

Difficulty: Easy 2) The ASX listing rules: A) apply to all companies and other entities reporting under the Corporations Act B) apply only to public sector entities C) are mandatory for public sector entities D) apply to publicly listed companies only Answer: D AACSB: Written and Oral Communication Topic: 1.1 Introduction Learning Objective: LO 1.1 Identify the main sources of regulation of financial reporting.

Difficulty: Easy 3) Compliance with accounting standards by reporting entities in the public sector is commonly supplemented by: A) ASIC B) ‘Treasurer’s Instructions’ C) FRC D) the Corporations Act Answer: B AACSB: Written and Oral Communication Topic: 1.1 Introduction Learning Objective: LO 1.1 Identify the main sources of regulation of financial reporting.

Difficulty: Easy 4) To practice in Australia, an accountant: A) must be registered by the AASB B) must be registered by the government C) must be a member of CPA Australia or ICAA D) none of the above Answer: D AACSB: Written and Oral Communication

Topic: 1.1 Introduction Learning Objective: LO 1.1 Identity the main sources of regulation of financial reporting.

Difficulty: Medium 5) The AASB has responsibility for making accounting standards applicable to: A) entities coming under the Corporations Act, entities in the public sector and the remainder of the non-corporate sector entities B) entities coming under the Corporations Act C) entities coming under the Corporations Act and entities in the public sector D) none of the above Answer: A AACSB: Written and Oral Communication Topic: 1.1 Introduction Learning Objective: LO 1.1. Identify the main sources of regulation of financial reporting.

Difficulty: Medium 6) The ASX listing rules include two mandatory requirements relating to their corporate governance guidelines.

These include a requirement: A) that the top 500 companies have an audit committee B) that the top 300 companies have an audit committee C) that all listed companies have an audit committee D) that the top 500 companies have an independent audit committee Answer: B AACSB: Written and Oral Communication Topic: 1.1 Introduction Learning Objective: LO 1.1 Identify the main sources of regulation of financial reporting.

Difficulty: Medium 7) Additional disclosure requirements by the ASX for stock exchange listed companies are all of the following, except: A) reporting of performance indicators such as return on shareholders' equity B) a statement of ethical guidelines for employees and management C) a requirement for the top 300 companies to have an audit committee D) none of the above, i.e., all are additional requirements for ASX listed companies Answer: B AACSB: Written and Oral Communication Topic: 1.1 Introduction Learning Objective: LO 1.1 Identify the main sources of regulation of financial reporting.

Difficulty: Medium 8) Under the Corporations Act the financial report consists of: A) comprehensive income statement, balance sheet, statement of cash flow, statement of changes in equity,

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director's declaration, notes to the financial statements B) comprehensive income statement, balance sheet, statement of changes in equity, cash flow statement C) comprehensive income statement, balance sheet, statement of cash flow D) comprehensive income statement, balance sheet, statement of changes in equity Answer: A AACSB: Written and Oral Communication Topic: 1.1 Introduction Learning Objective: LO 1.1 Identify the main sources of regulation of financial reporting.

Difficulty: Medium 9) Give an overview of the present institutional arrangements for standard setting in Australia.

Answer: In the private sector, the most important legislation specifying financial reporting requirements is the Corporations Act 2001, which replaced the Corporations Act 1989. This legislation may be found at <www.legislation.gov.au>. The Corporate Law Economic Reform Program (CLERP) was commenced in 1998 as part of the Commonwealth Government’s ongoing program to modernise business regulation in Australia. As part of this program, the Corporations Act was simplified through substantial amendments made in 1998, some of which affected financial reporting. Section 292 of the Corporations Act requires the preparation of financial statements for each financial year by all disclosing entities, all public companies, all large proprietary companies and all registered schemes AACSB: Written and Oral Communication Topic: 1.1 Introduction Learning Objective: LO 1.1 Identify the main sources of regulation of financial reporting.

Difficulty: Hard 10) Interpretation Advisory Panels make recommendations on particular issues to: A) AASB B) UIG C) ASIC D) ASX Answer: A AACSB: Written and Oral Communication Topic: 1.2 Accounting standard setting in Australia Learning Objective: LO 1.2. Identify the major developments in the institutional arrangements for accounting standard setting.

Difficulty: Medium 11) It is not part of the role of the Financial Reporting Council: A) to approve and monitor the AASB's priorities B) to review the content of existing accounting standards C) to promote a greater role for international accounting standards in Australia D) to appoint members of the AASB Answer: B

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AACSB: Written and Oral Communication Topic: 1.2 Accounting standard setting in Australia Learning Objective: LO 1.2. Identify the major developments in the institutional arrangements for accounting standard setting.

Difficulty: Medium 12) Which statement is incorrect regarding the Corporations Act 2001?

A) the accounting standards are deemed to be part of the Corporations Act B) financial reports must comply with the accounting standards C) the accounting standards need not be complied with if, in the opinion of the board of directors, this would not result in a true and fair view D) if the financial statements and notes prepared in compliance with accounting standards would not give a true and fair view, then additional information necessary to give a true and fair view must be included in the notes to the statements Answer: C AACSB: Written and Oral Communication Topic: 1.2 Accounting standard setting in Australia Learning Objective: LO 1.2 Identify the major developments in the institutional arrangements for accounting standard setting.

Difficulty: Hard 13) The body that oversees the operation of the Auditing and Assurance Standards Board is: A) The Financial Reporting Council (FRC) B) ASIC C) AASB D) ASX Answer: A AACSB: Written and Oral Communication Topic: 1.2 Accounting standard setting in Australia Learning Objective: LO 1.3 Explain the present accounting standard-setting arrangements.

Difficulty: Medium 14) The most correct description of the stages in the development of AASB accounting standards is: A) invitation to comment, exposure draft, discussion paper, approval of final standard B) discussion paper, public comment, exposure draft, approval of final standard C) discussion paper, exposure draft, approval of final standard, review D) discussion paper, exposure draft, public comment, approval of final standard Answer: D AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.4 Explain the process of developing accounting standards and concepts statements in Australia.

Difficulty: Hard

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15) Which statement concerning AASB Interpretations is not correct?

A) In 2006, the AASB decided to take over the role of the Urgent Issues Group B) The AASB has set up an Interpretations Agenda Committee comprising the chairman and two other AASB members C) Interpretations of IASB standards made by the IFRIC are not relevant in Australia D) None of the above, i.e., all statements are correct Answer: C AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.4 Explain the process of developing accounting standards and concepts statements in Australia.

Difficulty: Medium 16) Which of the following is/are true concerning the issue of accounting standards in Australia after internationalisation?

A) The AASB adds to proposed international standards material detailing their scope and applicability in Australia B) The AASB adds material to broaden the content of international standards to cover the not-for-profit sector C) After issuing an exposure draft for comment and considering the response, the AASB issues an Australian standard equivalent to the IASB standard D) All of the statements are true Answer: D AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.4 Explain the process of developing accounting standards and concepts statements in Australia.

Difficulty: Medium 17) Explain and discuss the procedures currently operating in Australia for dealing with issues involving the development of AASB Interpretations.

Answer: The present arrangement in Australia is that the AASB has direct responsibility for developing and approving interpretations. This arrangement came into place on 1 July 2006, when the AASB took over the role of the Urgent Issues Group (UIG).6 One reason for taking over this responsibility is that the AASB has more scope to consider issues of interpretation of accounting standards in a timely fashion now that most of the development of accounting standards is conducted by the IASB. The UIG was operative between 1995 and 2006, issuing UIG Abstracts, which fulfilled a similar role to AASB Interpretations.

Prior to its disbandment, the UIG undertook a revision of existing UIG Abstracts to ensure consistency with IFRSs from 1 January 2005. We refer to the revised material as ‘UIG Interpretations’.

After assuming responsibility for developing and approving interpretations, the AASB sought stakeholder input on its proposed interpretations model. Ultimately, the interpretations model was finalised and has been effective since 1 January 2008 AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations

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Learning Objective: LO 1.5. Explain the process of developing interpretations.

Difficulty: Medium 18) The Corporations Act 2001 requires that the governing board of the company: A) table standards in the Commonwealth House of Representative and the Senate B) establish accounting standards in preparing financial statements C) provide a true and fair view of the accounting standards D) comply with AASB accounting standards in preparing financial statements Answer: D AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.6 Explain the process of enforcing accounting standards and interpretations.

Difficulty: Medium 19) Which of the following is not a form of public comment and discussion for agenda papers?

A) a motion to order a deadline in publishing a final draft B) a discussion paper outlining a wide range of possible accounting policies on a particular topic C) an invitation to comment seeking feedback on broad proposals D) a draft interpretation of a standard Answer: A AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.6 Explain the process of enforcing accounting standards and interpretations.

Difficulty: Medium 20) Which item listed indicates an effect of a ‘legislative instrument’?

A) The making of a standard is to be notified in the Commonwealth of Australia Gazette.

B) Standards are to be tabled in the Commonwealth House of Representatives for 30 sitting days.

C) The ASIC votes to make a standard.

D) The Senate is given the final authority to approve accounting standards for application.

Answer: A AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.6 Explain the process of enforcing accounting standards and intepretations.

Difficulty: Medium

21) The final approval of accounting standards to apply under the Corporations Act rests with: A) Parliament B) AASB C) ASIC D) The Joint Standing Committee of the Institute of Chartered Accountants in Australia and CPA Australia

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Answer: A AACSB: Analytical Thinking Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.6 Explain the process of enforcing accounting standards and interpretations.

Difficulty: Medium 22) The role of the Australian Securities and Investments Commission is to: A) issue accounting standards B) administer and ensure compliance with the Corporations Act C) develop the conceptual framework D) supervise the AASB Answer: B AACSB: Analytical Thinking Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.6 Explain the process of enforcing accounting standards and interpretations.

Difficulty: Easy 23) Under section 296 of the Corporations Act 2001, directors of companies that fail to comply with AASB accounting standards may be prosecuted by: A) ASIC B) AASB C) ASX D) FRP Answer: A AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.6. Explain the process of enforcing accounting standards and interpretations.

Difficulty: Medium 24) Penalties that can be imposed by the professional bodies on members who do not comply with accounting standards can be: A) disciplinary proceedings B) fines C) expulsion from the professional body D) all of the above Answer: D AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.6. Explain the process of enforcing accounting standards and interpretations.

Difficulty: Easy

25) Explain how accounting standards are currently enforced in Australia.

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Answer: Compliance with APES 205 is mandatory for members of the professional accounting bodies, and non-compliance represents a breach of the code of ethics issued by the APESB. Failure by members to comply with the requirements of APES 205 may result in disciplinary proceedings being brought against them, which could result in the imposition of a fi ne or expulsion from the professional body. The potential negative reputational effects that would result from the publication of the disciplinary action against a member are a strong incentive for members to comply with APES 205. However, in the absence of statutory registration of accountants, the threat of expulsion may be of limited value in ensuring compliance. Expulsion may have a limited effect on the earning capacity of the individual. The imposition of a fi ne may also be ineffective. If the fi ne is small, benefits from non-compliance with an accounting standard may exceed the fine.

AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.6. Explain the process of enforcing accounting standards and interpretations.

Difficulty: Medium

26) Discuss the role of the accounting bodies in the regulation of Australian accounting practice.

Answer: The accounting profession’s attitude towards accounting standards has changed from regarding them simply as recommendations during the 1960s to making them mandatory by the 1990s. In February 2006, the APESB was established as an initiative of CPAA and the then Institute of Chartered Accountants in Australia (ICAA) primarily to develop and issue appropriate professional and ethical standards for their membership. The IPA subsequently became a member of the APESB. The initial focus of the APESB’s activities was, inter alia, the review of existing professional and ethical standards such as the old Code of Professional Conduct and Miscellaneous Professional Statements (APS series) and guidance notes (GN series). The subsequent APES series of ethical and professional standards approved by the APESB is mandatory for accountants who are members of CPAA, CAANZ and the IPA. Broadly, these standards aim to regulate members’ ethical conduct and the performance of professional services across various types of professional engagements.

AACSB: Written and Oral Communication Topic: 1.3. The preparation and enforcement of AASB Accounting Standards and AASB Interpretations Learning Objective: LO 1.6. Explain the process of enforcing accounting standards and interpretations.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 2: The conceptual framework: Purpose, reporting entity, the objective of financial reporting, and qualitative characteristics 1) Which of the following is not a fundamental issue when an accountant faces a new type of transaction?

A) recognition B) measurement C) disclosure D) issuance Answer: D AACSB: Analytical Thinking Topic: 2.2 The nature and purpose of a conceptual framework.

Learning Objective: LO 2.1. Describe the purpose of a conceptual framework.

Difficulty: Easy 2)

The major beneficiary from the development of a conceptual framework is expected to be:

A) governments B) preparers of financial reports C) accounting standard setters D) managers Answer: C AACSB: Analytical Thinking Topic: 2.2 The nature and purpose of a conceptual framework.

Learning Objective: LO 2.1. Describe the purpose of a conceptual framework.

Difficulty: Medium 3) Which of the following is not one of the major potential benefits of a conceptual framework for accounting standards setters?

A) Improve the communication process B) More consistent and logical accounting standards C) Savings in auditing costs D) Improved accountability Answer: C AACSB: Analytical Thinking Topic: 2.2 The nature and purpose of a conceptual framework.

Learning Objective: LO 2.1. Describe the purpose of a conceptual framework.

Difficulty: Easy 4) The elements of financial statements, as outlined in the conceptual framework, are: A) assets, liabilities, equity, income, expenses B) balance sheet, income statement, cash flow statement

C) materiality, comparability, relevance, reliability D) historical cost, current cost, net market value, constant purchasing power Answer: A AACSB: Written and Oral Communication Topic: 2.2. The nature and purpose of a conceptual framework.

Learning Objective: LO 2.1. Describe the purpose of a conceptual framework.

Difficulty: Medium 5) Financial statements prepared by non-reporting entities are known as: A) Entity financial statements B) Special purpose financial statements C) Quarterly mandated financial reports D) General purpose financial statements Answer: B AACSB: Written and Oral Communication Topic: 2.2. The nature and purpose of a conceptual framework.

Learning Objective: LO 2.1. Describe the purpose of a conceptual framework.

Difficulty: Medium

6) List and briefly explain the four fundamental issues that accountants address when developing the appropriate accounting policy for a new type of transaction.

Answer: Definitions – what are the components of the transaction for financial reporting purposes? That is, we must identify what assets, liabilities, equity, revenue or expenses are generated by the transaction. Recognition – having identified the elements of a transaction, the second issue is when, if at all, should those elements be incorporated into the body of the financial statements? Measurement – having identified and recognised the elements, it is then necessary to measure the financial effects of the transaction. Disclosure – as some transactions might give rise to elements that cannot yet be recognised or because users of financial statements might need extra information about particular transactions, a fourth issue is whether additional information should be provided in the notes to the financial statements.

AACSB: Analytical Thinking Topic: 2.2. The nature and purpose of a conceptual framework.

Learning Objective: LO 2.1. Describe the purpose of a conceptual framework.

Difficulty: Medium 7) Which statement is incorrect?

A) APB statement No. 4. 'Basic-Concepts and Accounting Principles Underlying Financial Statements of Business Enterprises' was the US profession's first conceptual framework B) The trend in accounting over many years has been to reduce disclosure in published reports C) The double-entry bookkeeping system was developed in Italy during the 13 th and 14th centuries D) In earlier times many present-day transactions were not contemplated by accountants Answer: B AACSB: Written and Oral Communication

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Topic: 2.3 The history, structure and status of the Australian conceptual framework.

Learning Objective: LO 2.2. Describe the structure of the Australian conceptual framework.

Difficulty: Medium 8) From 1 January 2005 the Australian conceptual framework includes: A) SAC 1-2 and the IASB conceptual framework B) SAC 1-4 and the IASB conceptual framework C) the IASB conceptual framework D) none of the above Answer: A AACSB: Written and Oral Communication Topic: 2.3. The history structure, and status of the Australian conceptual framework.

Learning Objective: LO 2.2. Describe the structure of the Australian conceptual framework.

Difficulty: Medium

9) Which components of the conceptual framework were withdrawn upon adoption of the IASB conceptual framework?

A) SAC 1 and SAC 2 B) Statements on Financial Accounting Concepts C) SAC 3 and SAC 4 D) All of the above Answer: C AACSB: Written and Oral Communication Topic: 2.3. The history structure, and status of the Australian conceptual framework.

Learning Objective: LO 2.2. Describe the structure of the Australian conceptual framework.

Difficulty: Medium 10) Which term defines a ‘financial report intended to meet the information needs common to users who are unable to command the preparation of reports tailored so as to satisfy, specifically, all of the information needs’.

A) Balance Sheet B) Auditor’s Report C) General Purpose Financial Statements D) Management Discussion and Analysis Answer: C AACSB: Written and Oral Communication Topic: 2.4. The reporting entity concept and general purpose financial reporting Learning Objective: LO 2.3. Describe the reporting entity concept and the role of general purpose financial reporting.

Difficulty: Easy 12) SAC1 defines an entity which has users who are dependent on general purpose financial reports as a/an:

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A) accounting entity B) reporting entity C) company entity D) legal entity Answer: B AACSB: Written and Oral Communication Topic: 2.4. The reporting entity concept and general purpose financial reporting Learning Objective: LO 2.3. Describe the reporting entity concept and the role of general purpose financial reporting.

Difficulty: Easy

13) What is not a key characteristic concerning users of general purpose financial statements?

A) The users do not necessarily have to be known to the entity B) The users are internal to the entity C) The users lack the power to demand that the entity provides them with specific information D) All of the above are key characteristics Answer: B AACSB: Written and Oral Communication Topic: 2.4. The reporting entity concept and general purpose financial reporting Learning Objective: LO 2.3. Describe the reporting entity concept and the role of general purpose financial reporting.

Difficulty: Medium 14) In establishing reporting requirements, the Corporations Act distinguishes between: A) large and small proprietary companies B) service and non-service entities C) legal and non-legal entities D) reporting and non-reporting entities Answer: A AACSB: Written and Oral Communication Topic: 2.4. The reporting entity concept and general purpose financial reporting Learning Objective: LO 2.3. Describe the reporting entity concept and the role of general purpose financial reporting.

Difficulty: Medium 15) Which factor(s) is/are identified in SAC1 to assist in determining whether an entity has users dependent on general purpose financial reports?

A) Type of accounting system B) Classes of issued shares C) Separation of management and ownership D) All of the above Answer: C

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AACSB: Written and Oral Communication Topic: 2.4. The reporting entity concept and general purpose financial reporting Learning Objective: LO 2.3. Describe the reporting entity concept and the role of general purpose financial reporting.

Difficulty: Medium 16) When deciding whether an entity is a reporting entity reference should be made to: A) relevant legislation rather than SAC1 B) SAC1 rather than relevant legislation C) ASX listing rules rather than Australian Accounting Standards D) Australian Accounting Standards rather than ASX listing rules Answer: A AACSB: Written and Oral Communication Topic: 2.4. The reporting entity concept and general purpose financial reporting Learning Objective: LO 2.3. Describe the reporting entity concept and the role of general purpose financial reporting.

Difficulty: Medium 17) Distinguish between general purpose and special purpose financial statements. Give examples of each type of report.

Answer: General purpose financial statements are prepared to meet the common interests of a wide range of stakeholders, with no particular stakeholder’s information needs taking priority. Special purpose financial statements are prepared for specific users who have the power to demand that the entity provides financial information directly relevant to that user’s specific needs. For example, a small family-owned business may be seeking a loan from a bank.

AACSB: Written and Oral Communication Topic: 2.4. The reporting entity concept and general purpose financial reporting Learning Objective: LO 2.3. Describe the reporting entity concept and the role of general purpose financial reporting.

Difficulty: Medium

18) Describe the various factors in determining the existence of dependent users of financial statements.

Answer: Where the existence of dependent users is not readily obvious, then paragraph 19 of SAC1 states that it is necessary to look at other indicative factors, which include whether: • there is a separation of management from the entity’s owners or members • the entity is of such economic or political importance that it is likely to have an impact on the welfare of parties external to it; or • its financial characteristics are such that it would have external stakeholders who need information about the entity. For example, the larger the entity, the more likely it is that it will have external parties, such as employees or creditors, who need, but cannot demand, financial information.

AACSB: Written and Oral Communication

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Topic: 2.4. The reporting entity concept and general purpose financial reporting Learning Objective: LO 2.3. Describe the reporting entity concept and the role of general purpose financial reporting.

Difficulty: Medium 19) According to a study from the 1980’s, what are the three components of the objective of accounting?

A) Relevance, control, and reliability B) Faithful representation, control, and fair value C) Accountability, decision usefulness, and control D) Accountability, relevance, and decision usefulness Answer: C AACSB: Analytical Thinking Topic: 2.5. The objective of general purpose financial reporting Learning Objective: LO 2.4. Describe the objective of general purpose financial reporting.

Difficulty: Medium

20) The IASB Framework defines the objective of general purpose financial reporting as: A) to provide about the reporting entity that is useful to existing and potential investors, lenders and other creditors in making decisions about providing resources to the entity B) to decide whether the reporting entity is achieving its objectives in accordance with Generally Accepted Accounting Principles C) to give a true and fair view of the financial position and performance of the entity D) None of the above Answer: A AACSB: Written and Oral Communication Topic: 2.5. The objective of general purpose financial reporting Learning Objective: LO 2.4. Describe the objective of general purpose financial reporting.

Difficulty: Medium

21) Assisting the users to assess the amount, timing and uncertainty associated with an entity’s future cash flows is a decision common to: A) the not-for-profit sector B) auditors C) standards setters D) for-profit sector Answer: D AACSB: Written and Oral Communication Topic: 2.5. The objective of general purpose financial reporting Learning Objective: LO 2.4. Describe the objective of general purpose financial reporting.

Difficulty: Medium

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22) What is one difficulty encountered with asking users of financial information what they want?

A) Cost-benefit constraint B) Lack of available information C) The decision making process is not the same for all decision makers.

D) Choice of information sources Answer: C AACSB: Analytical Thinking Topic: 2.6. The qualitative characteristics of useful financial information.

Learning Objective: LO 2.4. Describe the objective of general purpose financial reporting.

Difficulty: Hard 23) Which of the following is a characteristic of financial information as suggested by the American Accounting Association?

A) Faithful Representation B) Reliability C) Relevance D) Consistency Answer: C AACSB: Analytical Thinking Topic: 2.6. The qualitative characteristics of useful financial information.

Learning Objective: LO 2.5. Describe the qualitative characteristics of useful financial information.

Difficulty: Hard

24) Which fundamental qualitative characteristic best describes the capability of financial information making a difference in decisions made by users?

A) Faithful representation B) Relevance C) Reliability D) Comparability Answer: B AACSB: Analytical Thinking Topic: 2.5. The objective of general purpose financial reporting Learning Objective: LO 2.6. Identify the fundamental characteristics of useful financial information.

Difficulty: Medium 25) Which qualitative characteristic of financial information focuses on the inclusion of relevant information?

A) Faithful representation B) Materiality C) Comparability D) Cost constraint

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Answer: B AACSB: Analytical Thinking Topic: 2.6. The qualitative characteristics of useful financial information.

Learning Objective: LO 2.6. Identify the fundamental characteristics of useful financial information.

Difficulty: Medium 26) Which term best illustrates the assurance that financial information faithfully represents the economic phenomena it purports to represent?

A) Timeliness B) Understandability C) Verifiability D) Comparability Answer: C AACSB: Analytical Thinking Topic: 2.6. The qualitative characteristics of useful financial information.

Learning Objective: LO 2.7. Identify the characteristics that enhance the usefulness of financial information.

Difficulty: Medium 27)

What are the two aspects related to the timeliness of financial information?

A) Relevance and comparability B) Frequency and timing C) Faithful representation and frequency D) Timing and relevance Answer: B AACSB: Analytical Thinking Topic: 2.6. The qualitative characteristics of useful financial information.

Learning Objective: LO 2.7. Identify the characteristics that enhance the usefulness of financial information.

Difficulty: Easy 28) Explain the differences between verifiability and understandability of financial information.

Answer: Framework 2014 identifies verifiability as an enhancing qualitative characteristic. Verifiability helps to assure users that financial information faithfully represents the economic phenomena it purports to represent.

Verifiability means that different knowledgeable and independent observers could reach consensus that a particular item in the financial statements is a faithful representation. Financial information is understandable when users of that information are able to comprehend its meaning. The understandability of financial information may be influenced by the amount of detail, the use of technical language, the format of the financial statements, the headings used and so on.

AACSB: Analytical Thinking Topic: 2.6. The qualitative characteristics of useful financial information.

Learning Objective: LO 2.7. Identify the characteristics that enhance the usefulness of financial information.

Difficulty: Medium 29) Which considerations are considered basic constraints on the preparation and presentation of financial

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information?

A) Relevance and reliability B) Timeliness and faithful representation C) Costs and benefits D) Understandability and Verifiability Answer: C AACSB: Written and Oral Communication Topic: 2.6. The qualitative characteristics of useful financial information.

Learning Objective: LO 2.8. Identify the nature of the cost constraint on the provision of useful information.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 3: The conceptual framework: Definition, recognition and measurement of the elements in general purpose financial statements 1) Which of the following is not considered an element of the statement of financial position?

A) Liabilities B) Equity C) Expenses D) Assets Answer: C AACSB: Analytical Thinking Topic: 3.2. The elements of financial statements.

Learning Objective: LO 3.1. Identify the elements of financial statements.

Difficulty: Easy 2) What is the term for the action or process of recording a transaction or event in an entity’s accounting records?

A) Recording B) Valuation C) Aggregating D) Recognition Answer: D AACSB: Written and Oral Communication Topic: 3.3. Definition and recognition Learning Objective: LO 3.2. Distinguish between the definition and recognition of the elements of the financial statements.

Difficulty: Medium 3) The recognition of an element of a financial statement is: A) a description of the element in the notes to the financial statement B) an action or process to record the transaction or event in the accounting records C) a statement identifying the characteristics that an element must have D) both A and C Answer: B AACSB: Written and Oral Communication Topic: 3.3. Definition and recognition Learning Objective: LO 3.2. Distinguish between the definition and recognition of the elements of financial statements.

Difficulty: Medium 4) Which of the following provides an example of measurement based on a nominal scale?

A) Postcode B) Temperature using centigrade C) Temperature using Fahrenheit

D) The outcome of an election process Answer: A AACSB: Written and Oral Communication Topic: 3.4. Measurement Learning Objective: LO 3.3. Define measurement and identify the alternative measurement scales.

Difficulty: Medium 5) How is the concept of aggregation best summarised?

A) as the property that provides relevant information that is a faithful representation B) different properties are measured and different scales are used C) the measurement scale can be defined by several different bases D) comparable characteristics of all elements should be measured using the same scale Answer: D AACSB: Analytical Thinking Topic: 3.5. Measurement in accounting Learning Objective: LO 3.4. Describe measurement in the context of accounting.

Difficulty: Medium

6) In the Framework, 'probable' means: A) greater than 50% certainty B) 50% certainty C) greater than 75% certainty D) greater than 95% certainty Answer: A AACSB: Written and Oral Communication Topic: 3.5. Measurement in accounting Learning Objective: LO 3.6. Identify the recognition criteria for assets and describe the alternative measurement bases that may be employed.

Difficulty: Medium

7) Measuring and reporting assets using historical cost is most relevant in satisfying: A) the stewardship objective of financial reporting B) the decision usefulness objective of financial reporting C) the objectives of relevance and reliability in financial reporting D) both A and B Answer: A AACSB: Analytical Thinking Topic: 3.6 Assets Learning Objective: LO 3.3. Define measurement and identify the alternative measurement scales.

Difficulty: Medium

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8) Under the Framework, assets should be recognised in the balance sheet when: A) future economic benefits can probably be measured reliably B) future economic benefits are relevant, reliable and material C) future economic benefits are probable and cost or value can be measured reliably D) future economic benefits are relevant and can be measured reliably Answer: C AACSB: Written and Oral Communication Topic: 3.6 Assets Learning Objective: LO 3.6. Identify the recognition criteria for assets and describe the alternative measurement bases that may be employed.

Difficulty: Medium 9) Future economic benefits for assets come from: A) value-in-utility B) value-in-exchange C) value-in-use D) both B and C Answer: D AACSB: Analytical Thinking Topic: 3.6 Assets Learning Objective: LO 3.6. Identify the recognition criteria for assets and describe the alternative measurement bases that may be employed.

Difficulty: Medium

10) In accounting, 'value' can mean: A) historical cost B) market value C) replacement cost D) any of the above Answer: D AACSB: Analytical Thinking Topic: 3.6 Assets Learning Objective: LO 3.6. Identify the recognition criteria for assets and describe the alternative measurement bases that may be employed.

Difficulty: Medium 11) Which of these is the strongest argument in favour of current replacement cost as an alternative to historical cost?

A) Current replacement cost provides a more reliable measure of performance B) Current replacement cost provides a more relevant measure of performance

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C) Current replacement cost provides a more reliable balance sheet D) Current replacement cost provides better information on cash flows Answer: B AACSB: Analytical Thinking Topic: 3.6 Assets Learning Objective: LO 3.6. Identify the recognition criteria for assets and describe the alternative measurement bases that may be employed.

Difficulty: Medium

12) The estimated current net market value of an asset in the ordinary course of business is known as: A) opportunity cost B) replacement cost C) current cash equivalent D) discounted value of future cash flows Answer: C AACSB: Written and Oral Communication Topic: 3.6 Assets Learning Objective: LO 3.6. Identify the recognition criteria for assets and describe the alternative measurement bases that may be employed. recognition criteria.

Difficulty: Medium

13) The Framework defines assets as: A) resources controlled by the entity as a result of past events and from which future economic benefits are expected to flow to the entity B) probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events C) the service potential expected from resources controlled by the reporting entity as a result of past events D) future economic benefits expected from resources controlled by the reporting entity as a result of past events Answer: A AACSB: Written and Oral Communication Topic: 3.6 Assets Learning Objective: LO 3.5. Define assets and identify their essential characteristics.

Difficulty: Medium 14) The key characteristic used by the Framework to define an asset is: A) saleability B) type of item C) ability to generate future economic benefits D) ability to generate future cash flows Answer: C

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AACSB: Written and Oral Communication Topic: 3.6 Assets Learning Objective: LO 3.5. Define assets and identify their essential characteristics.

Difficulty: Medium

15) Under the Framework, a transport company does not regard the road outside its premises as an asset because: A) it is not owned B) it will not provide future economic benefits C) the amount of future economic benefits is uncertain D) it is not controlled Answer: D AACSB: Written and Oral Communication Topic: 3.6 Assets Learning Objective: LO 3.5. Define assets and identify their essential characteristics.

Difficulty: Medium 16) In the Framework, 'the present obligation of the entity arising from past events, the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits' is the definition of: A) revenues B) assets C) expenses D) liabilities Answer: D AACSB: Written and Oral Communication Topic: 3.7. Liabilities Learning Objective: LO 3.7. Define liabilities and identify their essential characteristics.

Difficulty: Medium 17) Which of these is not an essential characteristic of a liability under the Framework?

A) Future sacrifice of economic benefits B) Control C) Existence of a present obligation to another entity D) A past transaction or other past event Answer: B AACSB: Written and Oral Communication Topic: 3.7. Liabilities Learning Objective: LO 3.7. Define liabilities and identify their essential characteristics.

Difficulty: Medium 18) An entity has decided to commit itself to the purchase of a new building in the next financial year. Under the Framework:

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A) a liability exists because it is probable that a future sacrifice of economic benefits will be required B) no liability exists because there is no present obligation C) a liability exists because there is a constructive obligation D) a liability exists because there is an equitable obligation Answer: B AACSB: Written and Oral Communication Topic: 3.7. Liabilities Learning Objective: LO 3.7. Define liabilities and identify their essential characteristics.

Difficulty: Medium 19) Which of the following is not an advantage of the contract-price method?

A) It is simple to apply B) It ignores the time value of money C) It recognizes the interest obligation as a liability D) It relies on readily verifiable documentary evidence AACSB: Analytical Thinking Answer: C Topic: 3.7. Liabilities Learning Objective: LO 3.8. Identify the recognition criteria for liabilities and describe the alternative measurement bases that may be employed.

Difficulty: Medium 20) AASB 137 'Provisions, Contingent Liabilities and Contingent Assets' requires information about contingent liabilities to be disclosed in a note to the financial statements where the probability of a future sacrifice of economic benefit is: A) higher than remote B) above 20% C) between 25% and 50% D) above 50% Answer: A AACSB: Written and Oral Communication Topic: 3.7. Liabilities Learning Objective: LO 3.8. Identify the recognition criteria for liabilities and describe the alternative measurement bases that may be employed.

Difficulty: Medium

21) Which statement is incorrect?

A) Net assets, net worth, shareholders' equity and proprietorship are all synonyms for equity B) The settlement of a liability by the owner from his private funds results in an increase in equity C) Under the Framework equity exists only because there are assets and liabilities D) None of the statements is incorrect, i.e., all are correct Answer: D

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AACSB: Written and Oral Communication Topic: 3.8. Equity Learning Objective: LO 3.9. Define equity and describe the basis for its recognition and measurement.

Difficulty: Medium 22) The Framework definition of revenue (income) differs in which important aspect from the FASB definition?

A) In some circumstances it includes contributions by owners as revenue B) It includes a reduction in liabilities as one of the forms that revenue can take C) It defines revenue as an inflow D) It does not identify the sources of the revenue Answer: D AACSB: Written and Oral Communication Topic: 3.9 Income Learning Objective: LO 3.10. Define income and identify its essential characteristics.

Difficulty: Hard 23) Explain and discuss three essential characteristics of an asset as defined by the Framework.

Answer: The essential characteristics of an asset are: • future economic benefits; • control by the entity; and • the result of a past event.

AACSB: Analytical Thinking Topic: 3.9 Income Learning Objective: LO 3.10. Define income and identify its essential characteristics.

Difficulty: Medium 24) What characteristic is emphasised in the definition of income?

A) flow B) change in stock C) presentation D) disclosure Answer: A AACSB: Analytical Thinking Topic: 3.9 Income Learning Objective: LO 3.11. Identify the recognition criteria for income and describe its measurement.

Difficulty: Medium

25) According to Framework 2014, when should income be recognised?

A) When cash is received B) On the date listed on the statement of financial position C) On a straight-line basis in accordance with fixed assets D) When it is probable that an increase in economic benefits has occurred Answer: D AACSB: Analytical Thinking

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Topic: 3.9 Income Learning Objective: LO 3.11. Identify the recognition criteria for income and describe its measurement.

Difficulty: Easy 26) Discuss the different theories concerning how liabilities should be measured.

Answer: Paton and Littleton wrote, for example, that: Liabilities, like assets, represent bargained prices … In other words, the standard of recorded cost applies on both sides of the balance sheet (statement of financial position) [words in brackets added].26 Bennett, Grant and Parker stated: the amount of a liability in the balance sheet (statement of financial position) ought to represent … the present value of the future cash payment to which … the company would not be committed if the debentures had not been issued … The interest rate should be the current market rate of interest for securities of a similar type [words in brackets added].27 Sprouse and Moonitz suggested: to measure a liability is to determine the ‘weight’ or ‘burden’ of the obligation on the balance sheet (statement of financial position) date. This ‘burden’ is the lowest amount for which the obligation could be effectively discharged [words in brackets added].28 Chambers suggested: it is possible to compute the current cash equivalent of these obligations by discounting the sum payable in the future to a present sum using the rate of interest payable for the immediate use of the money necessary to enable settlement to be made.

AACSB: Written and Oral Communication Topic: 3.9 Income Learning Objective: LO 3.11. Identify the recognition criteria for income and describe its measurement.

Difficulty: Medium 27) List and explain the four types of measurement scales.

Answer: nominal scales - The use of a nominal scale is the simplest form of measurement. Objects or events are classified by assigning numbers to them using rules. ordinal scales - This type of measurement allows discrimination between objects or events, using terms such as ‘more than’, ‘less than’ and ‘equal to’. The objects or events are ranked; interval scales - This system requires that the class intervals are a constant size and that the change in the attribute being measured is reflected in the assigned numeral.; and ratio scales - It has an additional feature beyond the interval scale. It has a natural zero, which is that point at which the measured characteristic is completely absent. Linear measurements involve the use of a ratio scale.

AACSB: Written and Oral Communication Topic: 3.9 Income Learning Objective: LO 3.11. Identify the recognition criteria for income and describe its measurement.

Difficulty: Medium

28) Compare the FASB definition of revenue and the Australian concept of income. In your answer discuss the treatment of gains in both jurisdictions.

Answer: In Framework 2014 income is defined in paragraph 70(a) as ‘increases in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases in liabilities that result in increases in equity, other than those relating to contributions from equity participants’. This definition does not define income based on the sources of income (e.g. sales to customers); rather, it focuses on the nature of income. It requires that

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the inflows or enhancements of assets, or decreases in liabilities, must increase equity. An increase in assets as a result of the sale of inventory would increase equity and would, therefore, give rise to income. However, there are some increases in equity, particularly those resulting from contributions by owners, which do not qualify as income.

Further, an increase in assets as a result of an issue of debt securities would not increase equity and would not, therefore, give rise to income. In Framework 2014, no attempt is made to formally distinguish between different types of income. For example, income from selling an entity’s goods and services is not a separate element from gains made from the sale of non-current assets or the revaluation of property. In Framework 2014, income has the following essential characteristics: • It is a flow • that takes the form of an increase in assets or a decrease in liabilities and • results in an increase in equity. For example, in its conceptual framework, the Financial Accounting Standards Board (FASB) has stated that income consists of two components: revenue and gains. Similarly, expenses can be distinguished from losses.

AACSB: Analytical Thinking Topic: 3.9 Income Learning Objective: LO 3.11. Identify the recognition criteria for income and describe its measurement.

Difficulty: Medium 29) Under the Framework, which of these is not an essential characteristic of an expense?

A) It must result in a decrease in equity B) It must represent a flow C) It must be associated with the earning of revenue D) It must take the form of a decrease in an asset or an increase in a liability Answer: C AACSB: Written and Oral Communication Topic: 3.10 Expenses Learning Objective: LO 3.12. Define expenses and identify their essential characteristics.

Difficulty: Medium 30) In the Framework's definition of expenses: A) there is no distinction between expenses and losses B) expenses must be matched against income C) the causes of expenses are specifically identified D) if the definition is satisfied the item must be recognised in the financial statements Answer: A AACSB: Written and Oral Communication Topic: 3.10 Expenses Learning Objective: LO 3.12. Define expenses and identify their essential characteristics.

Difficulty: Medium 31) Depreciation and wages that have been accrued represent, respectively, expenses resulting from: A) a decrease in an asset: a decrease in a liability B) the using up of an asset: an increase in a liability C) the using up of a liability: an increase in an asset D) none of the above

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Answer: B AACSB: Analytical Thinking Topic: 3.10 Expenses Learning Objective: LO 3.13. Identify the recognition criteria for expenses and describe the measurement of expenses.

Difficulty: Medium 32) Under the Framework, the purchase of inventory by an entity is: A) an expense as it decreases equity B) an expense as it arises from carrying out the major activities of the entity C) an expense because it is a flow D) not an expense Answer: D AACSB: Written and Oral Communication Topic: 3.10 Expenses Learning Objective: LO 3.13. Identify the recognition criteria for expenses and describe the measurement of expenses.

Difficulty: Medium 33) Under the Framework, which of these statements is correct?

A) A distinction is made between profit and gains B) Profit is not defined independently of income and expenses C) Profit is defined as the amount that can be distributed as a dividend whilst maintaining capital intact D) None of the statements is correct Answer: B AACSB: Written and Oral Communication Topic: 3.11 Profit Learning Objective: LO 3.14. Define profit.

Difficulty: Medium

34) Under the Framework, profit is defined as: A) an increase in 'well-offness' B) a matter of display C) an increase in wealth D) including all changes in equity occurring during a period Answer: B AACSB: Written and Oral Communication Topic: 3.11. Profit Learning Objective: LO 3.14. Define profit.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 4: Fair value measurement 1) Which term describes the exit price of an asset at the measurement date?

A) Replacement cost B) Current cost C) Fair value D) Historical cost Answer: C AACSB: Written and Oral Communication Topic: 4.1 Introduction and the purpose of AASB 13 Learning Objective: LO 4.1. Describe the importance of fair value measurement.

Difficulty: Medium 2) Which of the following is not a criticism of fair value measurement?

A) Fair value measures can be unreliable B) Fair value measurements caused the global financial crisis of 2007 C) The measurements are not always relevant D) The measurements impact the statement of financial position Answer: D AACSB: Analytical Thinking Topic: 4.1 Introduction and the purpose of AASB 13 Learning Objective: LO 4.1. Describe the importance of fair value measurement.

Difficulty: Hard 3) What is the purpose of AASB 13, ‘Fair Value Measurement’?

A) What to measure as fair value B) When to disclose fair value measurements C) How to measure fair value D) Determining why fair value measurements are appropriate Answer: C AACSB: Analytical Thinking Topic: 4.1 Introduction and the purpose of AASB 13 Learning Objective: LO 4.1. Describe the importance of fair value measurement.

Difficulty: Medium 4) The fair value definition relates to which elements of financial statements?

A) Revenues and expenses B) Assets and Liabilities C) Equity and Liabilities

D) Dividends and Taxes Answer: C AACSB: Analytical Thinking Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Medium 5) Which of the following is not a key characteristic of the definition of fair value?

A) The concept of an exit price B) The characteristics of the transaction for the purpose of measuring value C) The identification of the asset or liability that is being measured at fair value D) The characteristics of the reporting entity Answer: D AACSB: Analytical Thinking Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Medium 6) On which type of transaction is the measurement of fair value based?

A) Hypothetical B) Actual C) Anticipated D) Standard Answer: A AACSB: Analytical Thinking Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Easy 7) What is the level at which an asset or a liability is aggregated or disaggregated for recognition purposes?

A) Transaction B) Unit of account C) Balance Sheet D) Corporate Answer: B AACSB: Analytical Thinking Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Medium 8) Which characteristic(s) must considered when measuring the fair value of an asset?

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A) Location of the asset B) Physical condition of the asset C) Both A and B D) Neither A and B Answer: C AACSB: Analytical Thinking Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Easy 9) Which measurement is utilised when non-financial assets are assessed for fair value purposes?

A) Highest and best use B) Historical cost C) Lower-of-cost-or-market D) Average use Answer: A AACSB: Analytical Thinking Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Easy 10) Which use of a non-financial asset is being considered when zoning regulations are applicable?

A) Physically possible B) Financially feasible C) Fair value measurement D) Legally permissible Answer: D AACSB: Analytical Thinking Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Medium 11) What term describes the market with the greatest volume and level of activity for an asset or liability?

A) Secondary market B) Principal market C) Stock market D) International exchange Answer: B AACSB: Written and Oral Communication Topic: 4.2 Fair value defined

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Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Easy 12) At which date must an entity have access to the principal or most advantageous market?

A) Balance sheet date B) Reporting date C) Measurement date D) The last date of the fiscal quarter Answer: C AACSB: Analytical Thinking Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Easy 13) Which type of risk must be incorporated in determining the fair value of a liability?

A) Market risk B) Non-performance risk C) Interest rate risk D) Portfolio risk Answer: B AACSB: Analytical Thinking Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and its various components.

Difficulty: Easy

14) Explain the differences between the concept of unit of account and valuation premise.

Answer: The unit of account is used to determine what asset or liability is being measured for the purposes of financial reporting and it affects the level of aggregation or disaggregation for the purposes of presentation and disclosure in financial statements. For example, a machine may be reported as an individual asset or as part of a CGU. The unit of account is determined by the relevant accounting standard being applied. The valuation premise applies only to non-financial assets.12 The purpose of the valuation premise is that once the specific non-financial asset has been identified (e.g. a stand-alone machine or a CGU), the valuation premise states how that non-financial asset generates its maximum value (i.e. by being used by itself, such as with the sale of inventory, or by generating cash flows as part of a group of assets, such as a machine that is integrated into a production line). The valuation premise is determined by the assumptions that are made about the highest and best use of the asset by market participants.

AACSB: Written and Oral Communication Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Medium

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15) Explain the valuation premise and discuss how it is used, depending on what is identified as the highest and best use.

Answer: The maximum value to market participants through the non-financial asset’s use in combination with other assets as a group (as installed or otherwise configured for use) or in combination with other assets and liabilities (e.g. a business); or the maximum value to market participants of the non-financial asset on a stand-alone basis. If the valuation premise is that the maximum value of the non-financial asset is in combination with other assets or with other assets and liabilities, the fair value of the asset is the price that would be received in a current transaction to sell the asset assuming that market participants would be able to use it in combination with other assets or with other assets and liabilities.

AACSB: Written and Oral Communication Topic: 4.2 Fair value defined Learning Objective: LO 4.2. Define fair value and describe its various components.

Difficulty: Medium 16) Discuss the three widely used valuation techniques utilised to determine the appropriate fair value measurement.

Answer: The market approach, which uses prices and other relevant information generated by market transactions involving identical or comparable assets and liabilities – for example, the use of option pricing models. The income approach, which converts future amounts to a present value – for example, the use of discounted cash flow methods. The cost approach, which uses the current replacement cost of the asset. This assumes that fair value is the cost to acquire or construct a substitute asset of comparable utility, adjusted for obsolescence AACSB: Written and Oral Communication Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Medium 17) List and give examples of the inputs of the fair value hierarchy.

Answer: Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that management can access at the measurement date. Level 2 inputs are inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs include: quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; inputs other than quoted prices that are observable for the asset or liability – for example, interest rates and yield curves observable at commonly quoted intervals; and market-corroborated inputs. Level 3 inputs are unobservable inputs for the asset or liability. This might include future net cash flows that are used to value a business or non-controlling interest in an entity that is not publicly listed.

AACSB: Written and Oral Communication Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

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Difficulty: Medium

18) Which type of cost may be adjusted when determining fair value?

A) Transaction costs B) Transport costs C) Both A and B D) Neither A nor B Answer: B AACSB: Analytical Thinking Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Easy 19) When making a fair value measurement, management of the entity should strive to maximize ________ while minimizing _________.

A) Observable inputs; market value B) Transaction costs; transport costs C) Observable inputs; unobservable inputs D) Sufficient data; transaction costs Answer: C AACSB: Analytical Thinking Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Easy 20) Which valuation technique uses option pricing models to determine fair value?

A) Income approach B) Cost approach C) Market approach D) Asset approach Answer: C AACSB: Analytical Thinking Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Easy 21) Which valuation technique uses internal rate of return and present value techniques to determine fair value?

A) Cost approach B) Time value approach

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C) Market approach D) Income approach Answer: D AACSB: Analytical Thinking Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Medium 22) Which valuation technique considers replacement cost of an asset when determining fair value?

A) Income approach B) Cost approach C) Market approach D) Lower-of-cost-or-market approach Answer: D AACSB: Analytical Thinking Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Medium 23) Which of the following is an example of a Level 1 input, according to the fair value hierarchy?

A) Quoted stock prices B) Market-corroborated inputs C) Future net cash flows D) Quoted prices for similar assets Answer: A AACSB: Written and Oral Communication Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Medium 24) Market-corroborated inputs are examples of: A) Level 3 inputs on the fair value hierarchy B) Level 1 inputs on the fair value hierarchy C) Level 2 inputs on the fair value hierarchy D) Items not included on the fair value hierarchy Answer: C AACSB: Written and Oral Communication Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Medium 25) Which of the following is an example of a Level 3 input, according to the fair value hierarchy?

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A) Quoted stock prices B) Quoted prices for similar assets in active markets C) Quoted prices in non-active markets D) Future net cash flows used to value a business Answer: D AACSB: Written and Oral Communication Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Medium 26) Which level of the fair value hierarchy can be utilised without any adjustments?

A) All levels B) Level 3 C) Level 1 D) Level 2 Answer: C AACSB: Analytical Thinking Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Medium 27) A wide bid-ask spread is indicative of A) An increase on market volume or activity B) A decrease in market volume or activity C) A Level 1 input in the fair value hierarchy D) Highly developed price quotations Answer: B AACSB: Analytical Thinking Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Medium 28) What is likely to occur when a seller is in financial distress or is legally required to dispose of an asset or liability?

A) The transaction will not be orderly B) Marketing activities are hot adhered to C) The transaction price can be confidently relied upon D) The objective of fair value measurement changes Answer: B AACSB: Analytical Thinking Topic: 4.3 The fair value measurement process

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Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Hard 29) What is used to assess fair value when there is insufficient evidence to reach a conclusion about whether a transaction is orderly?

A) Transaction price B) Future cash flows C) Quoted stock prices D) Volume of the transaction Answer: A AACSB: Analytical Thinking Topic: 4.3 The fair value measurement process Learning Objective: LO 4.3. Describe and apply the fair value measurement process.

Difficulty: Medium 30) What caused the IASB to increase the required disclosures related to fair value measurements?

A) AASB 13 B) The Global Financial Crisis (GFC) C) Non-recurring fair value measurements D) IASB convergence Answer: A AACSB: Analytical Thinking Topic: 4.4. Disclosures Learning Objective: LO 4.4. Describe the main disclosure requirements of AASB 13.

Difficulty: Medium 31) Which of the following is an example of a non-recurring fair value measurement?

A) Inventory B) Income taxes payable C) Land held for sale D) Current liabilities Answer: C AACSB: Analytical Thinking Topic: 4.4. Disclosures Learning Objective: LO 4.4. Describe the main disclosure requirements of AASB 13.

Difficulty: Hard 32) Which of the following is not a characteristic of a market participant?

A) Knowledgeable B) Ethical C) Independent

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D) Willing to transact Answer: B AACSB: Analytical Thinking Topic: 4.4. Disclosures Learning Objective: LO 4.4. Describe the main disclosure requirements of AASB 13.

Difficulty: Medium 33) How may an exit price be determined?

A) Direct observation B) Estimation C) Both A and B are correct D) Neither A nor B is correct Answer: C AACSB: Analytical Thinking Topic: 4.4. Disclosures Learning Objective: LO 4.4. Describe the main disclosure requirements of AASB 13.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 5: The choice of accounting methods 1) The choice of accounting methods is made by: A) Setters of accounting standards B) Preparers of financial reports C) Users of financial reports D) Both A and B Answer: D AACSB: Analytical Thinking Topic: 5.1 Introduction Learning Objective: LO 5.1. Explain the process used by accounting standard setters to make choices between alternative accounting policies.

Difficulty: Medium

2) What was a characteristic of the ad hoc period of setting accounting policies?

A) This period lasted approximately 30 years B) Choices were largely political C) Standards were issued and revised based on consistency D) It began in 2002 Answer: B AACSB: Written and Oral Communication Topic: 5.2. Choice by accounting standard setters Learning Objective: LO 5.1. Explain the process used by accounting standard setters to make choices between alternative accounting policies.

Difficulty: Medium 3) Which of the following is not a time period considered in developing an accounting standard?

A) Convergence period B) Harmonisation period C) Deliberation period D) Conceptual framework period Answer: C AACSB: Analytical Thinking Topic: 5.2. Choice by accounting standard setters Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Easy 4) Which accounting topic was the source of strong opposition by the business community during the conceptual framework period?

A) Goodwill B) Interest on long-term loans

C) Comprehensive income D) Equity classification Answer: A AACSB: Written and Oral Communication Topic: 5.2. Choice by accounting standard setters Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Medium 5) Which of the following was a source of support for international harmonization of accounting standards and financial reporting in the mid-1990s?

A) Australian Securities Exchange (ASX) B) International Accounting Standards Committee (IASC) C) Neither A nor B is correct D) Both A and B are correct Answer: D AACSB: Written and Oral Communication Topic: 5.2. Choice by accounting standard setters Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Medium 6) What is considered the ‘foundation’ of the convergence of accounting standards?

A) FASB standards B) IASB standards C) AASB standards D) ASX pronouncements Answer: B AACSB: Written and Oral Communication Topic: 5.2. Choice by accounting standard setters Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Medium

7) Which of the following is not a reason preparers of financial statements need to make choices about which accounting policies to use?

A) Some aspects of financial reporting practice are not covered by specific accounting standards B) Some standards have alternative policies with no clear indication of the proper criteria to be used C) Judgements are to be made for certain issues, such as useful life, depreciation, and allowance for doubtful debts D) The IASB is attempting to converge accounting policies with other worldwide accounting standards setters Answer: D AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements

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Learning Objective: LO 5.2. Discuss the reasons why choices of accounting policies are available to preparers of financial statements and the attempts by Australian accounting standard setters to limit this choice.

Difficulty: Medium

8) AASB 108 requires that the choice of accounting policies should result in financial statements that contain relevant and reliable information and are ________ and ________.

A) neutral, verifiable B) faithfully represented, timely C) comparable, understandable D) neutral, timely Answer: C AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.2. Discuss the reasons why choices of accounting policies are available to preparers of financial statements and the attempts by Australian accounting standard setters to limit this choice.

Difficulty: Medium 9) Which of these is not one of the ways AASB 108 'Accounting Policies' deals with the choice of accounting methods?

A) By establishing a hierarchy of authorities B) By specifying particular policies to be used in certain situations C) By specifying the qualitative characteristics that financial information should have D) None of the above, i.e., all are ways in which AASB 108 deals with the choice of accounting methods Answer: B AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.2. Discuss the reasons why choices of accounting policies are available to preparers of financial statements and the attempts by Australian accounting standard setters to limit this choice.

Difficulty: Medium

10) The order of preference set out in AASB 108 for reliance on authoritative pronouncements as a guide to selecting an accounting policy when there is no specific Australian standard is: A) Related Australian Standards, International Accounting Standards, the Framework, accounting standards from other jurisdictions using a similar conceptual framework and accepted industry practices B) Related Australian Accounting Standards, the definitions, recognition criteria in the Framework, accounting standards from other jurisdictions using a similar conceptual framework and accepted industry practices C) Related Australian Standards and the Framework D) None of the above Answer: B

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AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.2. Discuss the reasons why choices of accounting policies are available to preparers of financial statements and the attempts by Australian accounting standard setters to limit this choice.

Difficulty: Hard

11) An example of legal form not reflecting economic substance is: A) a legal document describing an accounts receivable as a debtor B) a legal document describing a loan as an advance C) a legal document describing a transaction as a lease when in fact it is a credit sale D) all are examples of legal form not reflecting economic substance Answer: C AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.2. Discuss the reasons why choices of accounting policies are available to preparers of financial statements and the attempts by Australian accounting standard setters to limit this choice.

Difficulty: Easy

12) Means by which accountants may be 'creative' in the preparation and presentation of accounting reports is/are: A) by the way transactions are disclosed B) by the way estimates and predictions are made C) by the timing of transactions D) all of the above Answer: D AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Medium

13) An increase in reported net profit in the short term will occur from: A) overestimating the useful life of a non-current asset B) writing off supplies that are still on hand as an expense C) underestimating the residual value of a depreciable asset D) choosing the reducing balance rather than the straight-line method of depreciation Answer: A AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

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Difficulty: Hard 14) The treatment that is likely to lead to a higher reported net profit in the short term than otherwise would be the case is: A) underestimating an increase in the provision for long-service leave B) treating expenses as assets C) failure to sufficiently provide for doubtful debts D) the deferral of advertising costs until the next accounting period Answer: A AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Hard

15) The AASB accounting standard(s) that deal(s) with the choice of accounting policy is/are?

A) AASB 118 and 181 B) AASB 181 C) AASB 118 D) AASB 108 Answer: D AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.2. Discuss the reasons why choices of accounting policies are available to preparers of financial statements and the attempts by Australian accounting standard setters to limit this choice.

Difficulty: Medium 16) A company decides to switch inventory costing methods to minimise income taxes paid. Which type of ‘creative accounting’ option was used by the company?

A) Timing of transactions B) Disclosure of transactions or events C) Choice of accounting policies D) Estimates or predictions of future events Answer: C AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Medium

17) A situation where the choice of accounting policy is made to endure a desired impression by its preparers is

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known as A) environmental accounting B) creative accounting C) imaginative accounting D) bottom of the harbour accounting Answer: B AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Medium 18) Which item does not normally require accountants to exercise a significant degree of professional judgement to determine its amount?

A) Doubtful debts B) Depreciation C) Cost of goods sold D) Interest Answer: D AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Medium 19) All of these are ways in which accountants may be 'creative' in the preparation and presentation of financial reports except: A) by timing transactions within the limits of generally accepted accounting practice B) by changing an accounting policy to achieve a desired outcome C) by making estimates in a way biased towards achieving a desired outcome D) none of the above, i.e., all are ways in which accountants may be 'creative' Answer: D AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Medium

20) Explain the meaning of creative accounting and discuss various factors that tend to limit its operation.

Answer: The term ‘creative accounting’ describes a situation where the choice of accounting policy is made to ensure that the published financial statements present the impression desired by the statement preparers. Creative accounting exists because there is both a perceived need for it and a means of achieving it. Critics of accounting

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suggest that creative accounting allows statement preparers to present biased and unreliable financial statements.

AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Hard

21) 'Most creative accounting techniques do not lead to permanent increases in profits and assets and therefore achieve little.' Using at least three specific examples, explain what is meant by this statement and discuss whether or not you agree with it.

Answer: There are four ways in which accountants may be ‘creative’ in the preparation and presentation of financial statements. They may choose an accounting policy or change accounting policies to achieve a desired outcome; make estimates or predictions of future events in a way biased towards achieving a desired outcome; disclose transactions or events in a way that influences the interpretation of the financial statements; and time transactions to take advantage of generally accepted accounting practices.

AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.3. Explain ‘creative accounting’ by preparers of financial statements.

Difficulty: Medium 22) What is not considered an earnings benchmark?

A) Sustaining a smooth income stream B) Meeting analysts’ forecasts of earnings C) Avoiding losses D) Mimimising taxes Answer: D AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.4. Discuss earnings management and the incentives of preparers of financial statements to engage in earnings management Difficulty: Medium 23) The income-or-profit smoothing hypothesis suggests that: A) a variable income stream supports a lower level of dividends and raises the perceived riskiness of the firm compared to a stable income stream B) a variable income stream supports a higher level of dividends and raises the perceived riskiness of the firm compared to a stable income stream C) a variable income stream supports a higher level of dividends and lowers the perceived riskiness of the firm compared to a stable income stream D) none of the above Answer: A

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AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.4. Discuss earnings management and the incentives of preparers of financial statements to engage in earnings management Difficulty: Medium 24) Research suggests that post-Enron, Chief Financial Officers: A) are reluctant to use accounting policy choices to manipulate earnings B) prefer not to smooth earnings C) are more likely to use accounting policy choices to smooth earnings D) use volatile earnings to signal low risk prospects Answer: A AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.4. Discuss earnings management and the incentives of preparers of financial statements to engage in earnings management Difficulty: Medium 25) Explain the income smoothing hypothesis. In your answer discuss the reluctance of Chief Financial Officers to use accounting policy choice to achieve income smoothing post-Enron.

Answer: There has been considerable speculation about the reasons why a particular accounting policy is preferred in some circumstances while another accounting policy is preferred in other circumstances. Some of the earliest speculation began with an article by Gordon in 19646 in which he suggested that managers’ incentives to smooth reported profit explained the choice of accounting policies. Gordon referred to this as the income-smoothing hypothesis. However, more recent survey research by Graham, Harvey and Rajgopal has found that, while an overwhelming majority of the chief financial officers (CFOs) they surveyed prefer smooth earnings, they are reluctant to achieve this by means of accounting policy choices – perhaps because of the stigma attached to accounting fraud in the post-Enron environment.10 Instead, the executives surveyed are willing to make small or moderate sacrifices in economic value – for example, by delaying maintenance or advertising expenditure – in order to achieve smooth earnings.

AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.4. Discuss earnings management and the incentives of preparers of financial statements to engage in earnings management Difficulty: Medium 26) In relation to agency theory the statement that is not correct is: A) The self-interest of various parties is often in conflict B) It assumes that managers act opportunistically all of the time C) It assumes that individuals act primarily to advance their own self-interest D) None of the statements is incorrect, i.e., all are correct statements

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Answer: B AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.5. Apply agency theory to explain and predict the choice of accounting policies by preparers of financial statements.

Difficulty: Medium 27) Costs incurred to reduce opportunistic behaviour plus the costs of opportunistic behaviour that it is not economic to eliminate are known as: A) political costs B) bonding costs C) agency costs D) opportunity costs Answer: C AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.5. Apply agency theory to explain and predict the choice of accounting policies by preparers of financial statements.

Difficulty: Medium 28) The statement concerning agency relationships between owners and managers that is incorrect is: A) One way to reduce potential conflicts between owners and managers is to include bonuses based on profits in managers' remuneration packages B) Monitoring is an activity undertaken by or on behalf of management C) Owners may want cash dividends from the business but managers may prefer to retain cash for expansion D) None of the above is incorrect, i.e., all are correct Answer: B AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.5. Apply agency theory to explain and predict the choice of accounting policies by preparers of financial statements.

Difficulty: Medium 29) In agency relationships between owners, managers and debt-holders, it can normally be assumed, in relation to debt contracts, that: A) Managers will align their interests with those of debt-holders B) Debt-holders will align their interests with those of owners C) Managers will align their interests with those of owners D) None of the above Answer: C AACSB: Analytical Thinking

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Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.5. Apply agency theory to explain and predict the choice of accounting policies by preparers of financial statements.

Difficulty: Hard 30) All of these are typical examples of provisions in Australian trust deeds for public issues of debt except: A) restrictions on the sale of assets B) specifying which accounting policies are to be employed in preparing the accounting reports C) limitations on the issue of further debt D) a minimum debt/equity ratio Answer: B AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.5. Apply agency theory to explain and predict the choice of accounting policies by preparers of financial statements.

Difficulty: Medium 31) If a firm has agreed to a debt covenant that specifies a maximum ratio of debt-to-total tangible assets, the probability of breaching the covenant is reduced if: A) additional borrowing is undertaken B) advertising is treated as an asset rather than as an expense C) depreciation is charged at a higher rate D) research and development costs are treated as an expense rather than as an asset Answer: B AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.5. Apply agency theory to explain and predict the choice of accounting policies by preparers of financial statements.

Difficulty: Hard 32) Recent research on the manipulation of profit numbers by managers with a view to influencing share price has shown: A) no evidence of manipulation B) firms reporting continuous growth are priced at a discount to other firms C) reporting of small losses is rare and reporting of small profits fairly common D) none of the above Answer: C AACSB: Written and Oral Communication Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.5. Apply agency theory to explain and predict the choice of accounting policies by preparers of financial statements.

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Difficulty: Medium 33) Describe and discuss how agency theory seeks to explain the choice of accounting methods by financial report preparers.

Answer: The influence of accounting on the company can be pervasive. For example, if a manager’s remuneration is related to the company’s reported profit, the manager is, presumably, always aware of this link. Every decision may be influenced by it. Similarly, debt covenants may have to be observed at all times and many decisions may be influenced by them. Any decision that has the effect of moving the company closer to, or away from, breaching a covenant may be influenced by accounting issues. For example, as the company’s leverage ratios come closer to limits specified in debt contracts, managers may select accounting policies that increase reported profit and asset values and reduce liabilities, rather than take steps to reduce debt. Similarly, the choice of accounting policies may be influenced by their potential effects on the cash flows of the various contracting parties. Over the years, the contracting process has resulted in a set of accounting procedures, the broad outlines of which are widely known and understood. They are described as ‘generally accepted accounting principles’. Contracts usually require that accounting policies conform to these accepted procedures.

AACSB: Analytical Thinking Topic: 5.3 Choice by preparers of financial statements Learning Objective: LO 5.5. Apply agency theory to explain and predict the choice of accounting policies by preparers of financial statements.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 6: The statement of financial position 1) What structure(s) is considered a component of the financial structure of an entity?

A) Capital structure B) Asset structure C) Both A and B D) Neither A nor B Answer: C AACSB: Analytical Thinking

Topic: 6.1 Introduction Learning Objective: LO 6.1. Discuss how the information disclosed in a statement of financial position may be employed.

Difficulty: Medium 2) The availability of assets to meet financial commitments as they fall due is known as: A) solvency B) control over resources C) gearing D) asset turnover Answer: A AACSB: Written and Oral Communication

Topic: 6.1 Introduction Learning Objective: LO 6.1. Discuss how the information disclosed in a statement of financial position may be employed.

Difficulty: Easy 3) Australian standard setters have adopted the view that: A) there should be some flexibility in the format of financial statements B) companies should use a fixed format when preparing financial statements C) Schedule 5 provides an example of a flexible format for preparers of financial statements D) the statement of financial position is merely a link between successive income statements Answer: A AACSB: Written and Oral Communication

Topic: 6.2 Format of the statement of financial position Learning Objective: LO 6.2. Compare and contrast a fixed-format with a flexible-format statement of financial position.

Difficulty: Medium 4) The accounting standard relating to the statement of financial position is: A) AASB 103 B) AASB 101 C) AASB 140

D) AASB 111 Answer: B AACSB: Written and Oral Communication

Topic: 6.2 Format of the statement of financial position Learning Objective: LO 6.2. Compare and contrast a fixed-format with a flexible-format statement of financial position.

Difficulty: Easy

5) What term endorses the selection of information that is relevant to a specific industry?

A) Standardised format B) Flexible format C) Creative accounting D) Industry format Answer: B AACSB: Written and Oral Communication

Topic: 6.2 Format of the statement of financial position Learning Objective: LO 6.2. Compare and contrast a fixed-format with a flexible-format statement of financial position.

Difficulty: Easy 6) Which statement concerning the statement of financial position and the requirements of the Corporations Act is not true?

A) The Act requires the statement of financial position to present a 'true and fair view' of the entity's financial position B) The Act states that if the financial statement would not give a true and fair view, additional information must be included in the notes to the statements in order to provide that view C) True and fair view is defined in the Act to mean in accordance with generally accepted accounting standards D) None of the above, i.e., all of the statements are true Answer: C AACSB: Written and Oral Communication Topic: 6.2 Format of the statement of financial position Learning Objective: LO 6.2. Compare and contrast a fixed-format with a flexible-format statement of financial position.

Difficulty: Medium

7) The fixed format for the statement of financial position required by AASB 101 is: A) assets = liabilities + equity B) assets - liabilities = equity C) assets = equities D) no fixed format is required

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Answer:

D

AACSB: Written and Oral Communication

Topic: 6.2 Format of the statement of financial position Learning Objective: LO 6.8. Identify the bases of classification for assets and liabilities required by AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium 8) At a minimum, how many statements of financial position are required when an entity applies an accounting policy retrospectively?

A) two B) three C) four D) one Answer:

B

AACSB: Written and Oral Communication

Topic: 6.2 Format of the statement of financial position Learning Objective: LO 6.9. Explain and apply the requirements of AASB 101 ‘Presentation of Financial Statements’ relating to disclosures of assets, liabilities and equity on the face of the statement of financial position and in the notes.

Difficulty: Medium 9) Which of the following is a common classification of assets?

A) Nature of the asset B) Source of the asset C) Liquidity of the asset D) All of the above are common classifications Answer: D AACSB: Analytical Thinking

Topic: 6.3 Presentation of assets and liabilities in the statement of financial position Learning Objective: LO 6.2. Compare and contrast a fixed-format with a flexible-format statement of financial position.

Difficulty: Easy

10) Identify and discuss the requirements concerning the classification of assets contained in AASB 101.

Answer: Assets can be classified in a number of ways. Bases that have commonly been employed for classification include: • the tangibility of the asset – that is, whether it has physical substance; • the nature of the asset – that is, whether it is monetary or non-monetary; • the source of the asset – that is, whether it is acquired externally or generated internally; • the longevity of the asset – that is, whether the future economic benefits are consumed or used within a short period, or are retained by the reporting entity for a longer period; and • the liquidity of the asset – that is, whether it is able to be converted into cash at short notice.

AACSB: Written and Oral Communication

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Topic: 6.3 Presentation of assets and liabilities in the statement of financial position Learning Objective: LO 6.2. Compare and contrast a fixed-format with a flexible-format statement of financial position.

Difficulty: Medium

11) Identify and discuss the requirements concerning the classification of liabilities contained in AASB 101.

Answer: Liabilities can also be classified in a number of ways. The most common classification of liabilities is according to their longevity. This is one of the possible classification bases in AASB 101, and it is discussed further in section 6.5. In addition, liabilities can be separated into monetary and non-monetary liabilities. Monetary liabilities are liabilities for which amounts are fixed regardless of changes in the purchasing power of the dollar. Monetary liabilities are generally measured at ‘the present value of the cash flows associated with their service and eventual payment, such present value being determined by discounting the cash flows at the rate of interest implicit in the original contract or other arrangement’.

AACSB: Written and Oral Communication Topic: 6.3 Presentation of assets and liabilities in the statement of financial position Learning Objective: LO 6.2. Compare and contrast a fixed-format with a flexible-format statement of financial position.

Difficulty: Medium

12) What is the most common classification regarding liabilities?

A) Source B) Longevity C) Liquidity D) Nature Answer: B AACSB: Analytical Thinking Topic: 6.3 Presentation of assets and liabilities in the statement of financial position Learning Objective: LO 6.2. Compare and contrast a fixed-format with a flexible-format statement of financial position.

Difficulty: Medium

13) What does the presentation of investments in shares in the statement of financial position depend upon?

A) The relationship between the investee and the investor B) The debt-to-equity ratio of the investor C) The debt-to-asset ratio of the investor D) The intent of the investor as to the future disposal of the shares Answer: A AACSB: Written and Oral Communication

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Topic: 6.3 Presentation of assets and liabilities in the statement of financial position Learning Objective: LO 6.3. Discuss the different ways in which investor and investee entities interrelate.

Difficulty: Medium 14) Shares may not be held for what reason by the investor?

A) Delaying expansion B) Capital gains C) Obtaining a more influential holding D) Dividend income Answer: A AACSB: Analytical Thinking Topic: 6.3 Presentation of assets and liabilities in the statement of financial position Learning Objective: LO 6.4. Explain the accounting for equity investments when there is no special relationship between the investor and the investee.

Difficulty: Medium

15) Which accounting standard addresses the presentation of the statement of financial position?

A) AASB 129 B) AASB 10 C) ASX 1 D) AASB 101 Answer: D AACSB: Written and Oral Communication Topic: 6.3 Presentation of assets and liabilities in the statement of financial position Learning Objective: LO 6.2. Compare and contrast a fixed-format with a flexible-format statement of financial position.

Difficulty: Easy 16) Discuss the concept of reserves and the sources from which they arise.

Answer: Reserves arise from two sources. Some come directly from the application of the Corporations Act and accounting standards, while others arise from transfers from retained earnings. To illustrate, two common reserves arise from the application of the Corporations Act and/or accounting standards. The fi rst is the revaluation surplus, arising from the application of AASB 116 ‘Property, Plant and Equipment’, which is discussed in Chapter 8. The second is the translation reserve, arising from the application of AASB 121 ‘The Effect of Changes in Foreign Exchange Rates’ to the translation of financial statements of foreign operations, which is discussed in Chapter 24.

AASB 116 places no restrictions on the uses that can be made of the revaluation surplus. It may be used for the issue of shares, but it is usually retained as a reserve in the statement of financial position. Although not required

by AASB 121, the translation reserve usually remains untouched in the statement of financial position as a cushion for future unfavourable fluctuations in foreign currency exchange rates. However, the balance in the translation reserve relating to a foreign operation should be recognised in the statement of comprehensive income on disposal

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of the foreign operation.

AACSB: Written and Oral Communication Topic: 6.4 Presentation of equity in the statement of financial position and statement of changes in equity Learning Objective: LO 6.5. Define and identify the components of equity.

Difficulty: Medium 17) What is one way equity is described in the public sector?

A) Capital and reserves B) Government equity C) Capital D) Partners’ capital Answer: B AACSB: Written and Oral Communication Topic: 6.4 Presentation of equity in the statement of financial position and statement of changes in equity Learning Objective: LO 6.5. Define and identify the components of equity.

Difficulty: Medium 18) Which of the following is not another name for share capital?

A) Paid-up capital B) Contributed capital C) Treasury capital D) Issued capital Answer: C AACSB: Written and Oral Communication Topic: 6.4 Presentation of equity in the statement of financial position and statement of changes in equity Learning Objective: LO 6.6. Identify and record share capital, including share buybacks.

Difficulty: Medium 19) What are the two broad categories of changes in equity?

A) Current and long-term B) Investor and investee C) Less than 50% and 50% and more ownership interests D) Owner and Non-owner Answer: D AACSB: Written and Oral Communication Topic: 6.4 Presentation of equity in the statement of financial position and statement of changes in equity Learning Objective: LO 6.7. Discuss the requirements of AASB 101 ‘Presentation of Financial Statements’ as they relate to the classification and disclosure of equity.

Difficulty: Medium

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20) Under AASB 101, the 'average time between the acquisition of materials entering into a process and their realisation in cash or as an instrument that is readily convertible into cash' is known as: A) production cycle B) production line C) economic cycle D) operating cycle Answer: D AACSB: Written and Oral Communication

Topic: 6.5. General presentation requirements Learning Objective: LO 6.8. Identify the bases of classification for assets and liabilities required by AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium

21) Current assets, as defined in AASB 101, are those that: A) are expected to be realised within the normal course of the operating cycle B) are held primarily for the purpose of being traded C) are expected to be realised within 12 months after the end of the accounting period D) any of the above Answer: D AACSB: Written and Oral Communication

Topic: 6.5. General presentation requirements Learning Objective: LO 6.8. Identify the bases of classification for assets and liabilities required by AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium 22) AASB 101 allows which of these statements of financial position formats?

A) Current/non-current format B) Order-of-liquidity format C) A mixed basis of presentation using both the current/non-current basis and the order-of-liquidity format for different asset groups D) All of the above are allowable formats.

Answer: D AACSB: Written and Oral Communication

Topic: 6.5. General presentation requirements Learning Objective: LO 6.8. Identify the bases of classification for assets and liabilities required by AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium 23) Which presentation of assets and liabilities is likely to result in more relevant financial information?

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A) Increasing dollar amount B) Decreasing order of liquidity C) Order of acquisition D) Alphabetical order Answer: B AACSB: Written and Oral Communication Topic: 6.5. General presentation requirements Learning Objective: LO 6.8. Identify the bases of classification for assets and liabilities required by AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium 24) Additional line items to those disclosed in accordance with paras 68 and Aus68.1 of AASB 101 may be included on the face of the statement of financial position when disclosure of these items is assessed to be relevant to an understanding of the entity's financial position. This assessment is based on which of the following?

A) The nature and liquidity of assets B) The function of the assets within the entity C) The amounts, nature and timing of liabilities D) All of the above Answer: D AACSB: Written and Oral Communication Topic: 6.5. General presentation requirements Learning Objective: LO 6.9. Explain and apply the requirements of AASB 101 ‘Presentation of Financial Statements’ relating to disclosures of assets, liabilities and equity on the face of the statement of financial position and in the notes.

Difficulty: Medium

25) The correction of errors relating to prior periods is now covered by: A) AASB 1034 B) AASB 101 C) AASB 108 D) none of the above Answer: C AACSB: Written and Oral Communication Topic: 6.5. General presentation requirements Learning Objective: LO 6.9. Explain and apply the requirements of AASB 101 ‘Presentation of Financial Statements’ relating to disclosures of assets, liabilities and equity on the face of the statement of financial position and in the notes.

Difficulty: Medium 26) Separate disclosure, on the face of the statement of financial position, is required under AASB 101 paragraph 54 for:

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A) trade and other receivables B) inventories C) provisions D) all of the above Answer: D AACSB: Written and Oral Communication Topic: 6.5. General presentation requirements Learning Objective: LO 6.9. Explain and apply the requirements of AASB 101 ‘Presentation of Financial Statements’ relating to disclosures of assets, liabilities and equity on the face of the statement of financial position and in the notes.

Difficulty: Medium 27) Which statement is incorrect?

A) Under AASB 101, assets and liabilities must not be set-off unless set-off is permitted or required by another accounting standard B) Between 1979 and 1999, there was no Australian accounting standard dealing specifically with the statement of financial position C) Under AASB 101, there is no materiality override D) None of the statements is incorrect Answer: C AACSB: Written and Oral Communication Topic: 6.5. General presentation requirements Learning Objective: LO 6.9. Explain and apply the requirements of AASB 101 ‘Presentation of Financial Statements’ relating to disclosures of assets, liabilities and equity on the face of the statement of financial position and in the notes.

Difficulty: Hard

28) The statement in relation to AASB 108 and the correction of prior-period errors that is incorrect is: A) Prior-period errors are material omissions from and misstatements in an entity's statement of financial position and associated notes B) The correction must not be included in the profit or loss for the period in which the error is discovered C) Comparative figures for prior periods need not be restated D) A retrospective correction must be made which will normally affect retained earnings in the current statement of financial position Answer: C AACSB: Written and Oral Communication

Topic: 6.5. General presentation requirements Learning Objective: LO 6.9. Explain and apply the requirements of AASB 101 ‘Presentation of Financial Statements’ relating to disclosures of assets, liabilities and equity on the face of the statement of financial position and in the

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notes.

Difficulty: Hard

29) Entities are required to disclose comparative information the previous period. Discuss how the correction of prior period errors may impact on the presentation of the financial statements.

Answer: In brief, prior-period errors – that is, omissions from, and misstatements in, an entity’s statement of financial position and associated notes – must be corrected in the first financial statement authorised for issue after the discovery of the error (AASB 108, para. 42). The correction cannot be included in the statement of comprehensive income for the period in which the error is discovered. Instead, paragraph 42 of AASB 108 requires that a retrospective correction be made. That is, comparative figures for prior periods are restated or, if the error occurred before the earliest period presented in the financial statements, any necessary adjustments are made to the opening balances of affected assets, liabilities and equity.

AACSB: Written and Oral Communication Topic: 6.5. General presentation requirements Learning Objective: LO 6.9. Explain and apply the requirements of AASB 101 ‘Presentation of Financial Statements’ relating to disclosures of assets, liabilities and equity on the face of the statement of financial position and in the notes..

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 7: Accounting for current assets 1) The AASB 101 definition of current assets has made which term virtually obsolete?

A) Fixed assets B) Inventory C) Current assets D) Non-current assets Answer: A AACSB: Written and Oral Communication Topic: 7.1 Introduction Learning Objective: LO 7.1. Explain the basis for distinguishing between current and non-current assets.

Difficulty: Medium 2) Which of the following is classified as a current asset according to AASB 101?

A) Inventory B) Accounts receivable C) Short-term deposits D) Each of the listed choices are considered current assets Answer: D AACSB: Written and Oral Communication Topic: 7.1 Introduction Learning Objective: LO 7.1. Explain the basis for distinguishing between current and non-current assets.

Difficulty: Easy 3) Explain and discuss the criteria contained in AASB 101 for distinguishing between current and non-current assets.

Answer: For the statement of financial position, it is customary to classify assets into current assets and noncurrent assets. The basis of this classification is not at all clear. Writing in 1952, Fitzgerald and Schumer commented that ‘there is obviously a serious lack of uniformity in both theory and practice in the fixed–current basis of classification of assets’. There is still some ambiguity about this basis of asset classification. According to paragraph 66 of AASB 101 ‘Presentation of Financial Statements’, an entity shall classify an asset as current when: ( a) it expects to realise the asset, or intends to sell or consume it, in its normal operating cycle; (b) it holds the asset primarily for the purpose of trading; ( c) it expects to realise the asset within twelve months after the reporting period; or ( d) the asset is cash or a cash-equivalent (as defined in AASB 107) unless the asset is restricted from being exchanged or used to settle a liability for at least twelve months after the reporting period.

An entity shall classify all other assets as non-current.

AACSB: Written and Oral Communication Topic: 7.1 Introduction Learning Objective: LO 7.1. Explain the basis for distinguishing between current and non-current assets.

Difficulty: Easy 4) AASB 108 requires that changes to accounting estimates be dealt with prospectively. This means that the effect of a past overestimate of doubtful debts expense is:

A) recognised in the current reporting period B) used to increase this periods estimated expense C) both A and B D) neither A nor B Answer: A AACSB: Analytical Thinking Topic: 7.2 Accounts receivable Learning Objective: LO 7.2. Describe the nature of accounts receivable and the procedure for initial recognition and subsequent measurement of accounts receivable.

Difficulty: Medium 5) Where an allowance for doubtful debts account is maintained, the accounting entry to write off a bad debt is: A) debit bad debts; credit accounts receivable B) debit allowance for doubtful debts; credit accounts receivable C) debit doubtful debts expense; credit accounts receivable D) none of the above Answer: B AACSB: Written and Oral Communication Topic: 7.2 Accounts receivable Learning Objective: LO 7.2. Describe the nature of accounts receivable and the procedure for initial recognition and subsequent measurement of accounts receivable.

Difficulty: Medium 6) Allowance for doubtful debts is a/an: A) liability account B) expense account C) contra expense account D) contra asset account Answer: D AACSB: Written and Oral Communication Topic: 7.2 Accounts receivable Learning Objective: LO 7.2. Describe the nature of accounts receivable and the procedure for initial recognition and subsequent measurement of accounts receivable.

Difficulty: Easy 17) As defined in AASB 102 ‘Inventories’, these assets are: A) Held for sale in the ordinary course of business B) In the process of production C) Both A and B are correct D) Neither A nor B is correct Answer: C

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AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.3. Identify the ways in which inventories may be classified.

Difficulty: Easy 18) The item that is not part of manufacturing inventory is: A) supplies inventory B) raw materials C) work-in-process D) none of the above, i.e., all are part of manufacturing inventory Answer: D AACSB: Analytical Thinking Topic: 7.3 Inventories Learning Objective: LO 7.3. Identify the ways in which inventories may be classified.

Difficulty: Medium

19) Which of the following is correct?

A) Inventory that is held by an agent for sale on consignment but is owned by a principal is included in the inventory of the principal B) Inventory sold under hire purchase is normally treated as an asset of the buyer even though it is owned by the seller C) Both are correct D) Neither is correct Answer: C AACSB: Analytical Thinking Topic: 7.3 Inventories Learning Objective: LO 7.3. Identify the ways in which inventories may be classified.

Difficulty: Medium

20) Which Australian accounting standard deals with inventory?

A) AASB 101 B) AASB 132 C) AASB 9 D) AASB 102 Answer: D AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.4. Explain and apply the requirements of AASB 102 ‘Inventories’.

Difficulty: Easy

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21) Which two components of expense are recognised in the statement of comprehensive income?

A) Cost of goods sold and gross profit B) Cost of goods sold and inventory loss expense C) Inventory loss expense and gross profit D) Accounts payable and cost of goods sold Answer: B AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.5. Explain the purposes of accounting for inventory.

Difficulty: Medium 22) Two approaches to determining the number of units of inventory on hand are: A) periodic, physical B) lower of cost and net realisable value C) FIFO, weighted average D) periodic, perpetual Answer: D AACSB: Analytical Thinking Topic: 7.3 Inventories Learning Objective: LO 7.5. Explain the purposes of accounting for inventory.

Difficulty: Medium 23) A reason for not allocating all the outgoings incurred in bringing the inventory to its present location and condition to the cost of inventory is: A) allocation may not make a material difference to reported profit or to the carrying amount of the inventory B) the allocation of some costs may be time-consuming C) incidental costs of acquisition may be minor D) all of the above are reasons Answer: D AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.6. Identify the components of the cost of inventory.

Difficulty: Medium 24) Which of the following is not considered an inventory cost-flow assumption?

A) Average cost B) First-in, first-out C) Periodic

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D) Last-in, first-out Answer: C AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Easy 25) Choosing a cost flow assumption to be applied to inventory, such as FIFO or weighted average, is to solve the problem of: A) determining the quantity of inventory on hand B) determining the stock loss from theft or destruction C) determining which costs to apply to sold and unsold inventory D) determining net realisable value Answer: C AACSB: Analytical thinking Topic: 7.3 Inventories Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Hard

26) Inventories are undervalued in periods of rising prices. cost-flow assumption?

This is a disadvantage of which of the inventory

A) First-in, first-out B) Last-in, first-out C) Perpetual D) Average cost Answer: B AACSB: Analytical thinking Topic: 7.3 Inventories Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Medium 27) The cost flow method where cost of goods sold consists of the most recent goods acquired is: A) Lower of cost or market B) Last-in, first-out C) First-in, first-out D) Weighted average Answer: B

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AACSB: Analytical thinking Topic: 7.3 Inventories Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Easy 28) Assuming prices are decreasing, the first-in-first-out approach to inventory valuation, compared to the average cost approach, will give: A) a higher profit and a higher closing inventory B) a higher profit and a lower closing inventory C) a lower profit and a higher closing inventory D) a lower profit and a lower closing inventory Answer: D AACSB: Analytical thinking Topic: 7.3 Inventories Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Hard

29) A disadvantage of the LIFO method of inventory valuation is: A) it gives a poor matching of current costs with current revenues B) its use accentuates the business cycle C) closing inventory on the balance sheet may be undervalued D) all of the above are disadvantages Answer: C AACSB: Analytical thinking Topic: 7.3 Inventories Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Medium

30) Under the LIFO method, in periods of rising prices: A) profit cannot be manipulated by changes in purchasing patterns B) profits could be increased by increasing unit purchases to a higher level than unit sales C) profits could be increased by reducing unit purchases to a lower level than unit sales D) profits could be decreased by reducing unit purchases to a lower level than unit sales Answer: C AACSB: Analytical thinking Topic: 7.3 Inventories

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Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Hard

31) Which of the statements is correct? In the United States: A) there is a requirement to use the same cost flow assumption for taxation and financial reporting purposes B) for perishable goods FIFO must be used C) FIFO is not allowed for taxation purposes D) none of the statements is correct Answer: A AACSB: Analytical thinking Topic: 7.3 Inventories Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Medium

32) The justification for the inventory valuation rule, the lower of cost and net realisable value, is: A) conservatism B) cost versus benefit C) reliability D) materiality Answer: A AACSB: Analytical thinking Topic: 7.3 Inventories Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Medium 33) Explain the effects on the financial reports of the FIFO cost flow assumption in a period of rising prices and discuss the arguments that have been raised for and against the use of this assumption to value inventory.

Answer: FIFO gives the lowest cost of goods sold and highest closing inventory. The average cost gives amounts between those of LIFO and FIFO. Where there is freedom of choice, management would choose the cost-fl ow assumption that best meets its needs. For example, when prices are rising, use of FIFO produces highest profits and this may benefit management through higher compensation and bonuses. But there may be other considerations.

A criticism of FIFO is that it matches old, past inventory costs with current sales revenue. This means that, when inventory prices are rising, reported profit will be greater than current profit (current sales revenue less current costs). The overstatement of reported profit occurs because profit includes holding gains on inventory.

It is argued that failing to match current costs with current sales revenue has two implications: 1 The use of FIFO accentuates the business cycle. In boom conditions, when confidence and prices are rising, reported profit will be

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overstated, thereby adding to confidence and the boom. Conversely, when confidence and prices are falling, reported profit will be understated and confidence will fall even further. Critics believe that accounting procedures should show an unbiased summary of results and should not be a partial determinant of business conditions. 2 The inclusion of holding gains on inventory as a part of reported profit may lead to liquidity problems for the entity.

AACSB: Analytical thinking Topic: 7.3 Inventories Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Medium

34) Explain the concept of the lower of cost and net realisable value rule.

Answer: Accountants have traditionally recognised expected future losses in the period in which they are first anticipated, but gains are not recognised until they occur. This asymmetrical treatment of losses and gains is described as conservatism. An important example of traditional conservatism is the lower of cost and net realisable value rule for inventory valuation. This rule requires that an item of inventory should be carried at the lower of its cost and its net realisable value. If net realisable value falls below cost, the inventory should be written down to net realisable value – that is, anticipated losses on unsold inventory are recognised immediately, not when the inventory is sold. The measurement of the cost of inventory is discussed in earlier sections. The net realisable value of items of inventory is their estimated selling price in the normal course of business, less any further costs to make the goods ready for sale and to make the sale.

AACSB: Analytical thinking Topic: 7.3 Inventories Learning Objective: LO 7.7. Describe the effects of the choice of cost-flow assumption in measuring inventory and cost of goods sold.

Difficulty: Medium 35) AASB 102 requires that any write down to net realisable value: A) must be recognised as an expense in the period that the write down occurs B) must be reversed when there is clear evidence of an increase in value C) must be applied only on an item by item basis D) A and B above Answer: D AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.8 Apply the lower of cost and net realisable value rule.

Difficulty: Hard

36) Under the perpetual inventory system, the accounting entry to record a write-down of $600 of various inventory items from cost to net realisable value is:

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A) debit cost of goods sold $600; credit inventory $600 B) debit inventory $600; credit cost of goods sold $600 C) debit inventory $600; credit bank $600 D) debit cost of goods sold $600; credit bank $600 Answer: A AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.8 Apply the lower of cost and net realisable value rule.

Difficulty: Medium

37) Inventory item Z8 has a cost price of $30 and a net realisable value $25, while item D3 has a cost price of $20, a net realisable value $25 and a replacement cost of $21. Under the lower of cost and net realisable value rule of inventory valuation, applied on an item-by-item basis, the value of inventory is: A) $50 B) $51 C) $45 D) none of the above Answer: C AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.8 Apply the lower of cost and net realisable value rule.

Difficulty: Medium

38) The inventory valuation rule 'the lower of cost and net realisable value' cannot be used with which of these methods?

A) Perpetual inventory method B) Periodic inventory method C) Last-in-first-out method D) None of the above, i.e., it can be used with all of the methods Answer: D AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.8 Apply the lower of cost and net realisable value rule.

Difficulty: Easy

39) Under AASB 102, 'the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale' is known as: A) the lower of cost or market

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B) cost value C) net realisable value D) market value Answer: C AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.8 Apply the lower of cost and net realisable value rule.

Difficulty: Easy

40) Under the inventory standard AASB 102, a new assessment of the net realisable value of inventory items is made: A) in a general meeting B) each period C) weekly D) every two years Answer: B AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.8 Apply the lower of cost and net realisable value rule.

Difficulty: Easy

41) AASB 102 requires which of these disclosures for inventory?

A) The amount of any write-down of inventories recognised as an expense during the period B) The total carrying amount of inventories C) The accounting policies adopted D) All of the above Answer: D AACSB: Written and Oral Communication Topic: 7.3 Inventories Learning Objective: LO 7.8 Apply the lower of cost and net realisable value rule.

Difficulty: Medium

42) If inventory prices are rising: A) the LIFO method will give the lowest profit B) the LIFO method will give the highest profit C) the FIFO method will give the lowest profit D) the LIFO method will give the highest closing inventory valuation Answer: A

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AACSB: Analytical Thinking Topic: 7.3 Inventories Learning Objective: LO 7.8 Apply the lower of cost and net realisable value rule.

Difficulty: Medium 43) Discuss the disclosures relating to inventory required by AASB 102. Include a discussion on the disclosures required by not-for-profit entities.

Answer: AASB 102 requires the following disclosures for inventory: (a) the accounting policies adopted in measuring inventories, including the cost formula used; (b) the total carrying amount of inventories and the carrying amount in classifications appropriate to the entity; (c) the carrying amount of inventories carried at fair value less costs to sell; (d) the amount of inventories recognised as an expense during the period; (e) the amount of any write-down of inventories recognised as an expense in the period in accordance with paragraph 34; (f) the amount of any reversal of any write-down that is recognised as a reduction in the amount of inventories recognised as expense in the period in accordance with paragraph 34; (g) the circumstances or events that led to the reversal of a write-down of inventories in accordance with paragraph 34; and (h) the carrying amount of inventories pledged as security for liabilities.

AACSB: Analytical thinking Topic: 7.3 Inventories Learning Objective: LO 7.8. Apply the lower of cost and net realisable value rule.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 8: Accounting for property, plant and equipment 1) Which of the following is not a category of investment in non-current assets?

A) Property, plant, and equipment B) Investment property C) Financial investments in the form of share investments D) Inventory Answer: D AACSB: Written and Oral Communication Topic: 8.1 Introduction Learning Objective: LO 8.1 Identify the issues involved in the initial recognition and measurement of property, plant and equipment and apply the relevant requirements of AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium

2) The accounting standard that specifically deals with property, plant and equipment is: A) AASB 138 B) AASB 116 C) AASB 132 D) AASB 101 Answer: B AACSB: Written and Oral Communication Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.1 Identify the issues involved in the initial recognition and measurement of property, plant and equipment and apply the relevant requirements of AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Easy 3) Under AASB 116 if an item of property, plant and equipment is acquired for cash, the cost includes: A) the purchase price after deducting trade discounts and rebates B) the insurance premium paid to cover the asset for the first 12 months of its life C) any import duties D) all of the above E) both A and C Answer: E AACSB: Written and Oral Communication Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.1 Identify the issues involved in the initial recognition and measurement of property, plant and equipment and apply the relevant requirements of AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 4) Explain and discuss how donated assets should be recorded in the accounts.

Answer:

Paragraph 15 of AASB 116 requires that property, plant and equipment be measured at cost. If the asset

is donated or acquired for a nominal amount, AASB 116 specifies different treatments for ‘for-profit’ entities and ‘not-for-profit’ entities. For a for-profit entity, the requirements of paragraph 15 apply and donated assets or assets acquired for a nominal amount must be recognised at nil or at the nominal amount. For not-for-profit entities, paragraph Aus15.1 requires that donated assets or assets acquired for a nominal amount must be initially recognised at their fair value. It is noted in paragraph Aus15.3 that this treatment does not constitute an asset revaluation. The fair value of the donated asset is recognised as income at the date of acquisition.

AACSB: Analytical Thinking Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.1. Identify the issues involved in the initial recognition and measurement of property, plant and equipment and apply the relevant requirements of AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 5) AASB 116 requires the capitalisation of inspection costs associated with an asset when: A) future economic benefits associated with the inspection will flow to the entity B) it is probable that benefits will flow to the entity C) the economic benefits can be measured reliably D) all of the above Answer: D AACSB: Written and Oral Communication Topic: 8.2. Initial recognition of property, plant and equipment Learning Objective: LO 8.1. Identify the issues involved in the initial recognition and measurement of property, plant and equipment and apply the relevant requirements of AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 6) Paragraph 15 of AASB requires what entry by a government department to record the fair value of a donated asset?

A) debit asset, credit loan B) debit asset, credit revaluation surplus C) would not need to be recorded D) debit asset, credit revenue Answer: D AACSB: Written and Oral Communication Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.1 Identify the issues involved in the initial recognition and measurement of property, plant and equipment and apply the relevant requirements of AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 7) When equipment is acquired by exchange, how is the asset to be measured if the transaction lacks commercial substance?

A) Fair value of the surrendered asset B) Net present value of the acquired asset C) Carrying amount of the surrendered asset

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D) Fair value of the acquired asset Answer: C AACSB: Analytical Thinking Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.1. Identify the issues involved in the initial recognition and measurement of property, plant, and equipment and apply the relevant requirements of AASB 116 ‘Property, Plant, and Equipment’.

Difficulty: Hard 8) What are defined as immovable public facilities that are necessary to sustain living standards and concerned with essential services?

A) Current assets B) Heritage assets C) Property, plant and, equipment D) Infrastructure assets Answer: D AACSB: Written and Oral Communications Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.2. Assess the issues in accounting for infrastructure and heritage assets and the accounting treatment required by AASB 116 ‘Property, Plant, and Equipment’.

Difficulty: Medium 9) Under AASB 123 'Borrowing Costs': A) borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying asset may be capitalised B) all borrowing costs must be expensed C) all borrowing costs must be capitalised D) none of the above is correct Answer: A AACSB: Written and Oral Communication Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.3 Analyse the controversy regarding accounting for land under roads and apply the relevant requirements of AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium

10) Which of the following is a main concern raised about the recognition of land under roads?

A) Uncertainty about which entities control land under roads B) Land under roads cannot be measured reliably C) The costs of recognizing land under roads would exceed the benefits D) All of the above are main concerns Answer: D AACSB: Analytical Thinking

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Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.3 Analyse the controversy regarding accounting for land under roads and apply the relevant requirements of AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 11) If borrowing costs are capitalised, capitalisation continues: A) for the life of the qualifying asset B) up to where substantially all the activities necessary to prepare the qualifying assets for its intended use or sale are complete C) for the life of the business D) none of the above Answer: B AACSB: Analytical Thinking Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.4. Explain the issues in accounting for borrowing costs during asset construction and implement the relevant requirements in AASB 123 ‘Borrowing Costs’.

Difficulty: Medium 12) Which of the following is not an example of borrowing costs as defined by AASB 123?

A) Interest expense calculated by the effective interest method B) Net present value calculated by projected cash inflows and outflows C) Exchange differences arising from foreign currency borrowings D) Finance charges in respect of finance leases Answer: B AACSB: Written and Oral Communication Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.4 Explain the issues in accounting for borrowing costs during asset construction and implement the relevant requirements in AASB 123 ‘Borrowing Costs’.

Difficulty: Medium 13) Under AASB 123 'Borrowing Costs', a qualifying asset is defined as: A) an asset that takes more than twelve months to complete B) an asset that necessarily takes a substantial period of time to get ready for its intended use or sale C) a long-term construction project for the construction of ships, dams, roads or buildings D) an asset that necessarily takes more than two years to complete Answer: B AACSB: Written and Oral Communication Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.4. Explain the issues in accounting for borrowing costs during asset construction and implement the relevant requirements in AASB 123 ‘Borrowing Costs’.

Difficulty: Medium

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14) Should borrowing costs incurred during the construction period of an asset be expensed or capitalised? Discuss.

Answer: These costs include the cost of materials and labour. However, a contentious issue has been whether borrowing costs during construction should also be included. To illustrate, assume that an electricity-generating company borrows $50 million at 10% per annum to finance the construction of a new power station that will take five years to construct. During the construction period, therefore, the company will incur interest costs of $25 million. It could be argued that these costs of borrowing during the construction period are as essential as labour and materials costs and they should therefore be included in the carrying amount of the asset. They are no different from the other capitalised costs and should be treated in the same way. If this argument is accepted, then borrowing costs associated with the project should be capitalised, increasing its cost and its depreciable amount by $25 million. Borrowing costs incurred after completion of the project would be recognised as expenses in the period in which they are incurred. An opposing view is that borrowing costs should not be associated with specifi c projects. It is argued that there is no relationship between particular sources of finance and individual projects.

Projects are financed from a pool of resources and the amount borrowed is an addition to the pool. In a sense, this is a ‘balance sheet’ approach.

AACSB: Analytical Thinking Topic: 8.2 Initial recognition of property, plant and equipment Learning Objective: LO 8.4. Explain the issues in accounting for borrowing costs during asset construction and implement the relevant requirements in AASB 123 ‘Borrowing Costs’.

Difficulty: Medium

15) AASB 136 requires that assets are carried at no more than which amount?

A) Original cost B) Current market value C) Cost less accumulated depreciation D) Recoverable amount Answer: D AACSB: Written and Oral Communication Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.4 Explain the issues in accounting for borrowing costs during asset construction and implement the relevant requirements in AASB 123 ‘Borrowing Costs’.

Difficulty: Medium

16) AASB 116 specifies that if an item of property, plant and equipment is sold, then the gain or loss on disposal is measured as the difference between: A) the carrying amount at the time of disposal and the net proceeds from disposal B) the re-valued amount at the time of disposal and the net proceeds from disposal C) the adjusted carrying amount at the time of disposal and the net proceeds from disposal D) none of the above Answer: A AACSB: Written and Oral Communication

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Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.5 Evaluate the role of revaluation in accounting for property, plant and equipment and apply the relevant requirements in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 17) Under AASB 116, the net method of treating accumulated depreciation when assets are re-valued requires: A) accumulated depreciation to be increased by the same proportion as the gross carrying amount of the asset, so the carrying amount of the asset represents its re-valued amount B) accumulated depreciation to be closed to the asset account before re-valuation C) accumulated depreciation to be written back to net profit on the date of re-valuation D) accumulated depreciation to be ignored at re-valuation Answer: B AACSB: Written and Oral Communication Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.5. Evaluate the role of revaluation in accounting for property, plant and equipment and apply the relevant requirements in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 18) Under AASB 116, which of the following would normally not be regarded as separate classes of assets?

A) Computer equipment B) Office desks C) Motor vehicles D) None of the above, i.e., all would normally be regarded as separate classes of assets Answer: B AACSB: Written and Oral Communication Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.5. Evaluate the role of revaluation in accounting for property, plant and equipment and apply the relevant requirements in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 19) On 1 January 20X0 an asset that had a useful life of five years and a cost of $100 000, had a carrying value of $60 000. (The asset had been depreciated for two years at $20 000 per annum). On 1 January 20X0 it was decided to revalue the asset upwards to $90 000 with no change in its useful life. A year after the revaluation on 1 January 20X1 the asset was sold for $80 000. Under the provisions of AASB 116, the gain or loss on disposal is: A) $10 000 gain B) $20 000 gain C) $10 000 loss D) $30 000 gain Answer: B AACSB: Written and Oral Communication Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.5 Evaluate the role of revaluation in accounting for property, plant and equipment and

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apply the relevant requirements in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 20) What is the main feature of the cost model in asset measurement?

A) The gross carrying amount of an asset is unchanged over its useful life B) Depreciation is not measured C) Assets are impaired each year based on estimated useful life D) None of the above are correct Answer: A AACSB: Analytical Thinking Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.5. Evaluate the role of revaluation in accounting for property, plant and equipment and apply the relevant requirements in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 21) An impairment loss results when the ________ of an asset is less than its ________.

A) carrying amount; recoverable amount B) recoverable amount, carrying amount C) fair value, carrying amount D) original cost, fair value Answer: B AACSB: Written and Oral Communications Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.6. Explain asset impairment and implement the requirements of AASB 136 ‘Impairment of Assets’.

Difficulty: Medium 22) AASB 136 requires that assets are carried at no more than their recoverable amount. Outline the accounting treatment required to recognise an impairment loss. In your answer discuss the subsequent reversal of an impairment loss.

Answer: In principle, a subsequent reversal of an impairment loss for a CGU is dealt with in the same way as for an individual asset with the exception of goodwill allocated to the unit. As we note previously, an impairment loss previously recognised for goodwill must not be reversed in subsequent periods (para. 124). For the remaining assets in a CGU, the reversal of impairment is allocated to these assets in proportion to their carrying amounts (para. 122). The reversal is to be recognised immediately in profit or loss unless the unit is carried at revalued amounts in accordance with AASB 116. In this case, the reversal is treated as a revaluation increase (paras 122 and 119). Paragraph 123 imposes a ceiling on impairment reversals for a CGU – the carrying amount of an asset must not be increased above the lower of (a) its recoverable amount (if determinable) and (b) the carrying amount that would have been determined had no impairment loss been recognised for the asset in prior periods.

AACSB: Analytical Thinking Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.6. Explain asset impairment and implement the requirements of AASB 136 ‘Impairment of

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Assets.

Difficulty: Medium 23) What must be present for an asset to be classified as held for sale?

A) Management has committed itself a plan to sell the asset B) There is an active program to locate a buyer C) The assets are available for immediate sale in their present condition D) All of the above are required criteria Answer: D AACSB: Written and Oral Communication Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.6. Explain asset impairment and implement the requirements of AASB 136 ‘Impairment of Assets’.

Difficulty: Medium 24) A subsequent increase in the value of goodwill that has previously been written off as an impairment loss: A) must not be reversed in subsequent periods B) must be reversed in the period in which the value has changed C) is allocated over the other assets in the cash generating unit in proportion to their carrying amounts D) all of the above Answer: A AACSB: Analytical Thinking Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.6. Explain asset impairment and implement the requirements of AASB 136 ‘Impairment of Assets.

Difficulty: Medium 25) AASB 136 proposes factors that may indicate the existence of asset impairment. Which of the following is not one of those factors?

A) Evidence of obsolescence or physical damage to an asset B) Changes in interest rates that would reduce fair value calculations involving future cash flows C) The carrying amount of net assets exceeds the entity's market capitalisation D) None of the above, i.e., all are factors that may indicate the existence of impairment Answer: D AACSB: Written and Oral Communication Topic: 8.3. Subsequent measurement of property, plant and equipment Learning Objective: LO 8.6. Explain asset impairment and implement the requirements of AASB 136 ‘Impairment of Assets.

Difficulty: Medium 26) What is the meaning of the word 'depreciation' in contemporary accounting?

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A) An allocation of cost B) A physical deterioration C) A fall in price D) A fall in value Answer: A AACSB: Analytical Thinking Topic: 8.4. Depreciation of property, plant, and equipment Learning Objective: LO 8.7. Explain the nature of depreciation.

Difficulty: Medium 27) What is the immediate accounting consequence of the acquisition of a depreciable asset?

A) Statement of financial position classification B) Cash flow measurement C) Prepayment of depreciation expense D) Holding assets for sale Answer: C AACSB: Analytical Thinking Topic: 8.4. Depreciation of property, plant, and equipment Learning Objective: LO 8.7. Explain the nature of depreciation.

Difficulty: Medium 28) Under the provisions of AASB 116, concerning an asset that has been re-valued upward, which statement is correct?

A) If the asset is disposed of, the revaluation surplus can remain in the accounts after the disposal of the asset that created it B) The amount of the revaluation increment is included in equity without being included in net profit C) Neither of the statements is correct D) Both of the statements are correct Answer: D AACSB: Written and Oral Communication Topic: 8.4. Depreciation of property, plant, and equipment Learning Objective: LO 8.8 Discuss the practical problems in accounting for depreciation expense and how they are dealt with in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium

29) Which statement concerning depreciation is correct?

A) Land is depreciated B) Assets that have increased in value should still be depreciated C) Charging depreciation provides cash for asset replacement D) None of the statements is correct Answer: B

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AACSB: Analytical Thinking Topic: 8.4. Depreciation of property, plant, and equipment Learning Objective: LO 8.8. Discuss the practical problems in accounting for depreciation expense and how they are dealt with in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium

30) An asset should be depreciated over its: A) technical life B) economic life C) legal life D) physical life Answer: B AACSB: Analytical Thinking Topic: 8.4. Depreciation of property, plant, and equipment Learning Objective: LO 8.8. Discuss the practical problems in accounting for depreciation expense and how they are dealt with in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 31) Which factor should be considered when selecting a depreciation method?

A) The profit or loss for the year B) Whether the asset has been re-valued C) The amount that can be claimed as a tax deduction D) None of the above Answer: D AACSB: Analytical Thinking Topic: 8.4. Depreciation of property, plant, and equipment Learning Objective: LO 8.8. Discuss the practical problems in accounting for depreciation expense and how they are dealt with in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 32) Assume that an asset was bought at a cost of $50 000. It is expected that the asset will have a useful life of 10 years with the straight-line depreciation method being used. At the beginning of year 5 the total useful life is re-estimated downward to 8 years. Under AASB 116 the annual depreciation expense for the final years of useful life is: A) $7500 B) $5000 C) $4500 D) $3000 Answer: A AACSB: Analytical Thinking Topic: 8.4. Depreciation of property, plant, and equipment

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Learning Objective: LO 8.8. Discuss the practical problems in accounting for depreciation expense and how they are dealt with in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 33) Which of these items does AASB 116 apply to?

A) Assets held for sale B) Biological assets C) Mineral rights and mineral reserves D) None of the above Answer: D AACSB: Written and Oral Communication Topic: 8.4. Depreciation of property, plant, and equipment Learning Objective: LO 8.8. Discuss the practical problems in accounting for depreciation expense and how they are dealt with in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 34) Depreciable amount is defined in AASB 116 as: A) the allocation of the cost of an asset, or other amount substituted for cost, over its useful life B) the cost of an asset, or other amount substituted for cost, less accumulated depreciation C) the cost of an asset, or other amount substituted for cost, less its residual value D) none of the above Answer: C AACSB: Analytical Thinking Topic: 8.4. Depreciation of property, plant, and equipment Learning Objective: LO 8.8. Discuss the practical problems in accounting for depreciation expense and how they are dealt with in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium

35) AASB 116 para 6, defines depreciation expense as 'an expense recognised systematically for the purpose of allocating the depreciable amount of a depreciable asset over its useful life.'

Explain the terms, 'depreciable amount' and 'useful life' and discuss the nature of depreciation that is implied by this definition.

Answer: In general terms, the amount of the asset to be depreciated is its depreciable amount, which is equal to its initial cost less its residual or scrap value. The word ‘depreciation’ has two principal meanings. In contemporary accounting, it means an allocation of the cost of an asset over its useful life. In other circumstances, it means a reduction in the value of an asset. There are, however, critics of accounting who contend that accounting depreciation should be a valuation adjustment and not a cost allocation.

AACSB: Analytical Thinking Topic: 8.4. Depreciation of property, plant, and equipment Learning Objective: LO 8.8. Discuss the practical problems in accounting for depreciation expense and how they are

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dealt with in AASB 116 ‘Property, Plant and Equipment’.

Difficulty: Medium 36) Which of the following is not part of the definition of investment properties?

A) Real property B) Generation of rental revenue C) Increases in value D) Held for resale Answer: D AACSB: Written and Oral Communication Topic: 8.5 Accounting for investment properties Learning Objective: LO 8.9. Explain the nature of investment properties and apply the requirements of AASB 140 ‘Investment Property’.

Difficulty: Easy

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Henderson, Issues in Financial Accounting 16e Chapter 9: Accounting for company income tax 1) Accounting Profit and Taxable Income can often differ because: A) a tax deduction is not allowed for bad debts B) revenue received in advance is not subject to tax C) general purpose financial reporting and the income tax system have differing objectives D) the Australian Taxation Office does not recognise depreciation as a legitimate expense Answer: C AACSB: Written and Oral Communication Topic: 9.1 Introduction Learning Objective: LO 9.1 Identify the major differences between tax and accounting treatments Difficulty: Easy

2) Income tax expense is: A) the amount of tax paid to the government during the current reporting period B) shown in the income statement C) calculated by applying the company income tax rate to taxable income D) the amount that must be paid to the government in respect of the current income tax year Answer: B AACSB: Written and Oral Communication Topic: 9.2 Alternative methods of accounting for company income tax: The fundamentals Learning Objective: LO 9.1 Identify the major differences between tax and accounting treatments.

Difficulty: Easy

3) When calculating income tax expense under the statement of financial position approach to income allocation, which of the following formulae is used?

A) Income tax payable minus deferred income tax expense B) Current income tax expense plus deferred income tax expense C) Deferred income tax expense minus income tax payable D) Temporary differences plus permanent differences Answer: B AACSB: Written and Oral Communication Topic: 9.2.3 Tax allocation: The statement of financial position approach Learning Objective: LO 9.4 Identify and explain the statement of financial position approach to tax allocation.

Difficulty: Medium

4) McDougall Ltd shows a deferred tax liability of $25 000 in its financial reports. This could have arisen from: A) making a payment of interest in advance in respect of the following financial year B) making a provision for doubtful debts when the debts have not yet been written off

C) an unexpected gain from the sale of land owned by the Company D) an under-statement of income tax payable in a prior year Answer: A AACSB: Analytical Thinking Topic: 9.2.3 Tax allocation: The statement of financial position approach Learning Objective: LO 9.4 Identify and explain the statement of financial position approach to tax allocation.

Difficulty: Medium

5) Jensen Ltd has a depreciable asset that cost $300 000 at the beginning of Year 1. It has a useful life of 5 years and zero residual value. The company depreciates the asset on a straight-line basis for accounting purposes but for tax purposes claims a depreciation allowance calculated on the reducing-balance basis at a rate of 25%. The company tax rate is 30%. At the end of year 2, in respect of this asset, Jensen Ltd will show: A) a deferred tax liability of $11 250 B) a deferred tax liability of $3375 C) a deferred tax asset of $3375 D) neither a deferred tax asset nor a deferred tax liability Answer: B AACSB: Analytical Thinking Topic: 9.2 Alternative methods of accounting for company income tax: The fundamentals Learning Objective: LO 9.1 Identify the major differences between tax and accounting treatments.

Difficulty: Hard 6) Explain the meaning and significance of each of the following terms in accounting for company income tax: (i) Tax payable method (ii) Tax Allocation - the balance sheet approach (iii) Deferred tax asset (iv) Deferred tax liability (v) Tax base (vi) Permanent difference Answer: The tax-payable method assumes that the tax expense in a period is equal to the amount of tax payable to the government determined by multiplying taxable income by the tax rate. The statement of financial position approach to tax allocation was developed to allow a smoothing of after-tax profit in a way that was conceptually justifiable. It can be described as a statement of financial position approach because it places the emphasis on measurement of the tax assets and tax liabilities, with the income tax expense becoming the ‘leftover’. In the statement of financial position approach to tax allocation, deferred tax liabilities and deferred tax assets arise because of temporary differences between the carrying amount and the tax base of an asset or a liability. When those temporary differences are reversed, the deferred tax liabilities and the deferred tax assets are reduced to zero. The tax base is the amount at which an asset (or a liability) would be shown in a statement of financial position derived from accounts prepared for tax purposes. The tax allocation is based on the difference between the carrying amount of the asset or liability and its respective tax base. Permanent differences are assets or liabilities

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that are recognised in either an accounting statement of financial position or a tax statement of financial position but are never recognised in the other. Permanent differences will arise where there is income receivable recognised for accounting purposes that is tax exempt and has a tax base of zero (such as lottery winnings); expenses payable recognised for accounting purposes that have a tax base of zero (such as entertainment expenses); deductions allowable for tax purposes that are not recognised for accounting purposes; and assessable income receivable that is not recognised for accounting purposes.

AACSB: Written and Oral Communication Topic: 9.2 Alternative methods of accounting for company income tax: The fundamentals Learning Objective: LO 9.2. Identify and explain the tax-payable method of accounting for income tax.

Difficulty: Medium 7) Compare and contrast the Tax Payable and Tax Allocation - Balance Sheet Approach methods of accounting for income tax. Which method is required under Australian Accounting Standards? Outline the main arguments for and against each of these methods.

Answer: The tax-payable method assumes that the tax expense in a period is equal to the amount of tax payable to the government determined by multiplying taxable income by the tax rate. The tax-payable method has the advantage that it is simple to apply. It requires no complex calculations. The tax expense is the amount of tax payable. It also has the virtue that it is reasonable to assume that tax expense for a period is the tax that must be paid for that period. This is the situation with other expenses. For example, rent expense for a period is the rent that must be paid for that period. The tax-payable method was criticised, however, because it was believed that it resulted in misleading financial statements. In each of the four years in the example, the profit before tax was the same but the profit after tax fell with each successive year. It was argued that an accounting method that showed declining profits after taxation when, in fact, the performance of the reporting entity was steady must be defective.

The statement of financial position approach to tax allocation was developed to allow a smoothing of after-tax profit in a way that was conceptually justifiable. It can be described as a statement of financial position approach because it places the emphasis on measurement of the tax assets and tax liabilities, with the income tax expense becoming the ‘leftover’.

AACSB: Application of Knowledge Topic: 9.2.1 Tax-payable method and 9.2.3 Tax allocation: The statement of financial position approach Learning Objective: LO 9.2 Identify and explain the tax-payable method of accounting for income tax.

Difficulty: Medium 8) Jethro Ltd has accrued a liability for warranty expense of $7000 in year 1 and a further $11 000 in year 2. During year 2, Jethro paid out $5000 for the cost of meeting warranty claims arising from sales made in year 1. Jethro's profit before tax in year 1 was $200 000 and in year 2 was $250 000. The company tax rate is 30%. At the end of year 2, Jethro should make the following entry: A) Dr Income Tax Expense Cr Deferred Tax Asset Cr Retained Earnings Cr Income Tax Payable B) Dr Income Tax Expense Dr Deferred Tax Asset Cr Income Tax Payable

$78 900 $3300 $600 $75 000 $75 000 $1200 $76 200

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C) Dr Income Tax Expense $75 000 Cr Deferred Tax Asset $3300 Cr Income Tax Payable $71 700 D) Dr Income Tax Expense $75 000 Cr Deferred Tax Asset $1200 Cr Income Tax Payable $73 800 Answer: B AACSB: Analytical Thinking Topic: 9.2.3. Tax allocation: The statement of financial position approach.

Learning Objective: LO 9.4 Identify and explain the statement of financial position approach to tax allocation.

Difficulty: Hard

9) Permanent differences (between revenues and expenses for accounting and tax purposes): A) can cause Deferred Tax Liabilities but not Deferred Tax Liabilities to arise B) can cause both Deferred Tax Assets and Deferred Tax Liabilities to arise C) can cause Deferred Tax Assets but not Deferred Tax Liabilities to arise D) can cause neither Deferred Tax Assets nor Deferred Tax Liabilities to arise Answer: D AACSB: Application of Knowledge Topic: 9.2.3. Tax allocation: The statement of financial position approach.

Learning Objective: LO 9.4 Identify and explain the statement of financial position approach to tax allocation.

Difficulty: Medium

10) A temporary difference arises due to: A) the timing difference between the end of the financial year and when the income tax payable is paid B) a difference between the amounts of the accounting expenses and the tax deductions of a company which will be reversed in future periods C) a difference between the amounts of the accounting expenses and the tax deductions of a company which will never be reversed D) a difference in the amount of the deferred tax assets and the deferred tax liabilities Answer: B AACSB: Application of Knowledge Topic: 9.2.3. Tax allocation: The statement of financial position approach.

Learning Objective: LO 9.4 Identify and explain the statement of financial position approach to tax allocation.

Difficulty: Medium 11) Consider each of the following separate situations. State whether each gives rise to a deferred tax asset (DTA) or a deferred tax liability (DTL). Give reasons for your answer and also indicate why and when any DTA or DTL will be reversed in the accounting records.

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(i) (ii) (iii) (iv)

Depreciation for accounting purposes exceeds depreciation allowed for income tax purposes A provision for doubtful debts has been made for the first time Goodwill is being amortised each year A loss has been incurred, for both accounting and taxation purposes, but the company expects to earn profits in each of the next two years Answer: The use of an accelerated method of depreciation for tax purposes has reduced the current tax liability in the first year below the level that would have been payable had straight-line depreciation been used for tax purposes. In other words, the use of accelerated depreciation for tax purposes has deferred the payment of some tax until later periods. Consider a case where, for accounting purposes, $2 000 of the accounts receivable is recognised as an allowance for doubtful debts, reducing the carrying amount of the asset (net receivables) to $12 000, and the sales revenue has been taxed in the period when revenue is recognised. The doubtful debt is not deductible for tax purposes until it is written off as ‘bad’. Thus, although there is an accounting expense for doubtful debts, there is no tax deduction until the debt is written off, leading to a future deductible amount. However, many tax authorities do not recognise goodwill as having a tax base and do not allow reductions in goodwill (e.g. due to impairment) as an allowable deduction. AASB 112 specifically excludes the recognition of deferred tax liabilities or assets for the initial recognition of goodwill (see, for example, paras 15 and 24). Paragraph 34 of AASB 112 requires the recognition of a deferred tax asset for the carry-forward of unused tax losses and unused tax credits as follows: A deferred tax asset shall be recognised for the carryforward of unused tax losses and unused tax credits to the extent that it is probable that future taxable profit will be available against which the unused tax losses and unused tax credits can be utilised.

AACSB: Application of Knowledge Topic: 9.2.3 Tax allocation: The statement of financial position approach.

Learning Objective: LO 9.4. Identify and explain the statement of financial position approach to tax allocation.

Difficulty: Hard

12) A difference between the amounts of the accounting expenses and the tax deductions of a company which will be reversed in future periods indicates: A) unethical accounting practices B) a permanent difference C) a greater annual income tax expense D) a temporary difference Answer: D AACSB: Application of Knowledge Topic: 9.2.3. Tax allocation: The statement of financial position approach.

Learning Objective: LO 9.4 Identify and explain the statement of financial position approach to tax allocation.

Difficulty: Medium

13) What is the principal objective of the statement of financial position approach to income tax allocation?

A) ensure that the deferred tax liability and the deferred tax asset are measured reliably B) assurance of proper financial statement presentation

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C) to guarantee future economic benefits D) to identify the current obligation Answer: A AACSB: Application of Knowledge Topic: 9.2.4 Assessment of the tax allocation approach Learning Objective: LO 9.5. Explain the perceived benefits of and problems with the statement of financial position approach to tax allocation.

Difficulty: Medium

14) The lack of relevance to users of financial statements is seen as: A) an advantage of the statement of financial position approach to income tax allocation B) a criticism of the statement of financial position approach to income tax allocation C) a detriment when conducting empirical research on tax-effect accounting D) necessary in an attempt to avoid transparency in financial reporting Answer: B AACSB: Analytical Thinking Topic: 9.2.4 Assessment of the tax allocation approach Learning Objective: LO 9.5. Explain the perceived benefits of and problems with the statement of financial position approach to tax allocation.

Difficulty: Medium 15) AASB 112 requires that: A) current and deferred tax expense are reported as one figure 'income tax expense' B) current and deferred tax expense are disclosed separately C) deferred tax expense is not identifiable in the financial reports D) current tax expense is not identifiable in the financial reports Answer: B AACSB: Written and Oral Communication Topic: 9.3 Accounting standards Learning Objective: LO 9.6 Identify and apply the requirements of AASB 112 ‘Income Taxes’.

Difficulty: Easy

16) According to AASB 112, the prepayment of rent of $2000 that is claimed as a tax deduction immediately upon payment (assuming an income tax rate of 30%) will give rise to: A) a Deferred Tax Liability of $600 B) a Deferred Tax Liability of $600 and a credit to Income Tax Payable of $600 C) a Deferred Tax Asset of $600 D) neither a Deferred Tax Liability nor a Deferred Tax Asset

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Answer: A AACSB: Application of Knowledge Topic: 9.3.1 The tax base of assets.

Learning Objective: LO 9.6 Identify and apply the requirements of AASB 112 ‘Income Taxes’.

Difficulty: Medium 17) Examine the following equations.

For assets: (a) carrying amount < tax base gives rise to deferred tax liability (b) tax base < carrying amount gives rise to deferred tax asset For liabilities: (c) carrying amount < tax base gives rise to deferred tax asset (d) tax base < carrying amount gives rise to deferred tax liability A) Only (a) and (c) are correct B) Only (b) and (d) are correct C) All are correct D) (d) is correct Answer: B AACSB: Application of Knowledge Topic: 9.3.1 The tax base of assets.

Learning Objective: LO 9.6 Identify and apply the requirements of AASB 112 ‘Income Taxes’.

Difficulty: Hard

18) A company has a provision for long service leave of $150 000. This amount was recognised as an expense when the provision was created but is deductible for income tax purposes when the leave is taken. If an employee takes long service leave and is paid an amount of $30 000 (and the company income tax rate is 30%), the following entry should be made: A) Dr Income Tax Payable $9000 Cr Deferred Tax Liability $9000 B) Dr Deferred Income Tax Expense $9000 Cr Deferred Tax Asset $9000 C) Dr Deferred Tax Asset $9000 Cr Deferred Income Tax Expense $9000 D) Dr Deferred Tax Liability $9000 Cr Income Tax Payable $9000 Answer: B AACSB: Analytical Thinking Topic: 9.3.2 The tax base of liabilities.

Learning Objective: LO 9.6 Identify and apply the requirements of AASB 112 ‘Income Taxes’.

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Difficulty: Hard 19) Bonnie Ltd has accrued a liability for long service leave of $9000 in Year 1. No actual payments for long service leave have yet been paid. Bonnie Ltd's profit before tax is $75 000. The company tax rate is 30%. At the end of year 1, Bonnie Ltd should make the following entry: A) Dr Income Tax Expense $22 500 Dr Deferred Tax Asset $2700 Cr income Tax Payable $25 200 B) Dr Income Tax Expense $25 200 Cr Deferred Tax Liability $2700 Cr Income Tax Payable $22 500 C) Dr Income Tax Expense $22 500 Cr Income Tax payable $22 500 D) Dr Income Tax Expense $25 200 Cr Income Tax Payable $25 200 Answer: A AACSB: Analytical Thinking Topic: 9.3.3 The measurement of deferred tax liabilities, deferred tax assets and deferred tax expense Learning Objective: LO 9.6. Identify and apply the requirements of AASB 112 ‘Income Taxes’.

Difficulty: Hard

20) Jordyn Ltd acquired land in 20X9 for a cash payment of $240 000. In 2011, Jordyn Ltd revalued that land to $340 000. If the company income tax rate is 30%, the following entry should be made: A) Dr Land $30 000 Cr Deferred Tax Liability $30 000 B) Dr Revaluation Surplus $30 000 Cr Deferred Tax Liability $30 000 C) Dr Revaluation Reserve $30 000 Cr Deferred Tax Asset $30 000 D) No entry is required Answer: B AACSB: Analytical Thinking Topic: 9.3.4 Revalued Assets Learning Objective: LO 9.6 Identify and apply the requirements of AASB 12 ‘Income Taxes’.

Difficulty: Medium 21) Unused (carried forward) tax losses: A) sometimes give rise to a deferred tax liability B) sometimes give rise to a deferred tax asset C) always give rise to a deferred tax asset

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D) always give rise to a deferred tax liability Answer: B AACSB: Analytical Thinking Topic: 9.3.5 Unused tax losses Learning Objective: LO 9. 6 Identify and apply the requirements of AASB 112 ‘Income Taxes’.

Difficulty: Medium

22) Deferred tax assets and deferred tax liabilities: A) may be offset for presentation in the financial statements B) cannot both arise in the one business C) usually offset one another in amount D) must always be disclosed separately in the financial statements Answer: A AACSB: Written and Oral Communication Topic: 9.3.6 Offsetting deferred tax liabilities and deferred tax assets Learning Objective: LO 9.6 Identify and apply the requirements of AASB 112 ‘Income Taxes’.

Difficulty: Easy

23) Able Ltd has an asset in its books with a carrying amount of $120 000 and a tax base of $90 000. The income tax rate has been 30% but in the current year it has been increased to 40%. Able Ltd should make the following entry in its books: A) Dr Deferred Tax Liability $3000 Cr Deferred Income Tax Expense $3000 B) Dr Deferred Tax Asset $3000 Cr Deferred Income Tax Liability $3000 C) Dr Deferred Tax Asset $3000 Cr Deferred Income Tax Expense $3000 D) Dr Deferred Income Tax Expense $3000 Cr Deferred Tax Liability $3000 Answer: D AACSB: Written and Oral Communication Topic: 9.3.7 Changes in tax rates Learning Objective: LO 9.6 Identify and apply the requirements of AASB 112 ‘Income Taxes’.

Difficulty: Hard

24) Accounting standards require disclosure of the amount of:

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A) deferred tax expense (or revenue) relating to changes in tax rates or tax laws B) current tax expense (or revenue) C) any adjustments for the current tax of prior reporting periods D) all of the above Answer: D AACSB: Written and Oral Communication Topic: 9.3.8 Disclosure Learning Objective: LO 9.6 Identify and apply the requirements of AASB 112 ‘Income Taxes’.

Difficulty: Medium

25) Empirical research on whether tax-effect accounting should continue to be applied indicates that: A) share prices are more highly associated with taxable income, and therefore financial reports should conform to the taxation treatments B) share prices are more highly associated with accounting income, and therefore accounting standards should not be changed C) share prices are equally associated with both accounting and taxable income, and therefore both accounting and taxation income should be reported in the financial reports D) share prices are unrelated to either accounting or taxation income Answer: B AACSB: Written and Oral Communication Topic: 9.4 Empirical research on tax-effect accounting Learning Objective: LO 9.7. Explain the results of research on tax-effect accounting.

Difficulty: Medium 26) Discuss the results of empirical research that examines whether tax-effect accounting should continue to be required.

Answer: The issue of whether tax-effect accounting should continue to be applied has also been addressed by empirical research that tackles the question from a different perspective. Tax-effect accounting is necessary because of differences between tax and accounting treatments of numerous items such as provisions, depreciation and doubtful debts. If tax and accounting treatments were brought into line (referred to as ‘book/tax conformity’), the rationale for tax-effect accounting would disappear and deferred tax assets and deferred tax liabilities would also disappear. Empirical research by Hanlon, Laplante and Shevlin attempts to assess the effect that book/tax conformity would have on investors.7 The research investigates the degree of association between share prices and book (accounting) income and tax (estimated taxable) income. The authors find a much higher association between accounting income and share prices than between estimated taxable income and share prices. They conclude that requiring the financial reporting treatment to conform with the tax treatment would result in a substantial loss of information to investors.

AACSB: Written and Oral Communication Topic: 9.4 Empirical research on tax-effect accounting.

Learning Objective: LO 9.7. Explain the results of research on tax-effect accounting.

Difficulty: Hard

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Henderson, Issues in Financial Accounting 16e Chapter 10: Accounting for intangible assets 1) In AASB 138, an 'identifiable non-monetary asset without physical substance', is the definition of: A) an intangible asset B) cash at bank C) goodwill D) none of the above Answer: A AACSB: Written and Oral Communication Topic: 10.2 Nature of intangible assets Learning Objective: LO 10.1. Describe the nature of intangible assets.

Difficulty: Easy

2) Which of the following is a necessary factor relating to the existence of an intangible asset?

A) Disclosure in financial statements B) Classification C) Liquidity D) Existence of future economic benefits Answer: D AACSB: Analytical Thinking Topic: 10.2 Nature of intangible assets Learning Objective: LO 10.1. Describe the nature of intangible assets.

Difficulty: Medium 3) How is the accounting treatment different for purchased intangible assets as opposed to internally-generated intangible assets?

A) Internally-generated assets are amortised over a shorter useful life B) Cost is recorded gradually for internally-generated intangible assets but at acquisition for purchased assets C) Act of registering patents is more detailed for an internally-generated intangible asset D) There are no differences in the accounting treatment for purchased or internally generated intangible assets Answer: D AACSB: Analytical Thinking Topic: 10.3 Intangible assets: Purchased or generated internally Learning Objective: LO 10.2. Distinguish between purchased and internally generated intangible assets.

Difficulty: Hard 4) The initial recognition of the costs associated with intangible assets as an asset rather than an expense: A) is consistent with the treatment of these costs for income tax purposes B) is allowable provided that a future economic benefit exists C) is allowable provided that the cost is material

D) all of the above Answer: B AACSB: Analytical Thinking Topic: 10.4Accounting for intangible assets Learning Objective: LO 10.2. Distinguish between purchased and internally generated intangible assets.

Difficulty: Medium 5) When the value of an intangible asset is impaired, the change in the value of the asset is: A) recognised as a charge in the statement of comprehensive income B) recognised as a charge to equity C) amortised over a period not exceeding 20 years D) all of the above Answer: A AACSB: Written and Oral Communication Topic: 10.4. Accounting for intangible assets Learning Objective: LO 10.2. Distinguish between purchased and internally generated intangible assets.

Difficulty: Medium

6) The main reason why accounting for intangible assets is more difficult than accounting for other assets is: A) intangible assets are inherently inert and their value can grow or dissipate quickly B) intangible assets may be developed internally C) intangible assets do not have physical substance D) all of the above are equally important reasons why accounting for intangible assets is more difficult than accounting for other assets Answer: A AACSB: Analytical Thinking Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.3. Apply the requirements of AASB 138 ‘Intangible Assets’ to the initial recognition and subsequent measurement of intangible assets.

Difficulty: Hard

7) What criteria must be demonstrated by an entity for the recognition of an item as an intangible asset?

A) The item must meet the definition of an intangible asset B) The recognition criteria C) Both A and B D) Neither A nor B Answer: C AACSB: Analytical Thinking Topic: 10.5 Accounting standards on intangible assets

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Learning Objective: LO 10.3. Apply the requirements of AASB 138 ‘Intangible Assets’ to the initial recognition and subsequent measurement of intangible assets.

Difficulty: Medium 8) What two models are permitted by AASB for measuring intangible assets subsequent to initial recognition.

A) Basis and fair value B) Cost and revaluation C) Cost and fair value D) Revaluation and expected use Answer: B AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.3. Apply the requirements of AASB 138 ‘Intangible Assets’ to the initial recognition and subsequent measurement of intangible assets.

Difficulty: Easy 9) Under AASB 138, the cost of identifiable intangible assets that are purchased separately is: A) the purchase price plus all cost directly attributable to preparing the asset for its intended use B) fair value at the date of acquisition C) the sum of expenditure incurred from the date the intangible assets first meet the recognition criteria D) none of the above Answer: A AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.3. Apply the requirements of AASB 138 ‘Intangible Assets’ to the initial recognition and subsequent measurement of intangible assets.

Difficulty: Medium 10) Which of these is not correct under AASB 138 concerning the measurement of intangible assets subsequent to acquisition?

A) If the revaluation model is used, amortisation is not required even if the useful life of the asset is finite B) With both the cost and the revaluation models, all assets should be regularly tested for impairment C) If the cost model is used, amortisation is required if the useful life of the asset is finite D) The revaluation model is only permitted to be used if there is an active market for the asset Answer: A AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.3. Apply the requirements of AASB 138 ‘Intangible Assets’ to the initial recognition and subsequent measurement of intangible assets.

Difficulty: Hard

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11) Prior to the first Australian accounting standard on research and development, costs associated with research and development were usually: A) capitalised B) expensed and reinstated C) expensed in the period incurred D) none of the above Answer: C AACSB: Analytical Thinking Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.4. Distinguish between research and development, and explain the alternative methods of accounting for research and development.

Difficulty: Medium 12) AASB 138 requires disclosure of: A) the aggregate amount of research and development costs recognised as an expense during the period B) the amortisation methods used for intangible assets with finite lives C) a reconciliation of the opening and closing asset balances showing additions, revaluations, impairment losses and amortisation D) all of the above Answer: D AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.5. Apply the requirements of AASB 138 ‘Intangible Assets’ to research and development.

Difficulty: Easy

13) The initial patent period granted by the Australian Government and the potential legal life of trademarks and brand names, are respectively: A) 10 years; unlimited, provided they continue to be registered B) 16 years; unlimited, provided they continue to be registered C) 20 years; 16 years D) 7 years; 7 years Answer: B AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.5. Apply the requirements of AASB 138 ‘Intangible Assets’ to research and development.

Difficulty: Easy 14) AASB 138 prohibits recognising as intangible assets all internally generated:

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A) costs of patents B) brand names costs C) trademark costs D) all of the above Answer: B AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.5. Apply the requirements of AASB 138 ‘Intangible Assets’ to research and development.

Difficulty: Hard 15) Purchased computer software should be: A) recognised as an asset and recorded at cost B) amortised over its useful life C) subject to an impairment test D) all of the above Answer: D AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.5. Apply the requirements of AASB 138 ‘Intangible Assets’ to research and development.

Difficulty: Easy 16) The recommended treatment under AASB 138 and Interpretation 132 of i. planning costs and ii. graphics and content costs, incurred internally by a company to develop its website is: A) write-off both as expenses B) i. expense: ii. recognise as an intangible asset if all the requirements of AASB 138 are met C) recognise both as intangible assets if all the requirements of AASB 138 are met for both D) it depends on the reasons the website was developed, e.g., was it primarily to promote and advertise the company's products?

Answer: B AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.5. Apply the requirements of AASB 138 ‘Intangible Assets’ to research and development.

Difficulty: Hard 17) Explain and discuss the application of AASB 138 in its proposals to account for research and development expenditure.

Answer: Paragraph 126 of AASB 138 requires disclosure of the aggregate amount of research and development expenditure recognised as an expense during the period. In relation to intangible development assets, AASB 138 requires extensive disclosures but fails to mention research and development as one of the possible classes of intangibles for which disclosure is required (para. 119). Assuming research and development assets are a separate class of intangible assets, the disclosures required are extensive, including requirements to: • disclose whether

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useful lives are indefinite or finite and, if finite, the useful lives or amortisation rates used; • disclose the amortisation methods used for intangible assets with finite lives; and • reconcile the opening and closing asset balances showing additions, revaluations, impairment losses and amortisation.

AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.5. Apply the requirements of AASB 138 ‘Intangible Assets’ to research and development.

Difficulty: Medium 18) Discuss the accounting treatment for trademarks and brand names in accordance with AASB 138.

Answer: Trademarks and brand names, which include such well-known names as Coca-Cola, Pepsi-Cola, Nike and Reebok, are used to differentiate products and brands in the eyes of consumers. These trademarks and brand names can be protected by registering them with the Commonwealth Government. Currently, the initial period of registration is 10 years, with a right of renewal in perpetuity. Consequently, the potential legal life of trademarks and brand names is unlimited, provided they continue to be registered. If a trademark or brand name is purchased, it should be recognised as an asset in accordance with AASB 138 and measured initially at cost. AASB 138 expressly forbids recognition of ‘internally generated brands, mastheads, publishing titles, customer lists and items similar in substance’ (para. 63). It is arguable that trademarks are ‘similar in substance’ to brand names and, therefore, cannot be recognised if internally generated. Subsequent measurement of trademarks or brand names would be on the cost basis as they have no active market. As trademarks and brand names have an unlimited legal life, it may be argued that they have an indefinite life and, under AASB 138, amortisation would not be charged. However, the asset’s useful life, which largely depends on the tastes of consumers, is likely to be much shorter than its legal life.

Consequently, if the costs of trademarks and brand names are recognised as assets, they ought to be amortised systematically over their estimated useful lives. Under AASB 138, trademarks or brand names recognised as assets would be subject to an impairment test.

AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.5. Apply the requirements of AASB 138 ‘Intangible Assets’ to research and development.

Difficulty: Medium 19) Compare the costs likely to be recorded for internally developed patents with those associated with a patent purchased in an arm's length transaction.

Answer: Research and development may result in the development of products or processes over which a patent is secured. A patent is granted by the Commonwealth Government and gives the owner exclusive rights to a device, substance, method or process for a period of up to 20 years for a standard patent, up to 8 years for an innovation patent and up to 25 years for a pharmaceutical patent.14 However, the economic life of a patent may be considerably shorter than its legal life. For example, shifts in demand may end the production of the product covered by the patent before the patent expires. Similarly, technological change may make a patented process obsolete before the patent expires. If a patent is acquired by means of an arm’s-length purchase, AASB 138 requires that it be recorded as an asset at its cost. If a patentable product or process is generated internally, under AASB 138 the provisions outlined above for research and development would apply. The legal, administrative and registration costs associated with securing a patent are easy to determine and may be recorded as an asset. However, they are usually only a small fraction of the total cost of Most of the cost is the amount spent on the research and

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development necessary to bring the product or process to a patentable state. AASB 138 requires that only costs incurred in the development phase may be recognised as an asset, and then only if the six conditions specified in paragraph 57 are satisfied. In many cases, more than one patentable product may result from a research project, and a method for allocating research and development costs between the products must be found.

AACSB: Written and Oral Communication Topic: 10.5 Accounting standards on intangible assets Learning Objective: LO 10.5. Apply the requirements of AASB 138 ‘Intangible Assets’ to research and development.

Difficulty: Medium

20) AASB 138 permits two bases for measuring intangible assets, subsequent to initial recognition, the cost model and the revaluation model: A) in practice the revaluation model is the one that is most commonly applied B) the conditions for the use of the revaluation model will only be met on rare occasions C) in practice the two models are applied about 50/50 D) none of the above Answer: B AACSB: Analytical Thinking Topic: 10.6. Goodwill Learning Objective: LO 10.3. Apply the requirements of AASB 138 ‘Intangible Assets’ to the initial recognition and subsequent measurement of intangible assets.

Difficulty: Hard

21) AASB 138 requires that entities classify their intangible assets into those with finite lives and those with indefinite lives. Which of these is a factor that tends to limit the useful life of intangible assets?

A) Technological obsolescence B) Contractual and legal rights C) Uncertainty D) All are factors Answer: D AACSB: Analytical Thinking Topic: 10.6. Goodwill Learning Objective: LO 10.3. Apply the requirements of AASB 138 ‘Intangible Assets’ to the initial recognition and subsequent measurement of intangible assets.

Difficulty: Easy 22) In negotiations leading up to a sale agreement, which of these is a method that can be used to estimate the amount of goodwill that exists in a business?

A) Calculate the present value of the profit stream the purchasing company would acquire and deduct from it the fair value of the net assets gained

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B) Calculate the discounted value of 'super-profits' which are the difference between the expected annual operating profit and normal profit C) Calculate the difference between the price paid for the business and the fair value of the identifiable net assets acquired D) None of the above, i.e., all are methods of estimating the amount of goodwill that exists in a business in negotiations leading up to its sale Answer: C AACSB: Analytical Thinking Topic: 10.6. Goodwill Learning Objective: LO 10.6. Distinguish between intangible assets and goodwill.

Difficulty: Medium 23) When is goodwill recognised?

A) When an asset is sold above its book value B) As part of an arms’-length purchase of one entity by another C) By the company that is being purchased in an arms’-length purchase D) When the market price of a company’s stock rises Answer: B AACSB: Analytical Thinking Topic: 10.6. Goodwill Learning Objective: LO 10.6. Distinguish between intangible assets and goodwill.

Difficulty: Medium 24) Discuss the arguments for and against each of the following: i.

Writing off goodwill immediately as an expense in the income statement compared to recognising it as an asset in the balance sheet. ii. Systematically amortising goodwill that has been recognised as an asset compared to not amortising it.

Answer: Most textbooks that include a section on accounting for goodwill suggest there is general agreement that goodwill should be recognised as an asset and that the price paid for a business as a going concern is not for a collection of assets but for the future economic benefits that are expected to fl ow from that collection. Accountants allocate the total purchase price to the acquired assets so that each is shown at its ‘fair value’. Any amount that is not allocated is called ‘goodwill’. If it is assumed that the fair value of an asset is approximately equal to the present value of its expected future economic benefits, then goodwill can be interpreted as the present value of the expected future economic benefits from unidentifiable intangible assets. This is our preferred interpretation.

Goodwill is thus a cost incurred in anticipation of probable future economic benefits. It should, therefore, be recognised as an asset in the statement of financial position.

AACSB: Analytical Thinking Topic: 10.6. Goodwill Learning Objective: LO 10.7. Explain the alternative methods that have been suggested to account for goodwill or excess on acquisition.

Difficulty: Medium

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25) When the sum of the fair values of the identifiable net assets acquired exceeds the cost of acquisition, the difference is known as: A) negative goodwill B) excess on acquisition C) goodwill D) both A and B Answer: D AACSB: Analytical Thinking Topic: 10.6. Goodwill Learning Objective: LO 10.7. Explain the alternative methods that have been suggested to account for goodwill or excess on acquisition.

Difficulty: Medium 26) Which of the following is recommended as the preferred accounting treatment for excess on acquisition?

A) Reduce proportionately the fair values of the non-monetary assets acquired until the excess is eliminated B) Reduce proportionately the fair values of the monetary assets acquired until the excess is eliminated C) Treat it as a deferred credit in the balance sheet and periodically allocate it as income D) Immediately recognise the excess on acquisition as income in the income statement Answer: A AACSB: Analytical Thinking Topic: 10.6. Goodwill Learning Objective: LO 10.7. Explain the alternative methods that have been suggested to account for goodwill or excess on acquisition.

Difficulty: Medium 27) After 1 January 2005, the position that applies in Australia to the amortisation of goodwill is: A) goodwill must be amortised systematically over the period during which the future economic benefits are expected to be consumed B) goodwill is not required to be systematically amortised and is not subject to an impairment test C) goodwill is not required to be systematically amortised but is subject to an impairment test D) goodwill is to be amortised over a period not exceeding 20 years Answer: C AACSB: Analytical Thinking Topic: 10.6. Goodwill Learning Objective: LO 10.8. Apply the requirements of AASB 3 ‘Business Combinations’, AASB 136 ‘Impairment of Assets’ and AASB 138 ‘Intangible Assets’ to accounting for goodwill.

Difficulty: Medium 28) Which of these accounting standards applies to goodwill?

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A) AASB 3 B) AASB 136 C) AASB 138 D) All of the above Answer: D AACSB: Written and Oral Communication Topic: 10.6. Goodwill Learning Objective: LO 10.8. Apply the requirements of AASB 3 ‘Business Combinations’, AASB 136 ‘Impairment of Assets’ and AASB 138 ‘Intangible Assets’ to accounting for goodwill.

Difficulty: Easy 29) Which accounting standard distinguishes between intangible assets and goodwill?

A) AASB 136 B) AASB 3 C) AASB 138 D) AASB 9 Answer: C AACSB: Written and Oral Communication Topic: 10.6. Goodwill Learning Objective: LO 10.8. Apply the requirements of AASB 3 ‘Business Combinations’, AASB 136 ‘Impairment of Assets’ and AASB 138 ‘Intangible Assets’ to accounting for goodwill.

Difficulty: Easy 30) Which of these provisions of AASB 138 is inconsistent with the asset recognition criteria of the Framework?

A) Reviewing the unamortised balance of goodwill annually and, to the extent it is no longer supported by probable future economic benefits, writing it down B) Recognising purchased goodwill as an asset C) Not recognising internally generated goodwill as an asset when the market value of an entity can be measured reliably D) Amortising goodwill Answer: C AACSB: Analytical Thinking Topic: 10.6. Goodwill Learning Objective: LO 10.8. Apply the requirements of AASB 3 ‘Business Combinations’, AASB 136 ‘Impairment of Assets’ and AASB 138 ‘Intangible Assets’ to accounting for goodwill.

Difficulty: Medium 31) The statement concerning the requirements of AASB 138 in relation to goodwill that is incorrect is: A) it prohibits the recognition of internally generated goodwill B) it distinguished between identifiable intangible assets and goodwill

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C) it requires goodwill to be tested for impairment at least every 5 years D) none of the requirements is incorrect Answer: C AACSB: Written and Oral Communication Topic: 10.6. Goodwill Learning Objective: LO 10.8. Apply the requirements of AASB 3 ‘Business Combinations’, AASB 136 ‘Impairment of Assets’ and AASB 138 ‘Intangible Assets’ to accounting for goodwill.

Difficulty: Hard 32) What is a popular method of recording the gain on bargain purchase?

A) As a deferred credit that is shown in the statement of financial position B) To allocate the identifiable non-monetary net assets C) Both A and B are popular methods D) Neither A nor B are a method of recording the gain Answer: C AACSB: Written and Oral Communication Topic: 10.6. Goodwill Learning Objective: LO 10.7. Explain the alternative methods that have been suggested to account for goodwill or excess on acquisition.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 11: Accounting for leases 1) A typical lease agreement will always set out all of the following except: A) who is responsible for the payment of maintenance and repair costs, insurance and taxes B) that the lease is non-cancellable by either party C) the amount and timing of the lease (rental) payments D) the period of the lease Answer: B AACSB: Analytical Thinking Topic: 11.1. Introduction Learning Objective: LO 11.1. Describe the nature of leases.

Difficulty: Medium 2) Operating leases are commonly referred to as ________ while capital leases are also known as ________ leases.

A) on-balance sheet; off-balance sheet B) finance; on-balance sheet C) off-balance sheet; on-balance sheet D) on-balance sheet; finance Answer: C AACSB: Written and Oral Communication Topic: 11.1. Introduction Learning Objective: LO 11.1. Describe the nature of leases.

Difficulty: Medium 3) List and explain the different items set out in a typical lease agreement.

Answer: The terms of a lease agreement may vary widely depending on the nature of the asset, the requirements of the lessee and the lessor, and their relative bargaining power. A lease agreement typically sets out: • the period of the lease; • the amount and timing of the lease (rental) payments; • whether the lease is cancellable by either party and penalties if applicable on cancellation; • what is to become of the asset at the end of the lease term – for example, it may be returned to the lessor or the lease may be renewed; • the asset’s residual value, including any liability of the lessee for the difference between its stated residual value and the proceeds from sale of the asset at the end of the lease term if the asset is sold; and • whether the lessor or the lessee is responsible for the payment of maintenance and repair costs, insurance, taxes and other operating costs.

AACSB: Written and Oral Communication Topic: 11.1. Introduction Learning Objective: LO 11.1. Describe the nature of leases.

Difficulty: Medium 4) How is a finance lease distinguished from an operating lease?

Answer: Off-balance sheet (operating) leases create no lease asset or liability and all lease payments are recognised as expenses when they are incurred. However, under on-balance sheet (finance) leases, a lease asset and liability are recognised at the commencement of the lease, and subsequent lease payments are allocated

between an interest component (expense) and a reduction in the lease principal component (reduction of a liability). The lease asset is also subject to depreciation.

AACSB: Analytical Thinking Topic: 11.1. Introduction Learning Objective: LO 11.2. Explain the implications of lease accounting for assessment of operating performance and financial risk.

Difficulty: Medium 5) The viewpoint that assets and liabilities should be recognised in the accounts of the lessee is known as: A) The lease capitalization approach B) The operating lease approach C) The financing lease approach D) The fair value approach Answer: A AACSB: Written and Oral Communication Topic: 11.1. Introduction Learning Objective: LO 11.2. Explain the implications of lease accounting for assessment of operating performance and financial risk.

Difficulty: Medium 6) What is the result of the on-balance sheet treatment of a lease?

A) Increased return on total assets and decreased debt ratio B) Increased earnings per share and decreased debt ratio C) Increased return on total assets and increased debt ratio D) Decreased return on total assets and increased debt ratio Answer: D AACSB: Analytical Thinking Topic: 11.1. Introduction Learning Objective: LO 11.2. Explain the implications of lease accounting for assessment of operating performance and financial risk.

Difficulty: Medium 7) Managers will often have strong incentives to favour operating leases over finance leases. This is because: A) operating leases are recorded on the balance sheet. This results in an increased debt ratio and a lower return on total assets B) finance leases are recorded on the balance sheet. This results in a decreased debt ratio and a lower return on total assets C) finance leases are recorded on the balance sheet. This results in an increased debt ratio and a lower return on total assets D) None of the above. Managers do not prefer operating leases

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Answer: C AACSB: Analytical Thinking Topic: 11.1. Introduction Learning Objective: LO 11.2. Explain the implications of lease accounting for assessment of operating performance and financial risk.

Difficulty: Medium 8) Which of the following is not expected to have the potential to be affected by the new leasing approach being developed by IFRS 16?

A) Lease disclosure requirements B) Debt covenants C) Regulatory capital requirements D) Tax and dividend payments Answer: A AACSB: Analytical Thinking Topic: 11.2. A new approach to lease accounting Learning Objective: LO 11.2. Explain the implications of lease accounting for assessment of operating performance and financial risk.

Difficulty: Medium

9) Which type of lease is not applicable to AASB 16 ‘Leases’?

A) Leases to explore for or use mineral, oil, or natural gas B) Service concession arrangements within the scope of Interpretation 12 ‘Service Concessions Arrangements’ C) Rights held by a lessee under licensing agreements within the scope of AASB 138 ‘Intangible Assets’ D) All of the above are excluded from AASB 16 ‘Leases’ Answer: D AACSB: Written and Oral Communication Topic: 11.2. A new approach to lease accounting Learning Objective: LO 11.2. Explain the implications of lease accounting for assessment of operating performance and financial risk.

Difficulty: Medium

10) What is required in AASB 16 that are critical to the implementation of the standard?

A) Identifying whether the contract contains a lease B) Separating the components of the contract C) Both A and B D) Neither A nor B Answer: A

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AACSB: Written and Oral Communication Topic: 11.2. A new approach to lease accounting Learning Objective: LO 11.2. Explain the implications of lease accounting for assessment of operating performance and financial risk.

Difficulty: Medium 11) What are the two elements in identifying whether a contract contains a lease?

A) The type of lease and the identified asset B) The identified asset and the minimum lease payments C) Identified asset and the right to control the use of an identified asset D) The type of lease and the minimum lease payments Answer: C AACSB: Analytical Thinking Topic: 11.2. A new approach to lease accounting Learning Objective: LO 11.3. Explain and apply the requirements of AASB 16 ‘Leases’ to identify a lease.

Difficulty: Medium 12) What is a possible future event that can be excluded toward a supplier’s substantive substitution rights?

A) A change in the expected useful life of the asset to the lessor B) The introduction of new technology that is not substantially developed at the inception of the contract C) A change in the amount in the minimum lease payments D) An agreement to pay a below-market rate for the use of the assets Answer: B AACSB: Analytical Thinking Topic: 11.2. A new approach to lease accounting Learning Objective: LO 11.3. Explain and apply the requirements of AASB 16 ‘Leases’ to identify a lease.

Difficulty: Hard 13) What is defined as the non-cancellable period for which the lessee has a right to use an underlying asset?

A) Lease term B) Lessor’s rights C) Lessee’s rights D) Bargain-purchase window Answer: A AACSB: Written and Oral Communication Topic: 11.2. A new approach to lease accounting Learning Objective: LO 11.3. Explain and apply the requirements of AASB 16 ‘Leases’ to identify a lease.

Difficulty: Easy 14) Which of the following is a factor considered by the lessor at the commencement date regarding the possible

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termination of a lease?

A) The importance of the underlying asset to the lessee’s operation B) The amount of any fixed payments C) The importance of the underlying asset to the lessor’s lease revenue D) Purchase options that are significantly above market rates Answer: A AACSB: Written and Oral Communication Topic: 11.2. A new approach to lease accounting Learning Objective: LO 11.3. Explain and apply the requirements of AASB 16 ‘Leases’ to identify a lease.

Difficulty: Hard 15) Discuss the implications of the proposal that operating/finance lease distinction be dropped.

Answer: IFRS 16 adopts a new approach to lessee accounting, bringing all leases (with a few exceptions) on balance sheet. The new leasing approach has the potential to affect: • key performance indicators; • tax and dividend payments; • executive remuneration schemes; • debt covenants; and • regulatory capital requirements. As many entities will have much to consider prior to the Standard’s implementation, the regulators have provided a lengthy transition period.

AACSB: Analytical Thinking Topic: 11.2. A new approach to lease accounting Learning Objective: LO 11.2. Explain the implications of lease accounting for assessment of operating performance and financial risk.

Difficulty: Medium 16) What are two components of the lease liability that are measured in terms of net present value?

A) Expected guaranteed residual value and estimated cost of dismantling and restoring the asset B) Expected guaranteed residual value and variable payments (indexed) C) Termination penalty if reasonably certain and the lessee’s initial direct costs D) The lessee’s initial direct costs and the payment at or before commencement date less any incentives received Answer: B AACSB: Written and Oral Communication Topic: 11.3 Accounting for leases by the lessee Learning Objective: LO 11.4. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for leases by the lessee.

Difficulty: Medium 17) How is the lessee to measure the lease liability after the commencement date.

A) Increasing the carrying amount to reflect interest on the lease liability B) Reducing the carrying amount to reflect the lease payment made C) Remeasuring the carrying amount to reflect any reassessment or lease modifications

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D) All the above are measurement requirements Answer: D AACSB: Analytical Thinking Topic: 11.3 Accounting for leases by the lessee Learning Objective: LO 11.4. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for leases by the lessee.

Difficulty: Medium 18) What is a requirement listed in AASB 16 that addresses the exception of all leases to be listed on the balance sheet?

A) A right-of-use asset must be recognised B) A lease liability must be recognised C) Underlying asset is of low value D) No exceptions are listed in AASB 16 Answer: C AACSB: Written and Oral Communication Topic: 11.3 Accounting for leases by the lessee Learning Objective: LO 11.4. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for leases by the lessee.

Difficulty: Medium 19) Which of the following is not a lease disclosure requirement regarding the statement of cash flows?

A) Cash payments for the principal portion of the lease liability within financing activities B) Cash payments for the interest portion of the lease liability as interest paid C) Short-term lease payments and payments for leases of low-value assets D) Disclosure of which line items include the right-of-use assets Answer: D AACSB: Written and Oral Communication Topic: 11.3 Accounting for leases by the lessee Learning Objective: LO 11.4. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for leases by the lessee.

Difficulty: Medium 20) What is the maximum term of a short-term lease?

A) Six months B) Two years C) Twelve months D) Three months Answer: C AACSB: Written and Oral Communication

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Topic: 11.3 Accounting for leases by the lessee Learning Objective: LO 11.4. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for leases by the lessee.

Difficulty: Easy 21) What is a transition provision option for lessees according to AASB 16?

A) Apply AASB retrospectively to each prior reporting period presented B) Apply the prospective ‘cumulative catch-up’ approach C) Both A and B are acceptable transition provision options D) Neither A nor B are considered transition provision options Answer: A AACSB: Written and Oral Communication Topic: 11.3 Accounting for leases by the lessee Learning Objective: LO 11.4. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for leases by the lessee.

Difficulty: Medium 22) What term is used to describe the right of the lessee to purchase the underlying asset when the option becomes exercisable at a price well below the estimated fair value at that time.

A) Bargain purchase option B) Residual value guarantee C) Unguaranteed residual value D) Minimum lease payment Answer: A AACSB: Written and Oral Communication Topic: 11.4. Accounting for leases by the lessor Learning Objective: LO 11.4. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for leases by the lessee.

Difficulty: Medium 23) How is the lessor required to classify each lease?

A) Operating lease B) Finance lease C) Either A or B is acceptable D) Neither A nor B is acceptable Answer: C AACSB: Written and Oral Communication Topic: 11.4. Accounting for leases by the lessor Learning Objective: LO 11.4. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for leases by the lessee.

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Difficulty: Easy 24) What additional issues are addressed by leases entered into by manufacturers or dealers?

A) Presentation and disclosure B) Measurement and recognition C) Classification and recognition D) Disclosure and measurement Answer: B AACSB: Written and Oral Communication Topic: 11.4. Accounting for leases by the lessor Learning Objective: LO 11.5. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for finance leases by the lessor.

Difficulty: Hard 25) What is defined as the sum of the lease payments received by a lessor under a finance lease and any unguaranteed residual value accruing to the lessor?

A) Net investment in the lease B) Lease receivable C) Gross investment in the lease D) Guaranteed minimum lease payment Answer: C AACSB: Written and Oral Communication Topic: 11.4. Accounting for leases by the lessor Learning Objective: LO 11.5. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for fi nance leases by the lessor.

Difficulty: Medium 26) For which party are adjustments required on transition?

A) Lessees B) Lessors C) Both parties D) Neither parties Answer: A AACSB: Written and Oral Communication Topic: 11.4. Accounting for leases by the lessor Learning Objective: LO 11.5. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for finance leases by the lessor.

Difficulty: Medium 27) For the lessor, what determines the presentation of the asset in the financial statements?

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A) Length of the lease term B) The type of lease C) Amount of the guaranteed minimum lease payments D) Depreciation method of the lessee Answer: B AACSB: Written and Oral Communication Topic: 11.4. Accounting for leases by the lessor Learning Objective: LO 11.6. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for operating leases by the lessor.

Difficulty: Medium 28) Which of the following is not a disclosure related to finance leases?

A) Lease income B) Selling profit or loss C) Finance income on the net investment in the lease D) A maturity analysis of the lease payments receivable Answer: A AACSB: Written and Oral Communication Topic: 11.4. Accounting for leases by the lessor Learning Objective: LO 11.6. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for operating leases by the lessor.

Difficulty: Medium 29) Bellamy Pty Ltd enters into a sale-and-leaseback arrangement as follows: Carrying amount of asset Fair value of asset Proceeds from sale of asset

$50 000 $40 000 $44 000

The resulting lease is classified as an operating lease. According to AASB 117, Bellamy should make the following entry(ies): A) Dr Cash at Bank $44 000 Dr Deferred Loss on Sale $6000 Cr Asset B) Dr Cash at Bank $44 000 Dr Loss on Sale $6000 Cr Asset C) Dr Loss on Revaluation $6000 Cr Asset Dr Cash at Bank $44 000

$50 000

$50 000 $6000

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Cr Asset $44 000 D) Dr Loss on Revaluation $10 000 Cr Asset $10 000 Dr Cash at Bank $44 000 Cr Deferred gain on Sale $4000 Cr Asset $40 000 Answer: D AACSB: Written and Oral Communication Topic: 11.5. Sale-and-leaseback transactions Learning Objective: LO 11.7. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for sale-and-leaseback transactions.

Difficulty: Medium 30) Tomfoolery Ltd enters into a sale-and-leaseback arrangement for an aircraft it owns. The resulting lease is classified as a finance lease. The details are as follows: Carrying amount of asset Proceeds from sale of asset Annual lease payment amount

$50 000 $60 000 $8000

According to AASB 117, Tomfoolery should make which of the following entries to record the sale: A) Dr Cash at bank $60 000 Cr Aircraft $50 000 Cr Deferred gain on sale $10 000 Dr Aircraft under lease $60 000 Cr Lease liability $60 000 B) Dr Aircraft $60 000 Cr Cash at bank $50 000 Cr Deferred gain on sale $10 000 C) Dr Cash at bank $60 000 Cr Aircraft $50 000 Cr Gain on sale income $10 000 Dr Aircraft under lease $60 000 Cr Lease liability $60 000 D) No entry is required as Tomfoolery will still own the asset in an economic sense Answer: A AACSB: Written and Oral Communication Topic: 11.5. Sale-and-leaseback transactions Learning Objective: LO 11.7. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for sale-and-leaseback transactions.

Difficulty: Medium

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31) A sale of goods under a sale-and-leaseback agreement is usually treated by accountants as a sale when the agreement is signed because: A) the goods are physically transferred to the buyer when the agreement is signed B) hire-purchase agreements are usually for a 12-month term C) accountants are more interested in the economic substance of a transaction than in its legal form D) ownership of the goods passes to the buyer when the agreement is signed Answer: C AACSB: Analytical Thinking Topic: 11.5. Sale-and-leaseback transactions.

Learning Objective: LO 11.7. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for sale-and-leaseback transactions.

Difficulty: Medium 32) What are the main characteristics of a sale-and-leaseback agreement?

Answer: A sale-and-leaseback is a transaction in which the owner of an asset sells the asset to another entity, usually a financial institution, for an amount usually equal to its current market value and immediately leases it back from the new owner. The use of the property continues without interruption and the original owner (now the lessee) usually pays all costs, such as maintenance, insurance and rates, as if the title had not passed to the lessor. A sale-and-leaseback transaction is usually prompted by a desire to raise cash using a non-liquid asset, such as a building. It is an alternative to using the asset as security for a loan. Sometimes a sale-and-leaseback agreement provides the lessee with an option to repurchase the asset at the end of the lease term.

AACSB: Analytical Thinking Topic: 11.5. Sale-and-leaseback transactions Learning Objective: LO 11.7. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for sale-and-leaseback transactions.

Difficulty: Medium 33) Consider the following statements: A sale-and-leaseback transaction, as far as the seller is concerned, can (a) generate neither a profit nor a loss (b) can generate an immediate profit but not a deferred profit (c) can generate a deferred profit but not an immediate profit (d) can generate an immediate loss but not a deferred loss A) All are correct B) Only (a) is correct C) Only (b) and (d) are correct D) All are incorrect Answer: D AACSB: Analytical Thinking Topic: 11.5. Sale-and-leaseback transactions

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Learning Objective: LO 11.7. Explain and apply the requirements of AASB 16 ‘Leases’ to accounting for sale-and-leaseback transactions.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 12: Accounting for employee benefits 1) Wendell is employed at a salary of $150 000 per annum, paid in cash, the company income tax rate is 30%, and the average personal income tax rate is 42%. There are no other taxes. The after-tax cost of employing Wendell for the year and the after-tax benefit received by Andy are, respectively: A) $105 000; $63 000 B) $105 000; $87 000 C) $87 000; $63 000 D) None of the above Answer: B AACSB: Analytical Thinking Topic: 12.1. Introduction Learning Objective: LO 12.1. Explain the reasons for salary packaging.

Difficulty: Medium 2) In Australia, the attractiveness of salary packaging is being reduced by which of the following factors?

A) Fringe benefits tax which taxes the employer on non-cash benefits paid to the employee B) The decreasing difference between personal tax rates and the company tax rate C) Non-cash salary being taxable in the hands of the employee D) All of the above Answer: D AACSB: Analytical Thinking Topic: 12.1. Introduction Learning Objective: LO 12.1. Explain the reasons for salary packaging.

Difficulty: Easy

3) Gassy Pty Ltd pays Andy $80 000 per annum in cash, plus a car that cost $50 000 a year. The company income tax rate is 30% and the average personal income tax rate is 45%. There are no other taxes (ignore Fringe Benefits Tax for the purposes of this calculation). Personal income tax is not paid on non-cash benefits. The after-tax cost of employing Andy for the year and the after-tax benefits received by Andy are, respectively: A) $80 000; $71 500 B) $28 000; $71 500 C) $80 000; $94 000 D) None of the above Answer: C AACSB: Analytical Thinking Topic: 12.1. Introduction Learning Objective: LO 12.1. Explain the reasons for salary packaging.

Difficulty: Medium 4) The superannuation trust fund is a separate entity which manages the fund's assets and is responsible for the fund's obligations. The employer's only assets and liabilities are related to the accrual or deferral of the payments

due to the superannuation plan. Discuss whether you agree or disagree with the above approach to accounting for superannuation costs by employers.

Answer: AASB 119 classifies post-employment benefit arrangements as either def ned contribution plans or defined benefit plans, each of which has different accounting and reporting requirements. Defined contribution plans are: post-employment benefit plans under which an entity pays fixed contributions into a separate entity (a fund) and will have no legal or constructive obligation to pay further contributions if the fund does not hold sufficient assets to pay all employee benefits relating to employee service in the current and prior periods.

AACSB: Analytical Thinking Topic: 12.1. Introduction Learning Objective: LO 12.2. Discuss the accounting regulations governing employee benefits.

Difficulty: Medium 5) AASB 119 specifies that the present value basis of measurement of liabilities arising from employee benefits must be applied to which of the following?

A) Short term employee benefits B) Long term employee benefits C) Long service leave only D) All employee benefits Answer: B AACSB: Analytical Thinking Topic: 12.1. Introduction Learning Objective: LO 12.2. Discuss the accounting regulations governing employee benefits.

Difficulty: Medium 6) The discount rate to be used when estimating future cash outflows relating to an employee benefit that is expected to be paid out in 20 years by a Sydney company should be restricted to: A) the current yield on 20 year Australian Government Bonds B) the current yield on high quality bonds C) no estimation of future cash outflows is required D) none of the above Answer: A AACSB: Written and Oral Communication Topic: 12.1. Introduction Learning Objective: LO 12.2. Discuss the accounting regulations governing employee benefits.

Difficulty: Medium

7) Wages and salaries can be divided into which two parts?

A) Current and long-term B) Monetary and non-monetary C) Current and in arrears

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D) Cash and short-term benefits Answer: B AACSB: Analytical Thinking Topic: 12.2. Wages and salaries Learning Objective: LO 12.3. Apply the requirements of AASB 119 ‘Employee Benefits’ to wages and salaries.

Difficulty: Medium 8) Under AASB 119, the liability for annual leave is calculated at: A) the present value of the estimated future cash outflows to be made in respect of the leave B) the current pay rate C) the anticipated pay rate when the leave is expected to be taken D) none of the above Answer: C AACSB: Written and Oral Communication Topic: 12.3. Compensated absences Learning Objective: LO 12.4. Identify the issues in accounting for annual leave and apply the requirements of AASB 119 ‘Employee Benefits’.

Difficulty: Medium 9) Under AASB 119, the recognition criteria for liabilities for profit sharing and bonus plans is: A) It is probable the liability will be settled and the amount of the liability can be measured consistently B) It is reasonably certain the liability will be settled C) It is probable the liability will be settled D) The entity has a present legal or constructive obligation to settle the liability, and the amount of the liability is capable of being measured reliably Answer: D AACSB: Written and Oral Communication Topic: 12.3. Compensated absences Learning Objective: LO 12.4. Identify the issues in accounting for annual leave and apply the requirements of AASB 119 ‘Employee Benefits’.

Difficulty: Medium 10) Sick leave entitlements should be reflected as a liability in accordance with AASB 119 when: A) it is non-accumulating sick leave B) it is accumulating sick leave which is vesting C) it is accumulating sick leave which is non-vesting D) never Answer: B AACSB: Written and Oral Communication Topic: 12.3. Compensated absences Learning Objective: LO 12.5. Distinguish between accumulating and non-accumulating sick leave and implement the requirements of AASB 119 ‘Employee Benefits’ to account for sick leave.

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Difficulty: Medium 11) Which of the following is not a period of employment for long-service leave purposes?

A) Apprenticeship B) Preconditional C) Conditional D) Unconditional Answer: A AACSB: Written and Oral Communication Topic: 12.3. Compensated absences Learning Objective: LO 12.6. Explain the issues in measuring long-service leave obligations and implement the requirements of AASB 119 ‘Employee Benefits’ to account for long-service leave.

Difficulty: Easy

12) Slater is entitled to 4 weeks annual leave a year and has four weeks leave, to the value of $20 000, accrued at the end of his first year of employment. On the first day of his second year of service Slater is given a pay rise to bring his salary up to $300 000 per annum. After the pay rise, Slater's annual leave payable must be adjusted by: A) $50 000 B) $3077 C) $23 077 D) No adjustment is necessary Answer: B AACSB: Written and Oral Communication Topic: 12.3. Compensated absences Learning Objective: LO 12.6. Explain the issues in measuring long-service leave obligations and implement the requirements of AASB 119 ‘Employee Benefits’ to account for long-service leave.

Difficulty: Medium 13) The journal entry to record the payment of long service leave to an employee is: A) Dr. Liability for long service leave Cr Bank B) Dr Bank Cr Liability for long service leave C) Dr Long service leave expense Cr Bank D) None of the above Answer: A AACSB: Written and Oral Communication Topic: 12.3. Compensated absences Learning Objective: LO 12.6. Explain the issues in measuring long-service leave obligations and implement the requirements of AASB 119 ‘Employee Benefits’ to account for long-service leave.

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Difficulty: Easy 14) Discuss the rationale for AASB 119 recognising long service leave as a liability during the preconditional period.

How would you account for the possibility that an employee may not remain in your employ long enough to collect long service leave.

Answer: The early years of continuous service provide no long-service leave entitlement. If employment ceases during this period, the employee has no long-service leave entitlement. The Preconditional period usually lasts for five, seven or 10 years, depending on the terms of the arrangements. For the Preconditional long-service leave period, employee services are viewed as giving rise to a long-service leave liability even if the benefits have not vested (para. 72). The rationale for recognising a liability during the preconditional period is that employee service before the vesting date gives rise to a constructive obligation. This is because the amount of future service required from an employee to obtain long-service leave benefits is reduced at the end of each successive reporting period.

The probability that some employees may not satisfy the vesting conditions is also taken into account when measuring the long-service leave obligation using the projected unit credit method.

AACSB: Written and Oral Communication Topic: 12.3. Compensated absences Learning Objective: LO 12.6. Explain the issues in measuring long-service leave obligations and implement the requirements of AASB 119 ‘Employee Benefits’ to account for long-service leave.

Difficulty: Medium 15) What are employee profit-sharing and bonus plans commonly based on?

A) Equity B) Cash C) Employee longevity D) All of the above answers are correct Answer: D AACSB: Analytical Thinking Topic: 12.4. Profit-sharing and bonus plans Learning Objective: LO 12.7. Identify the issues in accounting for profit-sharing and bonus plans and apply the requirements of AASB 119 ‘Employee Benefits’.

Difficulty: Medium

16) The timing of the recognition of an expense and liability is based on the date: A) when the entity can no longer withdraw for the offer of those benefits B) when the entity recognises costs for a restructuring that is within the scope of AASB 137 C) of the most recent financial statements D) the earlier of A or B Answer: D AACSB: Written and Oral Communication Topic: 12.5. Termination benefits Learning Objective: LO 12.8. Explain the issues in accounting for termination benefits and apply the requirements of

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AASB 119 ‘Employee Benefits’.

Difficulty: Hard 17) Entitlement of equity instruments are based on: A) Earnings goals B) Vesting conditions C) Debt ratios D) Return on investment ratios Answer: B AACSB: Analytical Thinking Topic: 12.6. Share-based payment benefits Learning Objective: LO 12.9. Explain the measurement and recognition of the remuneration resulting from share-based payment transactions in accordance with AASB 2 ‘Share-based Payment’, distinguishing between equity-settled share-based payment transactions, cash-settled share-based payment transactions and share-based payment transactions with cash alternatives.

Difficulty: Medium 18) According to AASB 2, how is the reporting entity to measure the good or services acquired for cash-settled share-based payment transactions?

A) Fair value of the asset B) Book value of the asset C) Fair value of the liability D) Book value of the liability Answer: C AACSB: Written and Oral Communication Topic: 12.6. Share-based payment benefits Learning Objective: LO 12.9. Explain the measurement and recognition of the remuneration resulting from share-based payment transactions in accordance with AASB 2 ‘Share-based Payment’, distinguishing between equity-settled share-based payment transactions, cash-settled share-based payment transactions and share-based payment transactions with cash alternatives.

Difficulty: Medium 19) How should a reporting entity account for the fair value of a compound instrument?

Debt Component A) Cash-settled B) Equity-settled C) Equity-settled D) Cash-settled Answer: D AACSB: Written and Oral Communication Topic: 12.6. Share-based payment benefits

Equity Component Cash-settled Cash-settled Equity-settled Equity-settled

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Learning Objective: LO 12.9. Explain the measurement and recognition of the remuneration resulting from share-based payment transactions in accordance with AASB 2 ‘Share-based Payment’, distinguishing between equity-settled share-based payment transactions, cash-settled share-based payment transactions and share-based payment transactions with cash alternatives.

Difficulty: Medium 20) Which of the following is not an objective related to disclosures of share-based payment transactions?

A) Disclosure of percentage of equity and cash payouts to employees B) Highlights the effects of share-based payment transactions on a company’s profit or loss C) Allows users to understand how the fair value of equity instruments has been determined D) Allows users to understand the nature and extend of share-based arrangements Answer: A AACSB: Written and Oral Communication Topic: 12.6. Share-based payment benefits Learning Objective: LO 12.9. Explain the measurement and recognition of the remuneration resulting from share-based payment transactions in accordance with AASB 2 ‘Share-based Payment’, distinguishing between equity-settled share-based payment transactions, cash-settled share-based payment transactions and share-based payment transactions with cash alternatives.

Difficulty: Medium 21) Discuss the three types of share-based payment transactions as outlined by AASB 2 ‘Share-based Payment’.

Answer: Equity-settled share-based payment transactions in which the company receives or acquires goods or services as consideration for its equity instruments (including shares or share options).

Goods may include inventories, consumables, property, plant and equipment, intangible assets and other non-financial assets.

2 Cash-settled share-based payment transactions in which the company acquires goods or services by incurring liabilities (that are settled by cash payments or other assets) to the supplier of the goods or services for amounts that are based on the price (or value) of the company’s shares or other equity instruments.

3 Transactions in which the company receives or acquires goods or services, and the terms of the arrangement provide either the company or the supplier with a choice of whether the company settles the transaction in cash or by issuing equity instruments AACSB: Written and Oral Communication Topic: 12.6. Share-based payment benefits Learning Objective: LO. 12.9. Explain the measurement and recognition of the remuneration resulting from share-based payment transactions in accordance with AASB 2 ‘Share-based Payment’, distinguishing between equity-settled share-based payment transactions, cash-settled share-based payment transactions and share-based payment transactions with cash alternatives.

22) There are two types of risk associated with post-employment benefits, investment risk and actuarial risk. Explain

these terms and describe the situations when these risks are borne by the employee and when they are borne by

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the employer (in accordance with AASB 119).

Answer: Post-employment benefits fall within the scope of AASB 119. Post-employment benefit plans are categorised as either defined contribution plans or defined benefit plans, depending on their economic substance (para. 27). Under defined contribution plans, an employer’s legal or constructive obligation is limited to the amount that it agrees to contribute to the plan. Consequently, the investment risk and actuarial risk are borne by the employee. Investment risk is the risk that investments made with plan assets will not generate sufficient returns to provide the expected post-employment benefits for employees. Actuarial risk is the risk that the actuarial assessment of required employer and employee contributions to the plan will not be sufficient to meet the expected post-employment benefits for employees (para. 28). In contrast, an employer effectively underwrites the actuarial and investment risks of a defined benefit. Ultimately, the payment of benefits depends on the plan’s financial position and investment performance, and the ability (and willingness) of an employer to fund any shortfall in plan assets. Consequently, the risk of lower than expected benefits falls in substance on the employer, which may result in an increase in its obligations to employees (para. 56). The global financial crisis has reduced the return on plan assets, and employers contributing to defined benefit plans have been faced with shortfalls in plan assets to meet promised superannuation benefits.

AACSB: Written and Oral Communication Topic: 12.7. Post-employment benefits.

Learning Objective: LO 12.10. Identify the issues in accounting for post-employment benefits and apply the requirements of AASB 119 ‘Employee Benefits’ to post-employment benefits, distinguish between defined contribution and defined-benefit plans.

Difficulty: Medium 23) Which of the following is not considered a post-employment benefit by AASB 119?

A) Superannuation B) Termination benefits C) Administrative support D) Free travel Answer: B AACSB: Written and Oral Communication Topic: 12.7. Post-employment benefits.

Learning Objective: LO 12.10. Identify the issues in accounting for post-employment benefits and apply the requirements of AASB 119 ‘Employee Benefits’ to post-employment benefits, distinguish between defined contribution and defined-benefit plans.

Difficulty: Easy 24) What are the two approaches to accounting for post-employment benefit costs by employers?

A) the current and deferred methods B) the deferred debit and the deferred credit methods C) the defined benefit method and the defined contribution methods D) the form method and the net-worth methods Answer: D

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AACSB: Written and Oral Communication Topic: 12.7. Post-employment benefits.

Learning Objective: LO 12.10. Identify the issues in accounting for post-employment benefits and apply the requirements of AASB 119 ‘Employee Benefits’ to post-employment benefits, distinguish between defined contribution and defined-benefit plans.

Difficulty: Medium 25) The method of accounting for superannuation costs based on the assumption that the trust that manages the superannuation plan is a separate legal entity to the employer and is responsible for the fund's obligations is: A) the form method B) the legal entity method C) the net-worth method D) none of the above Answer: A AACSB: Written and Oral Communication Topic: 12.7. Post-employment benefits.

Learning Objective: LO 12.10. Identify the issues in accounting for post-employment benefits and apply the requirements of AASB 119 ‘Employee Benefits’ to post-employment benefits, distinguish between defined contribution and defined-benefit plans.

Difficulty: Medium 26) Leopard Ltd has a defined benefit superannuation plan where the present value of the accrued benefits on 1 January 20X6 was $850 000 and on 31 December 20X6 was $910 000. During 20X6 Leopard Ltd paid $80 000 to the plan. On 1 January 20X6 the net market value of the plans assets was $365 000 and on 31 December 20X6 was $468 000. Under the net-worth method the superannuation expense for the year ended 31 December 20X6 to be shown in Leopard's accounts is: A) $80 000 B) $60 000 C) $37 000 D) $53 000 Answer: C AACSB: Analytical Thinking Topic: 12.7. Post-employment benefits.

Learning Objective: LO 12.10. Identify the issues in accounting for post-employment benefits and apply the requirements of AASB 119 ‘Employee Benefits’ to post-employment benefits, distinguish between defined contribution and defined-benefit plans.

Difficulty: Hard 27) Which of the following is not a true statement concerning the accounting for superannuation costs by employers under a defined benefits plan?

A) The intention of the employer is to ensure that the plan can meet its agreed benefits as they fall due B) When an employee is paid under the superannuation plan, the payment is treated as an expense

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C) The performance of the plan has a direct effect on the statement of financial position of the employer D) All are true statements Answer: B AACSB: Analytical Thinking Topic: 12.7. Post-employment benefits.

Learning Objective: LO 12.10. Identify the issues in accounting for post-employment benefits and apply the requirements of AASB 119 ‘Employee Benefits’ to post-employment benefits, distinguish between defined contribution and defined-benefit plans.

Difficulty: Medium 28) In terms of post-employment benefits, at what point does past-service costs arise?

A) an employee is terminated and the employer must provide compensation for the past service of the employee B) a defined benefits post-employment plan is established or when the plan's benefits are increased C) a defined contributions post-employment plan is established or when the plan's benefits are increased D) a new employee commences employment Answer: B AACSB: Analytical Thinking Topic: 12.7. Post-employment benefits.

Learning Objective: LO 12.10. Identify the issues in accounting for post-employment benefits and apply the requirements of AASB 119 ‘Employee Benefits’ to post-employment benefits, distinguish between defined contribution and defined-benefit plans.

Difficulty: Medium 29) Which of the following methods for the recognition of actuarial gains and losses are acceptable under AASB 119? i) Immediate recognition of all actuarial gains or losses through profit or loss ii) Recognition of all actuarial gains or losses outside profit or loss iii) The corridor approach A) i B) i and ii C) ii and iii D) i, ii and iii Answer: D AACSB: Written and Oral Communication Topic: 12.7. Post-employment benefits.

Learning Objective: LO 12.10. Identify the issues in accounting for post-employment benefits and apply the requirements of AASB 119 ‘Employee Benefits’ to post-employment benefits, distinguish between defined contribution and defined-benefit plans.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 13: Accounting for financial instruments 1) The reasons for the use of financial instruments such as futures contracts, options and swaps include all of the following except: A) to provide 'off-balance-sheet' financing opportunities B) to reduce the amount of outstanding accounts receivable C) to assist in the management of interest rate and foreign currency exchange risks D) to enable the raising of funds by businesses Answer: B AACSB: Analytical Thinking Topic: 13.1. Introduction Learning Objective: LO 13.1. Define ‘financial instrument’ and distinguish between primary and derivative financial instruments, and between simple and compound financial instruments.

Difficulty: Medium 2) Financial instruments include accounts receivable, accounts payable, futures contracts, equity securities and options. Which of the following statements is correct?

A) Accounts receivable, accounts payable and options are primary financial instruments B) Equity securities and futures contracts are primary financial instruments C) Accounts receivable and accounts payable are derivative (secondary) financial instruments D) None of the above is correct Answer: D AACSB: Analytical Thinking Topic: 13.2. The definition of financial instruments.

Learning Objective: LO 13.1. Define ‘financial instrument’ and distinguish between primary and derivative financial instruments, and between simple and compound financial instruments.

Difficulty: Medium 3) Which of the following best describes the difference between a simple financial instrument and a compound financial instrument?

A) A simple financial instrument consists of only one financial asset/financial liability/equity instrument while a compound financial instrument contains both a liability and an equity element B) A simple financial instrument accrues interest using simple interest formula while the compound financial instrument calculates interest on the compound formula C) The fair value of a simple instrument is calculated quarterly while the fair value of a compound instrument accrues daily D) A simple financial instrument has a less complex fee structure Answer: A AACSB: Analytical Thinking Topic: 13.2. The definition of financial instruments.

Learning Objective: LO 13.1. Define ‘financial instrument’ and distinguish between primary and derivative financial instruments, and between simple and compound financial instruments.

Difficulty: Medium 4) Which of the following is not one of the five categories of financial instruments?

A) Held to maturity investments B) Hedging instrument C) Loans and receivables D) Financial assets or financial liabilities at fair value through profit or loss Answer: B AACSB: Analytical Thinking Topic: 13.2. The definition of financial instruments Learning Objective: LO 13.1. Define ‘financial instrument’ and distinguish between primary and derivative financial instruments, and between simple and compound financial instruments.

Difficulty: Easy 5) What is the deciding factor when determining how a financial instrument should be classified?

A) The anticipated date of settlement B) Substance of the transaction C) Legal form of the transaction D) The delivery of cash on the settlement date Answer: B AACSB: Analytical Thinking Topic: 13.3. Distinguishing between financial liabilities and equity instruments.

Learning Objective: LO 13.2. Explain the approach for distinguishing financial liabilities from equity.

Difficulty: Hard 6) How should a financial instrument be classified if the issuer of the instrument is bearing the residual risk associated with holding equity?

A) Put option B) Call option C) Debt instrument D) Equity instrument Answer: D AACSB: Analytical Thinking Topic: 13.3. Distinguishing between financial liabilities and equity instruments.

Learning Objective: LO 13.2. Explain the approach for distinguishing financial liabilities from equity.

Difficulty: Easy 7) Which of the following is a characteristic of preference share dividends?

A) May be set at a fixed minimum level B) May be redeemable C) May accumulate if they are not paid

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D) All of the above are characteristics of preference share dividends Answer: D AACSB: Analytical Thinking Topic: 13.3. Distinguishing between financial liabilities and equity instruments.

Learning Objective: LO 13.3. Explain and apply the principles in AASB 132 ‘Financial Instruments: Presentation’ to distinguish between ordinary shares and preference shares.

Difficulty: Medium 8) Which of the following is considered a compound financial instrument?

A) Convertible notes B) Loan receivable C) Loan payable D) Ordinary share Answer: A AACSB: Analytical Thinking Topic: 13.3. Distinguishing between financial liabilities and equity instruments.

Learning Objective: LO 13.4. Explain the nature of compound financial instruments and how to account for them.

Difficulty: Easy 9) According to AASB 132, which amounts are recognised in the statement of comprehensive income?

A) Dividends paid and dividend revenue B) Printing costs and interest expense C) Interest revenue and dividend revenue D) Registration and advisory fees Answer: C AACSB: Written and Oral Communication Topic: 13.3. Distinguishing between financial liabilities and equity instruments.

Learning Objective: LO 13.5. Apply the requirements of AASB 132 ‘Financial Instruments: Presentation’ as they relate to accounting for convertible notes.

Difficulty: Medium 10) What condition must be present when a financial asset and a financial liability are to be offset?

A) The entity has a legally enforceable right to set off the recognised amount B) The entity intends to either settle on a net basis or realise the asset and settle the liability simultaneously C) Either A or B may be present D) Both A and B must be present Answer: D AACSB: Written and Oral Communication Topic: 13.3. Distinguishing between financial liabilities and equity instruments.

Learning Objective: LO 13.7. Demonstrate an understanding of hedge accounting as applied in AASB 9 ‘Financial Instruments’.

Difficulty: Medium

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11) Which of the following is not a type of hedging relationship?

A) Cash flow B) Net investment in a foreign operation C) Commodities D) Fair value Answer: C AACSB: Analytical Thinking Topic: 13.4. Recognition and measurement of financial instruments.

Learning Objective: LO 13.7. Demonstrate an understanding of hedge accounting as applied in AASB 9 ‘Financial Instruments’.

Difficulty: Easy 12) A 'hedging' financial instrument can: A) protect against losses from adverse movements in foreign exchange rates B) eliminate any possible gain from changes in the Australian dollar/US dollar exchange rate C) offset the risk of loss from adverse commodity price changes D) do all of the above Answer: D AACSB: Analytical Thinking Topic: 13.4. Recognition and measurement of financial instruments Learning Objective: LO 13.6. Explain the recognition and measurement of financial assets and financial liabilities in AASB 9 ‘Financial Instruments’.

Difficulty: Medium

13) AASB 139 requires that, subsequent to initial recognition, financial liabilities other than those designated as at fair value through profit and loss must be measured at amortised cost using the: A) effective interest method B) nominal interest method C) simple interest method D) compound interest method Answer: A AACSB: Written and Oral Communication Topic: 13.4. Recognition and measurement of financial instruments Learning Objective: LO 13.6. Explain the recognition and measurement of financial assets and financial liabilities in AASB 9 ‘Financial Instruments’.

Difficulty: Medium 14) A futures contract provides for: A) a purchase or sale now at a price to be determined based on future events

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B) a purchase or sale in the future at a price to be determined when the transaction is completed C) a purchase or sale in the future at a fixed price agreed at the date of the agreement D) any of the above Answer: C AACSB: Analytical Thinking Topic: 13.5 Futures contracts Learning Objective: LO 13.8. Explain the nature of futures contracts and how to account for them.

Difficulty: Medium 15) A futures contract can be arranged: A) only on financial measures such as stock market price indices B) only through an established stock exchange C) only on commodities such as agricultural products D) on virtually any commodity or financial measure Answer: D AACSB: Analytical Thinking Topic: 13.5 Futures contracts Learning Objective: LO 13.8. Explain the nature of futures contracts and how to account for them.

Difficulty: Medium 16) A futures exchange clearing house is mainly concerned with: A) calling in margins from traders as and when required B) establishing and collecting deposits from brokers trading on the exchange C) calculating the gains and losses made by futures traders D) all of the above Answer: D AACSB: Analytical Thinking Topic: 13.5 Futures contracts Learning Objective: LO 13.8. Explain the nature of futures contracts and how to account for them.

Difficulty: Easy 17) SPI 200 futures contracts: A) cease trading on the third Thursday of the contract month B) are settled on the third Thursday of the contract month C) may only be used by traders D) all of the above Answer: A AACSB: Analytical Thinking Topic: 13.5 Futures contracts Learning Objective: LO 13.8. Explain the nature of futures contracts and how to account for them.

Difficulty: Medium

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18) A trader purchases 4 futures contracts with a total value of $100 when the price of the contracts (based on the SPI 200 share price index) is 3026. When these contracts expire, the index itself is at 2950 points and the price of the SPI 200 contract units is 2975. The trader has: A) made a gain of $5100 B) made a loss of $5100 C) made a loss of $2550 D) made a gain of $2550 Answer: B AACSB: Analytical Thinking Topic: 13.5 Futures contracts Learning Objective: LO 13.8. Explain the nature of futures contracts and how to account for them.

Difficulty: Medium 19) A trader sells 2 futures contracts (a total value of $50) when the price of the contracts (based on the SPI 200 share price index) is 3030. When these contracts expire, the index itself is at 3015 points and the price of the SPI 200 contract units is 2995. The trader has: A) made a gain of $1750 B) made a loss of $1750 C) made a loss of $875 D) made a gain of $875 Answer: B AACSB: Analytical Thinking Topic: 13.5 Futures contracts Learning Objective: LO 13.8. Explain the nature of futures contracts and how to account for them.

Difficulty: Medium 20) Identify and explain the methods required under AASB 139 to account for a futures contract both at its inception and for subsequent changes in its fair value.

Answer: It is unlikely that there will be an exchange of the financial instrument underlying the futures contract and the consideration. The net fair value of the futures contract is therefore zero. Consequently, it is not generally accepted accounting practice to recognise the financial asset (futures receivable) and the financial liability (futures payable) in respect of a futures contract. However, the deposit would be recognised and shown in the statement of financial position as a current asset. This is the approach adopted in the accounting standards on financial instruments. After the initial recognition of futures contracts, AASB 9 requires the following accounting treatment for those contracts that are designated as a ‘fair value hedge’. Under a fair value hedge, an entity recognises the changes in the fair value of the item being hedged as well as the changes in the fair value of the related futures contract in the profit or loss in the period in which the changes occur.

AACSB: Analytical Thinking Topic: 13.5 Futures contracts Learning Objective: LO 13.8. Explain the nature of futures contracts and how to account for them.

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Difficulty: Medium 21) The buyer of a put option on shares: A) obtains the right to sell the shares at an agreed future time at their market price at that time B) must sell the shares at an agreed future time at a price determined now C) obtains the right to sell the shares at an agreed future time at a price determined now D) must sell the shares at an agreed future time at their market price at that time Answer: C AACSB: Analytical Thinking Topic: 13.6. Options contracts.

Learning Objective: LO 13.9. Explain the nature of option contracts and how to account for them.

Difficulty: Medium 22) Which of the following statements is correct?

A) The writer (seller) of a call option on shares receives a fee from the buyer of the option B) The writer (seller) of a call option on shares may or may not have to sell the shares to the buyer of the option C) The writer (seller) of a call option on shares has an obligation to sell the shares at a future time to the buyer of the option D) All of the above are correct Answer: D AACSB: Analytical Thinking Topic: 13.6. Options contracts.

Learning Objective: LO 13.9. Explain the nature of option contracts and how to account for them.

Difficulty: Medium 23) Corine Ltd, a trader bought a December put option for 10 $100 000 10% treasury bonds at a premium of $3.95 on January 1, 2010. Year end for Corine is 30 June when the price for a December put option for $100 000 10% treasury bonds is $3.50.

What was the initial journal entry to record the option?

A) Dr Investment in options contract$39 500 Cr Cash at Bank $39 500 B) Dr Investment in options contract $3950 Cr Cash at Bank $3950 C) Dr Cash at Bank $39 500 Cr Investment in options contract $39 500 D) Dr Cash at Bank $3950 Cr Investment in options contract $3950 Answer: A AACSB: Analytical Thinking Topic: 13.6. Options contracts.

Learning Objective: LO 13.9. Explain the nature of option contracts and how to account for them.

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Difficulty: Medium 24) Corine Ltd, a trader bought a December put option for 10 $100 000 10% treasury bonds at a premium of $3.95 on January 1, 2010. Year end for Corine is 30 June when the price for a December put option for $100 000 10% treasury bonds is $3.50.

What would be the journal entry for 30 June 2010?

A) Dr Loss on options contract $4500 Cr Investment in options contract $4500 B) Dr Loss on options contract $450 Cr Investment in options contract $450 C) Dr Investment in options contract $4500 Cr Gain on options contract $4500 D) Dr Investment in options contract $450 Cr Gain on options contract $450 Answer: A AACSB: Analytical Thinking Topic: 13.6. Options contracts.

Learning Objective: LO 13.9. Explain the nature of option contracts and how to account for them.

Difficulty: Medium 25) Corine Ltd, a trader bought a December put option for 10 $100 000 10% treasury bonds at a premium of $3.95 on January 1, 2010. Year end for Corine is 30 June when the price for a December put option for 10% treasury bonds is $3.50. On 31 July 2010, Corine Ltd sold the option for $4.00. What are the journal entries to record this transaction?

A) Dr Cash at Bank $40 000 Cr Gain on options contract $5000 Cr Investment in options $35 000 B) Dr Cash at Bank $40 000 Cr Gain on options contract $500 Cr Investment in options $39 500 C) Dr Investment in options $35 000 Dr Loss on options contract $5000 Cr Cash at Bank $40 000 D) Dr Investment in options $39 500 Dr Loss on options contract $500 Cr Cash at Bank $40 000 Answer: A AACSB: Analytical Thinking Topic: 13.6. Options contracts.

Learning Objective: LO 13.9. Explain the nature of option contracts and how to account for them.

Difficulty: Medium

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26) A buyer of a futures contract: A) may let the contract expire with no action required B) has an obligation to buy the underlying asset C) has a right, but not an obligation, to buy the underlying asset D) must pay the futures price when the contract is made Answer: B AACSB: Analytical Thinking Topic: 13.6. Options contracts.

Learning Objective: LO 13.9. Explain the nature of option contracts and how to account for them.

Difficulty: Hard 27) Explain the respective rights and obligations of: (a) the buyer of a call option over shares (b) the writer (seller) of a call option over shares (c) the buyer of a put option over shares (d) the writer (seller) of a put option over shares Answer: An option is the right, but not the obligation, to force a transaction to occur at some future time on terms and conditions agreed to now. For example, the buyer of a call option on shares obtains the right to buy shares in the future from the seller (also known as the ‘writer’) of the call at a price determined now (generally referred to as the exercise or strike price).5 At a future time, the buyer of the call can exercise the right to obtain the shares at the predetermined (exercise) price, regardless of what is then the current market price of the shares. Similarly, the buyer of a put option has the right to sell the shares in the future to the writer of the put at a predetermined (exercise) price, regardless of what is then the current market price of the shares. This right to buy (in the case of a call) or to sell (in the case of a put) must be paid for by the option buyer at the time the option is purchased. The amount paid is called the option price and is determined by market forces.

AACSB: Written and Oral Communication Topic: 13.6. Options contracts.

Learning Objective: LO 13.9. Explain the nature of option contracts and how to account for them.

Difficulty: Medium 28) An 'interest rate swap' generally involves: A) a lender and a borrower agreeing to change a floating interest rate to a fixed interest rate or vice versa B) two (or more) parties exchanging floating interest rates for fixed interest rates on loans C) two (or more) parties agreeing to guarantee each others' loan obligations D) two (or more) parties in different countries agreeing to deal at fixed currency exchange rates Answer: B AACSB: Analytical Thinking Topic: 13.7. Swaps.

Learning Objective: LO 13.10. Explain the nature of swaps and how to account for them.

Difficulty: Hard

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29) What is meant by an 'interest rate swap'? Illustrate your answer with a simple example of how such a swap operates and how it would affect the parties concerned. Why might businesses engage in an interest rate swap?

Answer: The two major forms of swap contract are the interest rate swap and the currency swap. In an interest rate swap, future cash flows calculated using future floating interest rates are swapped for future cash flows calculated using a fixed interest rate. Such an agreement mimics the effect of exchanging a floating-rate loan for a fixed-rate loan AACSB: Written and Oral Communication Topic: 13.7. Swaps.

Learning Objective: LO 13.10. Explain the nature of swaps and how to account for them.

Difficulty: Medium 30) Discuss the disclosure requirements in AASB 7 Financial Instruments Disclosure and AASB 132 Financial Instruments Presentation.

Answer: extensive disclosures required by AASB 7 are summarised below.

1 Paragraph 8 requires disclosure, on the face of the statement of financial position or in the notes, of the carrying amounts of each of the following categories of financial instruments: • financial assets measured at fair value through profit or loss, showing separately those designated as such on initial recognition and those mandatorily measured at fair value in accordance with AASB 9 (see paragraphs 9–11 for disclosures required); • financial liabilities measured at fair value through profit or loss, showing separately those designated as such on initial recognition and those that meet the definition of held for trading in AASB 9; • financial assets measured at amortised cost; • financial liabilities measured at amortised cost; and • financial assets measured at fair value through other comprehensive income.

2 If a financial asset has been reclassified as one measured at amortised cost rather than fair value, or vice versa, the date and the reason for the reclassification in respect of the change in the entity’s business model must be disclosed together with the amount (para. 12B).

3 Paragraphs 13A–F require detailed disclosures of financial assets and financial liabilities that have been offset as allowed by paragraph 42 of AASB 132. It is important for users to be aware of any material offsetting of financial assets and financial liabilities.

4 Paragraph 14 requires the disclosure of the carrying amount of financial assets that an entity has pledged for liabilities or contingent liabilities, and the terms and conditions of the pledge.

Paragraph 15 requires specified disclosures where an entity holds collateral that it is permitted to sell or repledge in the absence of default by the owner of the collateral.

5 For financial assets carried at fair value through other comprehensive income as allowed by AASB 9, paragraph 16A requires that a loss allowance must be disclosed in the notes.

6 If a compound financial instrument has multiple embedded derivatives whose values are interdependent, it must disclose the existence of those features (para. 17).

7 If there have been defaults and breaches in relation to loans payable, specified disclosures are required (paras 18 and 19).

8 Paragraph 20 requires specified disclosures of material items of income, expenses, gains and

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losses on the face of either the statement of comprehensive income or the statement of changes in equity or in the notes.

Paragraph 20A requires disclosure of the gain or loss recognised in the statement of comprehensive income arising from the derecognition of financial assets measured at amortised cost. The gains and losses must not be netted and must be shown separately.

10 Paragraph 21 requires compliance with paragraph 108 of AASB 101 ‘Presentation of Financial Statements’ in relation to the disclosure of accounting policies for financial instruments.

11 Disclosures in relation to hedge accounting are specified in paragraphs 21A–24G. 12 In paragraphs 25–30, specified disclosures on fair value are required.

AACSB: Written and Oral Communication Topic: 13.8. Disclosure Learning Objective: LO 13.11. Explain the purpose of, and identify the main disclosure requirements in, AASB 7 ’Financial Instruments: Disclosures’ and AASB 132 ‘Financial Instruments: Presentation’.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 14: The statement of comprehensive income 1) The Australian Accounting Standards Board changed the name 'statement of financial performance' to 'statement of profit and loss and other comprehensive income': A) to be consistent with the Corporations Act B) to be consistent with international accounting standards C) to be consistent with US accounting standards D) because of the development of accounting standards that are applicable to both the private and public sectors Answer: B AACSB: Written and Oral Communication Topic: 14.1. Introduction Learning Objective: LO 14.1. Explain the different approaches to profit measurement.

Difficulty: Medium 2) The approach where profit is measured as the revenue from operations minus expenses from operations is known as: A) the all-inclusive approach B) the operating-profit approach C) the comprehensive income approach D) the working profit approach Answer: B AACSB: Analytical Thinking Topic: 14.2. Measurement of profit Learning Objective: LO 14.1. Explain the different approaches to profit measurement.

Difficulty: Easy

3) Which items bypass the profit figure under the operating-profit approach?

A) Revenues and expenses resulting from changes in accounting policies B) Revenue and expenses relating to prior periods C) Revenues and expenses relating to events outside the ordinary operations of the entity D) All of the above Answer: D AACSB: Analytical Thinking Topic: 14.2. Measurement of profit Learning Objective: LO 14.1. Explain the different approaches to profit measurement.

Difficulty: Easy 4) A difference between the all-inclusive and the comprehensive income approaches to profit measurement is that: A) the all-inclusive approach is broader than the comprehensive income approach B) the two approaches have different treatments for prior-period adjustments C) the comprehensive income approach includes all recognised changes in the carrying amount of assets and

liabilities in the profit calculation D) all are differences Answer: C AACSB: Analytical Thinking Topic: 14.2. Measurement of profit Learning Objective: LO 14.1. Explain the different approaches to profit measurement.

Difficulty: Medium 5) The concept of profit that is generally regarded as the most useful in predicting future profits is: A) the comprehensive income approach B) the operating-profit approach C) the all-inclusive approach D) No difference is seen in the usefulness of the different profit approaches in predicting future profits Answer: B AACSB: Analytical Thinking Topic: 14.2. Measurement of profit Learning Objective: LO 14.1. Explain the different approaches to profit measurement.

Difficulty: Medium

6) Which of these is correct? An advantage of the comprehensive income approach to profit measurement is: A) profit is determined conceptually not arbitrarily B) no revenue or expense items bypass the income statement C) the method gives the most useful profit for estimating future profit performance D) A and B are both correct Answer: D AACSB: Analytical Thinking Topic: 14.2. Measurement of profit Learning Objective: LO 14.1. Explain the different approaches to profit measurement.

Difficulty: Medium

7) In the United States, SFAS 130 requires which profit figure to be disclosed?

A) Profit after tax after applying all other accounting standards B) The comprehensive income figure which includes all income and expenses that have previously bypassed the profit calculation after tax and been taken directly to equity C) Neither A nor B D) Both A and B Answer: D AACSB: Written and Oral Communication Topic: 14.2. Measurement of profit

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Learning Objective: LO 14.1. Explain the different approaches to profit measurement.

Difficulty: Hard 8) Under AASB 101, which of these items need not be disclosed separately on the face of the 'statement of profit or loss and other comprehensive income'?

A) Income tax expense B) Bad and doubtful debts C) Finance costs D) None of the above, i.e., all must be disclosed separately on the face of the income statement Answer: B AACSB: Written and Oral Communication Topic: 14.2. Measurement of profit Learning Objective: LO 14.2. Explain the approach to profit measurement adopted in Australia.

Difficulty: Medium

9) Items not included in the operating profit calculation under AASB 101 are: A) prior period adjustments B) events outside ordinary operations C) adjustments due to changes in accounting policies D) all of the above Answer: D AACSB: Written and Oral Communication Topic: 14.2. Measurement of profit Learning Objective: LO 14.2. Explain the approach to profit measurement adopted in Australia.

Difficulty: Medium

10) Benefits attributed to the comprehensive income approach include: A) the statements of comprehensive income is determined conceptually B) no items that satisfy the definition and recognition for income or expense bypass the statement of comprehensive income C) the statement of comprehensive income is more reliable than its predecessor D) all of the above Answer: D AACSB: Analytical Thinking Topic: 14.2. Measurement of profit Learning Objective: LO 14.2. Explain the approach to profit measurement adopted in Australia.

Difficulty: Easy

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11) The inclusion of increments and decrements of non-current assets required by the comprehensive income approach: A) may reduce the reliability of the financial statements B) must always be confirmed as an arms-length transaction C) A and B above D) None of the above Answer: A AACSB: Analytical Thinking Topic: 14.2. Measurement of profit Learning Objective: LO 14.2. Explain the approach to profit measurement adopted in Australia.

Difficulty: Hard 12) Explain and discuss the advantages and disadvantages of the operating-profit and the comprehensive income approaches to profit measurement. Which approach do you think is the most useful for decision making?

Answer: Under the operating-profit approach, profit is measured as income from operations minus expenses from operations. Profit is the result of ‘ordinary’ operations for the reporting period. This approach excludes income and expenses that relate to prior periods (such as corrections of prior period errors or revisions to accounting estimates) and those resulting from events outside ‘ordinary’ operations, such as the effects of extraordinary transactions and events, and changes in accounting policy. Non-operating items bypass the statement of comprehensive income and are reported in the statement of changes in equity (see section 6.4.3).

The operating-profit approach is supported by arguments that report users require a profit figure that can be used as a basis for predicting future profits – that is, the most relevant measure of profit focuses on income and expenses that are related to the ordinary operations of the reporting period and are likely to recur. The inclusion of other income and expenses could distort the results of ordinary operations, which are the ‘best’ basis for assessing the current period’s performance and predicting future performance. Furthermore, it is argued that the inclusion of items that are outside ordinary operations in the measurement of profit may destroy the utility of inter-period and interfirm comparisons.

The inclusion of these other items could materially affect the results of some entities in some periods, making inter-period and inter-firm comparisons difficult.

Against the operating-profit approach it is argued that allowing many items to bypass the statement of comprehensive income may lead to profit manipulation and profit ‘smoothing’. For example, management may have incentives to classify some income items as within operations (operating) but some expense items as outside of operations (non-operating), with a resulting overstatement of reported profit. If the distinction between ‘operating’ and ‘non-operating’ is vague, then reported operating profit could be manipulated in any year or smoothed over time by the judicious classification of income and expense items. The operating-profit approach arguably results in information that is not a faithful representation of the transaction.

It has also been asserted that non-operating expenses are, over several years, likely to exceed non-operating income. If this is correct, even with no deliberate manipulation, reported profits would be consistently higher from the use of the operating-profit approach. Under the comprehensive income approach,1

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profit for the period includes all income and expenses as defined in Framework 2014. All changes in net assets or equity, other than transactions with owners, are included in the measurement of profit. The comprehensive income approach requires that all recognised changes in the carrying amount of assets and liabilities be included in the measurement of profit. Under the comprehensive income approach, no income or expense items bypass the statement of comprehensive income.

The comprehensive income approach has some benefits. First, the contents of the statement of comprehensive income are determined conceptually, not arbitrarily. Second, no items that satisfy the definition and recognition criteria for income or expenses bypass the statement of comprehensive income. Taken together, this reduces the potential for manipulation and bias in reporting periodic profit, and may result in a more faithful representation of the information.

The problem with this approach is that many income and expense items included in the statement of comprehensive income may arise from non-operating activities – that is, activities that are unusual and outside the entity’s ordinary activities and hence do not provide a good basis for predicting future profits. A further problem is that some items of income and expense included in comprehensive income, such as non-current asset revaluation increases and decreases, may not yet be confirmed by an arm’s-length transaction between independent parties. This may result in a profit figure of lower verifiability under the comprehensive income approach.

The comprehensive income approach is consistent with Framework 2014 definitions of the elements of financial statements, but its use in practice is relatively recent.

AACSB: Analytical Thinking Topic: 14.2. Measurement of profit Learning Objective: LO 14.1. Explain the different approaches to profit measurement.

Difficulty: Medium

13) Explain and discuss how profit results may be manipulated if the rules allow the separate reporting of operating items and extraordinary items. Explain how accounting standard setters in Australia have responded to a perceived creative approach to extraordinary items in the previous standard. Do you think their response is justified?

Answer: Under the all-inclusive approach, profit for the period is measured as the result of ordinary operations plus income and expenses relating to prior periods, the effects of some accounting policy changes, and the result of extraordinary transactions and events. The all-inclusive approach is broader than the operating-profit approach, but still allows certain items to bypass the statement of comprehensive income. For example, upward revaluations of property, plant and equipment arguably satisfy the definition and recognition criteria for income but bypass the statement of comprehensive income and are recognised in the statement of changes in equity.

The all-inclusive approach is supported on several grounds. It restricts opportunities for profit manipulation and/or profit smoothing because, compared to the operating-profit approach, fewer items bypass the statement of comprehensive income. Hence, this approach arguably produces more relevant information. An all-inclusive statement of comprehensive income is easier to prepare because it avoids the need for an accountant to exercise judgement in deciding whether an item is ‘operating’ or ‘nonoperating’.

In some cases, the need to make a choice between operating and non-operating income and expenses may lead to disputes among management, accountants, auditors and regulators. If all items

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for a reporting period are included in the calculation of profit, this classification difficulty is avoided.

Against the all-inclusive approach, it is argued that some items still bypass the statement of comprehensive income, indicating that the potential for profit manipulation still exists. Further, in an effort to increase comparability, the all-inclusive approach may result in the labelling of certain included items as extraordinary or unusual. This process may also be open to manipulation.

AACSB: Analytical Thinking Topic: 14.2. Measurement of profit Learning Objective: LO 14.1. Explain the different approaches to profit measurement.

Difficulty: Hard

14 Which of the following is not an example of a circumstance that results in separate disclosure, according to Paragraph 98 of AASB 101?

A) Disposals of investments B) Purchases of investments C) Litigation settlements D) Discontinued operations Answer: B AACSB: Written and Oral Communication Topic: 14.3. Accounting standards Learning Objective: LO 14.3. Apply the requirements for the preparation of a statement of comprehensive income in AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium 15) Which statement in relation to the treatment of expenses under AASB 101 is correct?

A) It is optional for an entity with revenue from the sale of goods to disclose cost of sales B) Expenses should be classified according to their nature or their function C) Expenses are defined exactly in accordance with the Framework D) A and B are correct Answer: B AACSB: Analytical Thinking Topic: 14.3. Accounting standards Learning Objective: LO 14.4. Apply the requirements of AASB 101 ‘Presentation of Financial Statements’ to revenue and the classification of expenses.

Difficulty: Medium

16) The expense example that is a classification by nature rather than by function is: A) depreciation expense B) administrative expenses

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C) marketing expenses D) occupancy expenses Answer: A AACSB: Analytical Thinking Topic: 14.3. Accounting standards Learning Objective: LO 14.4. Apply the requirements of AASB 101 ‘Presentation of Financial Statements’ to revenue and the classification of expenses.

Difficulty: Medium 17) Under AASB 101, the nature and amount of which type of items should be disclosed separately?

A) Extraordinary items B) Significant items C) Material items D) None of the above Answer: C AACSB: Written and Oral Communication Topic: 14.3. Accounting standards Learning Objective: LO 14.6. Apply the required treatment of unusual items in AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium 18) When items are required to be classified as extraordinary, which of the following is/are not true?

A) Users of financial statements are able to make more accurate predictions of future performance B) Management is able to classify gains as operating income and losses as extraordinary items C) It allows managers to misclassify expenses as extraordinary D) None; all are true Answer: D AACSB: Analytical Thinking Topic: 14.3. Accounting standards Learning Objective: LO 14.6. Apply the required treatment of unusual items in AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium

19) Which statement concerning Australian accounting standards is correct?

A) Current Australian accounting standards do not identify any particular categories of 'unusual' items for special disclosure in the income statement B) Current Australian accounting standards require activities that are attributable to transactions or other events outside the ordinary activities of the entity to be disclosed separately C) AASB 101 requires the separate disclosure of significant items D) None of the above is correct

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Answer: A AACSB: Written and Oral Communication Topic: 14.3. Accounting standards Learning Objective: LO 14.6. Apply the required treatment of unusual items in AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium 20 Which aspects of the statement of comprehensive income warrant further comment?

A) Revenue and investments B) Treatment of unusual items and revenue C) Revenue and operating profit D) Classification of expenses and gross profit Answer: B AACSB: Written and Oral Communication Topic: 14.3. Accounting standards Learning Objective: LO 14.3. Apply the requirements for the preparation of a statement of comprehensive income in AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium 21) Which term describes items of income and expense (including reclassification adjustments) that are not recognised in profit or loss as required or permitted by other Australian Accounting Standards?

A) Operating income B) Other comprehensive income C) Net income D) Equity Answer: B AACSB: Written and Oral Communication Topic: 14.3. Accounting standards Learning Objective: LO 14.5. Identify and apply the requirements of AASB 101 ‘Presentation of Financial Statements’ to other comprehensive income.

Difficulty: Easy 22) Define income and explain how it differs from revenue.

Answer: Income, as defned in Framework 2014, encompasses both revenue and gains (para. 74). Hence, revenue is a subset of income and is an important component of profit measurement in the statement of comprehensive income.

AACSB: Analytical Thinking Topic: 14.3. Accounting standards Learning Objective: LO 14.4. Apply the requirements of AASB 101 ‘Presentation of Financial Statements’ to revenue and the classification of expenses.

Difficulty: Easy

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23) AASB 101 allows preparers two options in the classification of items for the statement of comprehensive income statements. Discuss.

Answer: Paragraph 10A of AASB 101 provides an option for an entity to adopt either: • a single-statement approach, which presents a single statement of profit or loss and other comprehensive income with profit or loss and other comprehensive income presented in two sections, where profit or loss is presented first followed by components of other comprehensive income; or • a two-statement approach, which presents the profit or loss section in a separate statement of profit or loss to be followed by a statement of comprehensive income which shall begin with profit or loss.

AACSB: Written and Oral Communication Topic: 14.3. Accounting Standards Learning Objective: LO 14.3. Apply the requirements for the preparation of a statement of comprehensive income in AASB 101 ‘Presentation of Financial Statements’.

Difficulty: Medium 24 What is considered a common measure of profit, in addition to statutory profit measured in accordance with Australian accounting standards?

A) Underlying earnings B) Street earnings C) Both A and B D) Neither A nor B Answer: C AACSB: Analytical Thinking Topic: 14.4. Reporting of non-statutory profit measures Learning Objective: LO 14.7. Explain the use of non-statutory profit measures.

Difficulty: Easy

25) The standard that requires the disclosure of auditor's remuneration and executives' remuneration in the published reports is: A) AASB 1031 B) AASB 101 C) AASB 118 D) No accounting standard requires the disclosure of auditor's remuneration and executives' remuneration Answer: B AACSB: Written and Oral Communication Topic: 14.4. Reporting of non-statutory profit measures.

Learning Objective: LO 14.7. Explain the use of non-statutory profit measures.

Difficulty: Medium 26) The amount retained for asset replacement and growth is one feature of: A) The statement of value added

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B) Other comprehensive income C) Equity D) Operating income Answer: A AACSB: Analytical Thinking Topic: 14.5. The statement of value added Learning Objective: LO 14.8. Explain the information disclosed in a statement of value added.

Difficulty: Easy

27 Countries in the European Union, South Africa, and Asia use a statement of value added as a component of: A) Other comprehensive income B) Equity analysis C) Corporate social responsibility reporting D) Required disclosures in the notes to the financial statements Answer: C AACSB: Analytical Thinking Topic: 14.5. The statement of value added Learning Objective: LO 14.8. Explain the information disclosed in a statement of value added.

Difficulty: Medium

28) Which of the following is considered a disadvantage of the statement of value added?

A) Could cause confusion with the statement of comprehensive income B) Costs may exceed benefits C) May be regarded as a preferable way of describing performance D) All answers are correct Answer: D AACSB: Analytical Thinking Topic: 14.5. The statement of value added Learning Objective: LO 14.8. Explain the information disclosed in a statement of value added.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 15: Revenue

1) What term describes activities that are undertaken by an entity as part of its business or to meet its objectives and related activities in which the entity engages in furtherance of, incidental to, or arising from activities undertaken to meet its objectives’ ?

A) Revenue B) Income C) Ordinary Activities D) Equity-producing Answer: C AACSB: Written and Oral Communication Topic: 15.1 Introduction Learning Objective: LO 15.1. Describe the importance of accounting for revenue.

Difficulty: Medium 2) Which two issues have been the most controversial in regards to revenue?

A) Timing and nature B) Nature and recognition C) Recognition and presentation D) Disclosure and timing Answer: B AACSB: Analytical Thinking Topic: 15.2. The importance of accounting for revenue Learning Objective: LO 15.1. Describe the importance of accounting for revenue.

Difficulty: Easy 3) What is a characteristic of the income statement approach to revenue recognition?

A) Changes in asset balances B) Movements in liabilities C) Dependence on the cash-basis of accounting D) Based on the concept of income realization Answer: D AACSB: Analytical Thinking Topic: 15.2. The importance of accounting for revenue Learning Objective: LO 15.1. Describe the importance of accounting for revenue.

Difficulty: Medium 4) Which point of the earnings cycle is revenue recognised in most cases?

A) Receipt of cash

B) Delivery of goods to customers C) Progressively throughout production D) Receipt of orders after completing production Answer: B AACSB: Analytical Thinking Topic: 15.2. The importance of accounting for revenue Learning Objective: LO 15.1. Describe the importance of accounting for revenue.

Difficulty: Medium 5) Describe the nine steps of the earnings cycle, and give examples of how different contracts recognise revenue within the cycle.

Answer: A key component of the realisation principle is determination of a critical point in the transaction between the entity and a customer in which revenue is ‘earned’; that is, the entity has completed its side of the transaction. In practice, the decision about when revenue is earned is a matter of judgement, which may be decided in different ways across different entities. In their theory monograph for the Australian Accounting Research Foundation,4 Coombes and Martin illustrated this problem by reference to the steps in the ‘earnings cycle’. A typical earnings cycle is set out in Figure 15.1. Coombes and Martin note that different industries have traditionally adopted different steps in the earnings cycle for the recognition of revenue as follows: (a) at point 5 in the building industry for long-term construction contracts; (b) at point 7 where it is the responsibility of the purchaser to collect the goods; (c) at point 8 in most cases; (d) at point 9 by some professional practices and for instalment credit sales AACSB: Written and Oral Communication Topic: 15.2. The importance of accounting for revenue Learning Objective: LO 15.1. Describe the importance of accounting for revenue.

Difficulty: Medium

6) Which type of contract with customers is exempt from Paragraph 5 of AASB 15 ‘Revenue from Contracts with Customers’?

A) Lease contracts covered by AASB 117 ‘Leases’ B) Installment sales C) Both A and B D) Neither A nor B Answer: A AACSB: Written and Oral Communication Topic: 15.3. Overview of AASB 15 ‘Revenue from Contracts with Customers’ Learning Objective: LO 15.2. Describe the objective, core principle and scope of AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Hard

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7) Which of the following is not part of the five-step model for determining the recognition of revenue from contracts with customers: A) Determine the transaction price B) Identify the contract with the customer C) Recognise revenue when a performance obligation is satisfied D) Identify the schedule of payments in the contract Answer: D AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 8) Which of the following is required when identifying a contract?

A) The contract is notarised by a lawyer B) The contract has commercial substance C) Both A and B are required D) Neither A nor B is required Answer: B AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 9) What are two determinants of commercial substance in a contract?

A) Payment terms and approval of the contract B) The identification of each party’s rights and payment terms C) Risk and the timing of the entity’s future cash flows D) Approval of the contract and risk Answer: C AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 10) What factors are considered when evaluating the collectability of an amount of consideration?

A) Ability and intention B) Payment terms and ability

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C) Intention and financial statement analysis D) Rights and obligations Answer: A AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Hard 11) Which of the following criteria would facilitate the combining of contracts in accordance with AASB 15 ‘Revenue from Contracts with Customers’?

A) The contracts are negotiated as a package with a single commercial objective.

B) The amount of consideration to be paid in one contract depends on the price or performance of the other contract.

C) Either A or B is acceptable D) Both A and B are required Answer: C AACSB: Written and Oral Communication Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Hard 12) What must occur for a contract modification to exist?

A) The modification must be written B) The modification requires a new contract C) It must be initiated by the seller D) All parties approve the modification Answer: D AACSB: Written and Oral Communication Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 13) What are the promises about the goods and/or services that are to be provided by the entity to the customer commonly referred to as?

A) Contract modifications B) Performance obligations C) Articles of the contract D) Warranties

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Answer: B AACSB: Written and Oral Communication Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 14) Which of the following are considered ‘distinct’ goods or services according to AASB 15?

A) Granting licenses B) Constructing an asset on behalf of a customer C) Sale of goods produced by an entity D) All of the above are considered distinct Answer: D AACSB: Written and Oral Communication Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Easy 15) What term describes the amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer, excluding amounts collected on behalf of third parties?

A) Settlement price B) Contract price C) Fair value D) Transaction price Answer: D AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Easy 16) What is a factor that might influence the transaction price?

A) Non-cash consideration B) Currency of the customer C) Oral agreements D) Consideration payable to a third party Answer: A AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15

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Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 17) What is a possible indicator of revenue reversal?

A) The contract has a broad range of possible consideration amounts B) The entity’s experiences with similar types of contracts is limited C) Both A and B are possible indicators D) Neither A nor B is a possible indicator Answer: C AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 18) How is the transaction price to be measured by the entity when receiving non-cash consideration from a customer?

A) Fair value of the goods and/or services transferred to the customer B) Present value of future cash flows C) Fair value of the non-cash consideration received from the customer D) Book value of the non-cash consideration received from the customer Answer: C AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Hard 19) Discuss the three types of repurchase agreements.

Answer: Paragraph B65 identifies three types of repurchase agreement: (a) an entity’s obligation to repurchase the asset (a forward); (b) an entity’s right to repurchase the asset (a call option); and (c) an entity’s obligation to repurchase the asset at the customer’s request (a put option).

If an entity enters into a contract (or contracts) that give rise to a forward or a call option, then control over the asset transferred to the customer does not pass to the customer, even if the customer takes physical delivery of the asset. In these cases the entity does not account for the contract as revenue, but as either (i) a lease arrangement if the entity can repurchase the asset for less than the original selling price, or (ii) a financing arrangement if the entity is obliged to repurchase the asset at an amount equal to or more than the original selling price (para. B66). In either of these cases, the effect of the time value of money is to be recognised (para. B67). Where

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the repurchase agreement is really a financing arrangement, then the entity must recognise a financial liability for any payment received from the customer and continue to recognise in its own records the asset that was ‘purchased’ by the customer. The difference between the consideration received and the consideration paid on repurchasing the asset must be recognised as interest (para. B68).

In the case of a put option, where the repurchase price of the asset is less than the original selling price, the entity needs to decide at the start of the contract whether the customer has a significant economic incentive to exercise the option. Where the entity forms the view that such an incentive exists, it must account for the transaction as a lease because the customer is paying the entity for the right to use the asset for a particular period of time (para. B70). Where the customer does not have a significant economic incentive to exercise the option, the entity accounts for the contract as if it was a sale with a right of return (para. B72; see above). If the repurchase price of the asset in a put option is the same or more than the original selling price and it is also greater than the expected market value of the asset, the contract is accounted for as a financing arrangement and the entity must recognise a financial liability and an interest component (para. B73). If, however, the repurchase price of the asset in a put option is the same or more than the original selling price, but it is lower than the expected market value of the asset, then the customer has no significant economic incentive to exercise the option and the entity accounts for the contract as if it were a sale with a right of return (para. B74).

AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 20) Discuss how an entity accounts for the receipt of non-cash consideration in a sales contract.

Answer: Typically an entity will receive cash as the form of consideration in a sales contract.

However, there may be occasions in which the contract is settled using a non-cash form of consideration (e.g. the customer pays by transferring land or some other non-current asset). Paragraph 66 requires the entity to measure the transaction price in such cases based on the fair value of the non-cash consideration. Should it not be possible to reasonably estimate the fair value of the noncash consideration, then the entity must measure the consideration based on the stand-alone selling price of the goods or services that it is promising to transfer to the customer (para. 67). If the fair value of the non-cash consideration is expected to vary because of the type of consideration, then the non-cash consideration will be treated as variable consideration (para. 68). For example, a customer may pay for the transfer of goods or services using its equity instruments the fair value of which is likely to vary as market conditions change. Paragraph 69 requires the entity to treat any goods or services provided by a customer towards the fulfilment of a contract as non-cash consideration if the entity obtains control over those contributed goods or services.

AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15

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Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 21) Which of the following method(s) could estimate a stand-alone price?

A) An approach based on observable prices for similar goods or services B) An expected cost plus margin approach C) A residual approach D) All of the listed methods could estimate a stand-alone price Answer: D AACSB: Analytical Thinking Topic: 15.4.4. Allocate the transaction price Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 22) A vehicle and plot of land were purchased for $115 000. The fair value of the vehicle was $20 000, and the fair value of the land was $130 000 at the time of purchase. To the nearest dollar, what amount should be allocated to the vehicle?

A) $20 000 B) $57 500 C) $46 000 D) $15 333 Answer: D AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 23) Which of the following is true in regards to measuring progress towards the complete satisfaction of performance obligations?

A) Multiple methods of measuring progress can be used for a performance obligation B) Methods based on inputs recognise revenue based on measures of the value of goods or services transferred to the customer C) Only a single method of measuring progress can be used for a performance obligation D) All of the above are true Answer: C AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

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Difficulty: Hard 24) How must products be accounted for when they are transferred with a right of return?

A) As a refund liability B) As an asset C) Both A and B are requirements D) Either A or B are acceptable Answer: C AACSB: Analytical Thinking Topic: 15.4. Applying AASB 15 Learning Objective: LO 15.3. Describe and apply the five-step model for revenue recognition in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 25) What is a cost that can be incurred with regard to the generation of revenue from contracts with customers?

A) Incremental costs of obtaining a contract B) Costs incurred to fulfil a contract C) Both A and B are correct D) Neither A nor B is correct Answer: C AACSB: Written and Oral Communication Topic: 15.5. Contract costs Learning Objective: LO 15.4. Describe and apply the treatment of contract costs in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Easy 26) What is a type of cost that can be incurred with regard to the generation of revenue from contracts with customers?

A) Incremental costs of obtaining a contract B) Costs incurred to fulfil a contract C) Both A and B can be incurred D) Neither A nor B is incurred Answer: C AACSB: Written and Oral Communication Topic: 15.5. Contract costs Learning Objective: LO 15.4. Describe and apply the treatment of contract costs in AASB 15 ‘Revenue’ from Contracts with Customers’.

Difficulty: Medium 27) Which type of costs to fulfil a contract are excluded from being classified as assets?

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A) Direct materials B) General and administrative costs C) Direct labour D) Costs that relate directly to a contract Answer: B AACSB: Written and Oral Communication Topic: 15.5. Contract costs Learning Objective: LO 15.4. Describe and apply the treatment of contract costs in AASB 15 ‘Revenue’ from Contracts with Customers’.

Difficulty: Medium 28) What is true of an impairment reversal?

A) It must exceed the original carrying amount net of amortisation B) The reversal occurs through profit or loss if the conditions that caused the impairment improve C) They are disallowed by Australian accounting standards D) The reversal must have been based on straight-line amortisation Answer: B AACSB: Written and Oral Communication Topic: 15.5. Contract costs Learning Objective: LO 15.4. Describe and apply the treatment of contract costs in AASB 15 ‘Revenue’ from Contracts with Customers’.

Difficulty: Hard 29) Which type of costs are incurred by an entity regardless of whether the entity wins a revenue contract bid?

A) Sales commissions B) Franchise fees C) Consignment fees D) Marketing costs Answer: D AACSB: Analytical Thinking Topic: 15.5. Contract costs Learning Objective: LO 15.4. Describe and apply the treatment of contract costs in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium 30) What arises when an entity performs under the contract by transferring goods or services to the customer before the consideration has been paid or is due?

A) Contract asset B) Contract liability C) Contract modification

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D) Performance measure Answer: A AACSB: Written and Oral Communication Topic: 15.6. Presentation and disclosure Learning Objective: LO 15.5. Describe the objective of the disclosure requirements in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Easy 31) Which of the following is not addressed by Paragraph 110 of AASB 15 in regards to disclosures?

A) Any liabilities that have been recognised as a result of the contract B) The entity’s contracts with customers C) The significant judgements and changes to judgements that the entity has made in applying AASB 15 to its contracts with customers D) Any assets that have been recognised as a result of incurring costs to obtain or fulfil a contract with a customer Answer: A AACSB: Written and Oral Communication Topic: 15.6. Presentation and disclosure Learning Objective: LO 15.5. Describe the objective of the disclosure requirements in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium

32) Distinguish the differences between a contract asset and a contract liability.

Answer: A contract asset arises when an entity performs under the contract by transferring goods or services to the customer before the consideration has been paid or is due. The contract asset is recorded net of any receivables and it should be assessed for impairment as governed by AASB 9 ‘Financial Instruments’ (para. 107). Paragraph 106 states that the entity recognises a contract liability in those circumstances where the customer pays consideration (or the entity obtains a right to an unconditional amount of consideration) before the entity has transferred a good or service to the customer. The entity presents a contract as a liability at the time the payment is made or the payment is due (whichever is earlier).

AACSB: Written and Oral Communication Topic: 15.6. Presentation and disclosure Learning Objective: LO 15.5. Describe the objective of the disclosure requirements in AASB 15 ‘Revenue from Contracts with Customers’.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 16: The statement of cash flows 1) Although various types of financial statements related to cash flows began appearing in the early 20 th century, what year introduced the first accounting standard related to this issue?

A) 1971 B) 1972 C) 1960 D) 1963 Answer: D AACSB: Written and Oral Communication Topic: 16.2. Development of the statement of cash flows Learning Objective: LO 16.1. Discuss the purpose of a statement of cash flows.

Difficulty: Easy 2) What is a rationale for preparing a statement of cash flows, according to AASB 107?

A) Assessing the ability of an entity to generate cash and cash equivalents B) Needs of the entity to utilise cash flows C) Both A and B are rationales for preparing a statement of cash flows D) Neither A nor B is considered a rationale related to the statement of cash flows Answer: C AACSB: Written and Oral Communication Topic: 16.2. Development of the statement of cash flows Learning Objective: LO 16.1. Discuss the purpose of a statement of cash flows.

Difficulty: Medium 3) All of these are possible definitions of 'funds' except: A) working capital B) investment C) total resources D) cash Answer: B AACSB: Analytical Thinking Topic: 16.3. Meaning of funds Learning Objective: LO 16.2. Define and distinguish between three concepts of funds: cash, working capital, and total resources.

Difficulty: Medium 4) Distinguish between the three concepts of funds which can be used to construct a cash flow statement: cash, working capital and total resources. Which concept do you think provides the most useful information for decision making?

Answer: Historical and projected statements of cash flows are prepared as a matter of course for management to use in monitoring the cash position so that surplus cash can be invested and cash

shortages can be avoided or financed. It can be argued that, because cash flow is the life blood of any business, financial statement users would be as interested in cash flows as management. Working capital was a widely used interpretation of funds, particularly in the US. Working capital is usually measured as current assets less current liabilities. An increase in working capital (source of funds) occurs when there is an increase in total current assets without a corresponding increase in total current liabilities (e.g. an issue of shares for cash) or a decrease in total current liabilities without a corresponding decrease in current assets (e.g. refinancing a short-term loan with a long term loan). A decrease in working capital (application of funds) occurs in the opposite circumstances.

In total, the difference between sources and uses of working capital will be equal to the change in working capital between successive statements of financial position. The total resources concept of funds is based on an interpretation of the statement of financial position as a statement that shows the sources of an entity’s resources and how those resources have been used. The obligations side of the statement of financial position is a summary of the financial resources that have been entrusted to the entity by lenders and shareholders. The assets side of the statement of financial position shows how these financial resources have been used. Some financial resources have been used to acquire assets, some have been used to provide credit and some remain as cash. This interpretation of the statement of financial position is consistent with a stewardship notion of accounting. The statement shows how management has used the financial resources entrusted to it by outsiders. Any transaction that increases liabilities or equity is a source of funds. Conversely, any transaction that reduces liabilities or equity is a use of funds. Any transaction that increases assets is a use of funds, and any transaction that reduces assets is a source of funds that are now ‘free’ for some new use. Since all transactions affect the statement of financial position, a total resources funds statement summarises all transactions.

AACSB: Written and Oral Communication Topic: 16.3. Meaning of funds Learning Objective: LO 16.2. Define and distinguish between three concepts of funds: cash, working capital, and total resources.

Difficulty: Hard

5) The cash flow statement provides information that enables users to evaluate changes in an entity's: A) liquidity B) solvency C) ability to generate cash from core operating activities D) all of the above Answer: D AACSB: Analytical Thinking Topic: 16.4. The advantages of reporting cash flow information Learning Objective: LO 16.3. Assess the advantages of cash flow information.

Difficulty: Medium

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6) Which transaction would be included in a cash flow statement?

A) Receipts from customers B) Credit sales C) Acquisition of assets in exchange for shares D) All of the above Answer: A AACSB: Analytical Thinking Topic: 16.4. The advantages of reporting cash flow information Learning Objective: LO 16.3. Assess the advantages of cash flow information.

Difficulty: Medium

7) Which statement concerning a funds statement based on the working capital definition of funds is not correct?

A) It includes transactions that have no effect on the components of working capital, e.g., the purchase of inventory B) It omits many transactions that could be important to users for decision making C) The difference between sources and uses of working capital will be equal to the change in working capital between two successive balance sheets D) None of the above, i.e., all of the statements are correct Answer: A AACSB: Analytical Thinking Topic: 16.4. The advantages of reporting cash flow information Learning Objective: LO 16.3. Assess the advantages of cash flow information.

Difficulty: Hard 8) The statement concerning a funds statement based on the total resources concept of funds that is incorrect is: A) It excludes internal transactions such as depreciation B) The total resources concept of funds is the broadest concept C) Any transaction which increases liabilities or equity is a source of funds D) Any transaction which reduces assets is a use of funds Answer: D AACSB: Analytical Thinking Topic: 16.4. The advantages of reporting cash flow information Learning Objective: LO 16.3. Assess the advantages of cash flow information.

Difficulty: Medium

9) Which components of an entity structure are highlighted in AASB 107?

A) Liquidity B) Solvency

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C) Earnings management D) A and B are both highlighted by the standard Answer: D AACSB: Written and Oral Communication Topic: 16.4. The advantages of reporting cash flow information Learning Objective: LO 16.3. Assess the advantages of cash flow information.

Difficulty: Medium 10) Studies such as Bowen, Burgstahler and Daley (1986) and Cheng and Hollie (2008) in the USA and Percy and Stokes (1992), Cotter (1996) and Clinch Sidhu and Sin (2002) in Australia have found: A) cash flow data appeared to be similar to profit data B) cash flow data was significantly different from profit data C) there was no relation between profit and cash flow data D) none of the above Answer: B AACSB: Written and Oral Communication Topic: 16.4. The advantages of reporting cash flow information Learning Objective: LO 16.3. Assess the advantages of cash flow information.

Difficulty: Medium 11) Discuss how an entity that reports an after tax profit may be unable to generate positive cash flows from operating activities.

Answer: By disaggregating cash flows into operating cash flows and other categories, such as those from investing and financing activities, AASB 107 endeavours to improve the decisions of the users of financial statements. The Accounting in Focus box opposite illustrates the usefulness of the statement of cash flows. It contains extracts from the statement of comprehensive income and statement of cash flows for Future Fibre Technologies, an Australian provider of detection solutions for intrusions into fibre-optic cable systems, which first listed on the ASX in 2015. The company reports, for the year ended 30 June 2015, a profit after tax of $2 157 000 in its statement of comprehensive income, but net cash outflows of $(2 851 000) from operations in its statement of cash flows for the year ended 30 June 2015. This is consistent with the outcome for many newly listed companies. Even though an operating profit has been recorded, the statement of cash flows reveals that Future Fibre Technologies is not yet generating a positive cash inflow from operations, with payments to suppliers and employees exceeding receipts from customers. Such cash flow information is useful to investors interested in the extent to which a company’s operating activities generate sufficient funds to repay loans, pay dividends and make capital investments without having to seek external sources of finance.

AACSB: Analytical Thinking Topic: 16.4. The advantages of reporting cash flow information Learning Objective: LO 16.3. Assess the advantages of cash flow information.

Difficulty: Medium

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11) Under AASB 107, it is not true that: A) operating activities generally relate to transactions that are included in the income statement B) cash flows are classified into operating, investing and financing groupings C) each item in the externally presented income report that results in a cash flow is required to be disclosed separately in the cash flow statement D) none of the above is untrue Answer: C AACSB: Written and Oral Communication Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Medium 12) Activities described as relating to the acquisition and/or disposal of non-current assets under AASB 107 are classified as: A) investing activities B) financing activities C) operating activities D) none of the above Answer: A AACSB: Written and Oral Communication Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Easy 13) Under AASB 107, dividends paid by a company to its shareholders are classified as: A) investing outflows B) financing outflows C) operating inflows D) none of the above Answer: B AACSB: Written and Oral Communication Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Medium 14) In the cash flow statement, net cash flows from operating activities plus net cash flows from investing activities

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plus net cash flows from financing activities for the period equal: A) the cash balances at the beginning of the period B) net profit C) the cash balances at the end of the period D) the total net increase or decrease in cash held for the period Answer: D AACSB: Written and Oral Communication Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Medium

15) All of these are classified as operating items under AASB 107 'Cash Flow Statements', except: A) cash received from sales B) cash received from the sale of surplus machinery C) cash dividends received D) cash payment of expenses Answer: B AACSB: Analytical Thinking Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Easy 16) The approach to presenting cash flows from operating activities where reported net profit is adjusted for non-cash income statement items and changes in non-cash working capital accounts is known as: A) the direct approach B) the adjustment approach C) the indirect approach D) none of the above Answer: C AACSB: Written and Oral Communication Topic: 16.5. Accounting standards Learning Objective: LO 16.5. Compare and contrast the direct and indirect methods of calculating cash flows from operating activities.

Difficulty: Easy

18) Determine an entity’s beginning cash balance if the net cash provided by operating activities is $26 600; net cash

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used by investing activities is $12 800; net cash provided by financing activities is $12 500 when the ending cash balance is $41 900.

A) $41 900 B) $26 300 C) $6 700 D) $15 300 Answer: A AACSB: Analytical Thinking Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Hard 19) Which transaction can be viewed as either an operating transaction or a financing transaction?

A) Receipt of cash from customers B) Payment of dividends C) Sale of equipment D) Payment of interest to a lender Answer: D AACSB: Analytical Thinking Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Medium 20) Which of the following is considered an investing activity?

A) Payment of dividends to shareholders B) Payment to a supplier for inventory C) Interest payments to a lender D) Cash payments from swap contracts Answer: D AACSB: Analytical Thinking Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Medium 21) Income tax paid, proceeds from long-term borrowing and loans made to directors would be presented in a statement of cash flows, as:

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A) financing outflow: financing inflow; financing outflow B) operating outflow: investing inflow; investing outflow C) operating outflow: financing inflow; investing outflow D) none of the above Answer: C AACSB: Analytical Thinking Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Medium 22) All of these are classified as financing items under AASB 107 'Cash Flow Statements'-2 except: A) in the cash flow statement of the lender cash repayments by borrowers B) cash paid to buyback the company's shares C) proceeds from the issue of debentures D) none of the above, i.e., all are classified as financing items Answer: A AACSB: Analytical Thinking Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Medium 23) Which of the following is an example of a net cash flow that may be reported on the statement of cash flows?

A) Depreciation B) Cash advances C) Long-term notes payable D) Payment of dividends Answer: B AACSB: Written and Oral Communication Topic: 16.5. Accounting standards Learning Objective: LO 16.4. Discuss the requirements of AASB 107 ‘Statement of Cash Flows’ and use them to prepare a statement of cash flows.

Difficulty: Medium 24) A criticism of the indirect approach to presenting cash flows from operating activities is: A) adding back expenses such as depreciation may suggest that these items are sources of cash B) it is unnecessarily complicated C) it requires cash inflows to be netted against cash outflows D) A and B

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Answer: A AACSB: Analytical Thinking Topic: 16.5. Accounting standards Learning Objective: LO 16.5. Compare and contrast the direct and indirect methods of calculating cash flows from operating activities.

Difficulty: Medium 25) Discuss the arguments for and against the presentation of the cash flow statement using the indirect approach rather than the direct approach.

Answer: The second method for presenting cash flows from operating activities is the indirect method.

Under this approach, reported profit is adjusted for the effects of transactions of a non-cash nature, any deferrals or accruals of past or future operating cash receipts or payments, and items of income or expense associated with investing or financing activities (para. 18(b)). This method provides a reconciliation of the cash flows from operating activities with the profit from ordinary activities after tax shown in the statement of comprehensive income. The indirect form of presentation has been criticised on two grounds. First, there is a complaint that showing the ‘adding back’ of expenses such as depreciation suggests that such expenses are sources of cash. The second complaint is that, relative to the direct method, the indirect method is not as useful for forecasting future cash flows and earnings. Under the direct method, the cash fl ow component ‘cash receipts from customers’ is commonly identified as the most important cash fl ow number for investors and a primary indicator of a company’s cash-generating ability.30 These assertions are supported by empirical evidence which suggests that data from statements prepared using the direct method are incrementally more informative than indirect method disclosures for predicting future cash flows from operations and earnings.31 AACSB: Analytical Thinking Topic: 16.5. Accounting standards Learning Objective: LO 16.5. Compare and contrast the direct and indirect methods of calculating cash flows from operating activities.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 17: Financial reporting: Segment reporting and highlights statements 1) Reporting by segments of a business is believed to have a number of advantages. Which of the following is not likely to be such an advantage?

A) Allowing better assessment of expected returns from and risks of investing B) Preventing management from hiding failures in decision making C) Increasing the net profit of a business D) Improving investors' decision making Answer: C AACSB: Analytical Thinking Topic: 17.2. Financial reporting by segments Learning Objective: LO 17.1. Explain the arguments for and against providing segment information.

Difficulty: Medium 2) Reporting by segments of a business is believed to have a number of disadvantages. Which of the following is not likely to be such a disadvantage?

A) Segment information may not be sufficiently reliable B) The costs to a business of providing segment information may exceed the benefits to investors C) Providing segment information may assist a business's competitors D) Investors invest in a whole company and not in its individual segments Answer: D AACSB: Analytical Thinking Topic: 17.2. Financial reporting by segments Learning Objective: LO 17.1. Explain the arguments for and against providing segment information.

Difficulty: Medium 3) What benefits is an investor likely to gain if a business presents financial information for its various separate major organisational divisions and/or geographical areas of operations? Are there any likely costs (direct or indirect) to the investor from the presentation of this information?

Answer: The data provided by segment reporting will be useful for decision making by financial statement users.

The Financial Accounting Standards Board (FASB) has put this argument as follows: Many financial statement users have said that consolidated financial information, while important, would be more useful if supplemented with disaggregated information to assist them in analysing the uncertainties surrounding the timing and amount of expected cash flows – and, therefore, the risks – related to an investment in or a loan to an enterprise that operates in different industries or areas of the world. Since the progress and prospects of a diversified enterprise are composites of the progress and prospects of its several parts, financial statement users regard financial information on a less-than-total-enterprise basis as also important. The case against segment reporting hinges on considerations of cost and reliability. A crucial consideration in assessing the desirability of disclosing segment data is a comparison of the benefits and the costs of such disclosure. If the benefits exceed the costs, then the disclosure is desirable. This comparison of benefits and costs is difficult because the benefits are enjoyed by financial statement users, while the costs are incurred by financial statement preparers. It is not

surprising that financial statement users express a need for segment data when it costs them nothing directly.

AACSB: Analytical Thinking Topic: 17.2. Financial reporting by segments Learning Objective: LO 17.1. Explain the arguments for and against providing segment information.

Difficulty: Medium 4) According to paragraph 19 of AASB 8, after which number of reportable segments should an entity consider whether a practical limit has been reached?

A) 10 B) 15 C) 8 D) None of the above Answer: A AACSB: Written and Oral Communication Topic: 17.2. Financial reporting by segments Learning Objective: LO 17.2. Understand and apply the requirements of AASB 8 ‘Operating Segments’.

Difficulty: Easy

5) Which of the following statements relating to AASB 8 is not true?

A) It adopts a management approach B) It applies to all for profit entities C) Reconciliations are required for revenues, profit and loss and other material items D) None; all of the statements are true Answer: B AACSB: Written and Oral Communication Topic: 17.2. Financial reporting by segments Learning Objective: LO 17.2. Understand and apply the requirements of AASB 8 ‘Operating Segments’.

Difficulty: Easy

6) AASB 8 'Operating Segments' requires entities to report: A) segments that correspond to internal management reports B) segment information that is more consistent with other parts of their annual reports C) more segment information in their interim financial statements D) all of the above Answer: D AACSB: Written and Oral Communication Topic: 17.2. Financial reporting by segments Learning Objective: LO 17.2. Understand and apply the requirements of AASB 8 ‘Operating Segments’.

Difficulty: Easy

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7) Which of the following items need not be shown when reporting primary segment information for a business?

A) Segment results B) Segment revenues C) Segment receivables D) Segment liabilities Answer: C AACSB: Written and Oral Communication Topic: 17.2. Financial reporting by segments Learning Objective: LO 17.2. Understand and apply the requirements of AASB 8 ‘Operating Segments’.

Difficulty: Medium

8) Which of the following is not a quantitative threshold for reporting segment information?

A) Revenue B) Investments C) Profit D) Assets Answer: B AACSB: Written and Oral Communication Topic: 17.2. Financial reporting by segments Learning Objective: LO 17.2. Understand and apply the requirements of AASB 8 ‘Operating Segments’.

Difficulty: Medium

9) Discuss the benefits of the 'management approach' adopted by AASB 8.

Answer: The International Accounting Standards Board (IASB) noted that the primary benefits of the management approach are that: (a) entities will report segments that correspond to internal management reports; (b) entities will report segment information that will be more consistent with other parts of their annual reports; (c) some entities will report a greater number of segments; and (d) entities will report more segment information in interim financial statements AACSB: Written and Oral Communication Topic: 17.2. Financial reporting by segments Learning Objective: LO 17.2. Understand and apply the requirements of AASB 8 ‘Operating Segments’.

Difficulty: Medium

10) Which of the following is an argument against the publication of a highlights statement?

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A) Simplifies presentation of data B) Additional audit work C) A risk of unconscious bias exists D) Includes too many financial ratios Answer: C AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.3. Explain the arguments for and against the preparation of a highlights statement.

Difficulty: Hard

11) Which of the following is not a likely benefit of including a highlights statement in the annual report of a business?

A) It provides unskilled readers of the report with a simple summary of key financial indicators B) The statement is regarded by many readers as being highly informative C) Performance indicators can be calculated and then clearly set out in the highlights statement D) Management can select what items are to be included in the report Answer: D AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.3. Explain the arguments for and against the preparation of a highlights statement.

Difficulty: Medium 12) Many companies, especially larger companies, now include a highlights statement in their annual reports. What are the main items likely to be included in such a statement? What are the perceived benefits of giving this information? Also explain any possible disadvantages of publishing a highlights statement.

Answer: First, there are data extracted from the financial statements. Data in this category may include turnover (sales revenue), total assets, profit and equity. Second, there are data that result from computations performed on financial statement data. This category of data, frequently termed ‘performance indicators’, involves an analysis of the data in the financial statements and may include ratios such as earnings per share, rates of return on total assets or equity, dividend per share and the dividend payout ratio. The case for the inclusion of a highlights statement in the annual report is that it presents, in a simple way, data from the financial statements that management believes are the most important indicators of performance and financial position. Recipients of annual reports who have neither the time nor the skill to analyse the financial statements are provided with access to companies’ financial highlights. The highlights statement is seen as a convenient, non-technical summary of a company’s financial highlights provided as a service to report users. There are, however, some arguments against the publication of highlights statements. A highlights statement contains management’s selection of the most important indicators of performance and financial position. There is, therefore, a risk of conscious or unconscious bias.

Management may be tempted to include ‘good’ news and to exclude ‘bad’ news. In a 1970 survey, Pang found no evidence of this in Australia. However, in a US study of Fortune 500 industrial companies, Williamson found selective reporting of some favourable financial ratios.

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The current return on equity and return on sales ratios were more likely to receive voluntary publicity by management if they were larger than industry medians. There is frequently no indication of how performance indicators are calculated. To assess these data and make meaningful inter-company comparisons, statement users should have information about how they were calculated. Performance indicators use data that are already available to report users. The calculation of such measures of performance as earnings per share and rate of return on total assets would normally be regarded as analysis of the results. There is disagreement about whether the scope of published financial statements should include financial statement analysis. The inclusion of such analysis is a major break with the traditional view that financial statements present a ‘true and fair view’ to users of those statements who then draw their own conclusions. It could be argued, of course, that the highlights statement is not a component of the financial statements but a part of the directors’ report, which frequently includes assessments, explanations and forecasts and is not subject to audit.

AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.3. Explain the arguments for and against the preparation of a highlights statement.

Difficulty: Medium

13) Under the provisions of Australian Accounting Standard AASB 133, a basic earnings per share is calculated as: A) profit or loss including extraordinary items and after income tax expense ÷ weighted average number of ordinary shares outstanding during the reporting period B) profit or loss excluding extraordinary items and before income tax expense ÷ weighted average number of ordinary shares outstanding during the reporting period C) profit or loss including extraordinary items but before income tax expense ÷ weighted average number of ordinary shares outstanding during the reporting period D) profit or loss before income tax expense ÷ weighted average number of ordinary shares outstanding during the reporting period Answer: A AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.4. Apply the requirements of AASB 133 ‘Earnings per Share’.

Difficulty: Medium

14) When evaluating whether to calculate diluted earnings per share (EPS), a company issuing convertible notes should consider: A) the time weighting factor B) if the notes potentially convert to ordinary shares C) if conversion of the notes is likely to increase earnings, or decrease losses, per share D) both B and C must be considered Answer: D

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AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.4. Apply the requirements of AASB 133 ‘Earnings per Share’.

Difficulty: Hard

15) A company reports the following in relation to its latest financial year: Net profit $12 000 Number of ordinary shares issued 5000 Number of preference shares issued (paying an annual dividend of 50 cents per share) 500 The company's basic earnings per share figure is: A) $2.00 B) $2.20 C) $2.10 D) $2.35 Answer: A AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.4. Apply the requirements of AASB 133 ‘Earnings per Share’.

Difficulty: Medium

16) A company reports the following in relation to the year ended 30/6/2012: Number of ordinary shares issued at 1/7/2011 10 000 Number of preference shares issued (paying an annual dividend of $2.00 per share) 800 On 31/3/2012 a further 1000 ordinary shares were issued.

Net profit from ordinary activities, after income tax $20 000 The company's basic earnings per share figure (to the nearest tenth of a cent) is: A) $1.95 B) $1.67 C) $2.00 D) $1.79 Answer: D AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.4. Apply the requirements of AASB 133 ‘Earnings per Share’.

Difficulty: Hard

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17) The 'current ratio' is usually calculated as: A) current assets minus goodwill ÷ current liabilities B) current assets ÷ current liabilities C) current assets excluding inventory ÷ current liabilities D) current liabilities ÷ current assets Answer: B AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.5. Calculate other performance indicators.

Difficulty: Easy

18) A company reports the following information on its year-end financial statements: Current assets Non-current assets Current liabilities Non-current liabilities Shareholders' equity

$300 700 150 250 600

What is the debt-to-equity ratio?

A) 50.0% B) 66.7% C) 40.0% D) 33.3% Answer: B AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.5. Calculate other performance indicators.

Difficulty: Medium

19) A company reports the following in relation to its latest financial year: Current assets Non-current assets Current liabilities Non-current liabilities

$175 300 50 250

Writing a cheque for $25 to pay off some long-term debentures payable means that the current ratio will be:

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A) 7.0 times B) 3.0 times C) unchanged D) 5.5 times Answer: B AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.5. Calculate other performance indicators.

Difficulty: Medium

20) A business reports the following in its financial statements: Profit before tax and interest Interest expense Income tax expense

$100 20 30

Its 'times interest earned' ratio is: A) 5.0 times B) 6.5 times C) 3.5 times D) 4.0 times Answer: A AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.5. Calculate other performance indicators.

Difficulty: Medium 21) A business reports the following in its financial statements: Revenues $1 800 Preference Dividend 400 Expenses 600 Assets 1 900 Liabilities 1 100 What is the times dividends earned ratio?

A) 4.50 times B) 2.25 times C) 1.80 times D) 3.00 times Answer: D AACSB: Analytical Thinking

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Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.5. Calculate other performance indicators.

Difficulty: Medium 22) A business reports the following in its financial statements: Net profit before tax Interest expense Income tax expense Total assets at the beginning of the year Total assets at the end of the year

$150 20 30 700 850

Its rate of return on total assets is: A) 19.4% B) 21.9% C) 16.8% D) 4.83% Answer: B AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.5. Calculate other performance indicators.

Difficulty: Medium

23) A business reports the following in its financial statements: Net profit before tax Interest expense Income tax expense Preference dividends paid Ordinary dividends paid Total assets at the beginning of the year Total assets at the end of the year Total liabilities at the beginning of the year Total liabilities at the end of the year

$100 20 30 10 15 750 850 375 425

Its rate of return on shareholders' equity is: A) 11.25% B) 15.0% C) 7.5% D) 22.5% Answer: B AACSB: Analytical Thinking

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Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.5. Calculate other performance indicators.

Difficulty: Hard

24) Which of the following is an efficiency ratio?

A) Current ratio B) Rate of return on total assets C) Debt-to-equity ratio D) Times interest earned Answer: B AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.5. Calculate other performance indicators.

Difficulty: Easy 24) Explain and illustrate, with simple examples, both the usefulness and any possible dangers in using the: rate-of-return on total assets ratio rate-of-return on equity ratio times dividends earned ratio Why are these described as 'efficiency ratios'?

Answer: Efficiency ratios are primarily concerned with how well an entity uses the resources entrusted to it by lenders and shareholders. The basic performance measure in this area is the rate of return on total assets. This ratio may be calculated on either a pre-tax or a post-tax basis. We prefer the pre-tax measure, as it highlights the efficiency with which assets are used and eliminates the effect of financing decisions. Another performance indicator that may be calculated is the rate of return on equity. This indicates the profitability of the shareholders’ investment and is a major guide to investors. The times dividends earned ratio is an indicator of the ‘safety’ of dividend payments. It can be calculated for both the preference dividend and the ordinary dividend AACSB: Analytical Thinking Topic: 17.3. Highlights statements and performance indicators Learning Objective: LO 17.5. Calculate other performance indicators.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 18: Further financial reporting issues 1) Why have accountants always put so much emphasis on the concept of materiality? How does this concept affect accountants, if at all, in their day-to-day work and in the preparation of periodical financial reports?

Answer: An assessment of the materiality of information was based on whether its omission or misstatement could influence the economic decisions of users taken on the basis of the financial statements (see the former Framework 2004, para. 30). In order to apply the materiality concept in a rational way, an accountant must understand: • the nature and level of accounting skill of the intended statement users; • the nature of the decisions that depend on the information contained in financial statements; and • the nature of the decision-making process of the intended users of financial statements. Only if an accountant has this background information can a rational decision be made about whether an item is material. It seems fair to say that accountants possess this background information only in a vague and general way.

AACSB: Written and oral communication Topic: 18.1 Introduction Learning Objective: LO 18.1 explain differential reporting and apply the requirements of AASB 1053 ‘Application of Tiers of Australian Accounting Standards’ in the preparation of financial statements Diff: (Easy)

2) All of the following are usually seen as valid reasons for having different reporting standards for different business entities, except: A) information needs of users may be different for different entities B) costs of designing and installing an accounting information system may be different for different entities C) investors in smaller entities generally do not read financial reports D) users of the reports of some entities can obtain special purpose reports for their own use as required Answer: C AACSB: Application of knowledge Topic: 18.2 Differential Reporting Learning Objective: LO 18.1 Explain differential reporting and apply the requirements of AASB 1053 ‘Application of Tiers of Australian Accounting Standards’ in the preparation of financial statements Diff: (Medium)

3) Which of the following is not a primary feature of a 'reporting entity'?

A) The extent of government regulation of the business B) Its political or economic influence or importance C) Financial characteristics such as size or level of indebtedness D) Separation of management from ownership Answer: A AACSB: Application of knowledge Topic: 18.2 Differential Reporting Learning Objective: LO 18.1 explain differential reporting and apply the requirements of AASB 1053 ‘Application of Tiers of Australian Accounting Standards’ in the preparation of financial statements Diff: (Medium)

4) All of the following entities are reporting entities, except:

A) government controlled business organisations B) small proprietary companies C) public companies D) listed property trusts Answer: B AACSB: Application of knowledge Topic: 18.2 Differential Reporting Learning Objective: LO 18.1 explain differential reporting and apply the requirements of AASB 1053 ‘Application of Tiers of Australian Accounting Standards’ in the preparation of financial statements Diff: (Medium)

5) Which of the following statements is not true of Special Purpose financial statements?

A) They are implicitly the reports prepared by non-reporting entities B) They must state that the financial statements are special purpose financial statements C) They must disclose the significant accounting policies adopted in the preparation and presentation of the Special Purpose Financial Statements D) None; all statements are true Answer: D AACSB: Application of knowledge Topic: 18.2 Differential Reporting Learning Objective: LO 18.1 explain differential reporting and apply the requirements of AASB 1053 ‘Application of Tiers of Australian Accounting Standards’ in the preparation of financial statements Diff: (Medium)

6) A small proprietary company: A) has operating revenue of $25 million or more B) has assets of less than $12.5 million C) has more than 50 employees D) A and C above Answer: B AACSB: Application of knowledge Topic: 18.2 Differential Reporting Learning Objective: LO 18.1 explain differential reporting and apply the requirements of AASB 1053 ‘Application of Tiers of Australian Accounting Standards’ in the preparation of financial statements Diff: (Medium)

7) In deciding whether an error or omission is material, it is usually necessary to consider: A) the size of the error or omission B) the nature of the account which is the subject of the error or omission C) both A and B D) none of the above

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Answer:

C

AACSB: Application of knowledge Topic: 18.3 Materiality Learning Objective: LO 18.2 explain the concept of materiality and apply the requirements of AASB 108 ‘Accounting Policies, Changes in Accounting Estimates and Errors’ in the preparation of financial statements Diff: (Medium)

8 To apply the materiality concept in a rational way, an accountant must understand which of the following: A) nature and level of accounting skill of the intended statement users B) nature of the decisions that depend on the information contained in bank statements C) nature of the decision-making process of the intended users of balance sheets D) nature of the decision-making process of the investors and external users Answer: A AACSB: Application of knowledge Topic: 18.3 Materiality Learning Objective: LO 18.2 explain the concept of materiality and apply the requirements of AASB 108 ‘Accounting Policies, Changes in Accounting Estimates and Errors’ in the preparation of financial statements Diff: (Easy)

9) Examples of events after the reporting period are which of the following: A) Bankruptcy of a major debtor B) Collection of a major payment from a vendor C) Payment of all liabilities D) Collection of all liabilities Answer: A AACSB: Application of knowledge Topic: 18.4 Events After the Reporting Period Learning Objective: LO 18.3 explain the nature of events occurring after the end of the reporting period and apply the requirements of AASB 110 ‘Events after the Reporting Period’ in the preparation of financial statements Diff: (Medium)

10 Some examples of adjusting events provided in paragraph 9 are which of the following: A) the settlement discussed at the beginning of the reporting period of a court case that confirms that the entity had a present obligation at the end of the reporting period B) the discovery of fraud or errors that show that the financial statements are incorrect C) the determination at the beginning of the reporting period of the cost of assets purchased, or the proceeds from assets sold, before the end of the reporting period D) the adjustments made in the prior periods Answer: B AACSB: Application of knowledge Topic: 18.5 Accounting policies, changes in accounting estimates and errors Learning Objective: LO 18.4 explain the reasons for the disclosure of accounting policies and apply the requirements of AASB 108 ‘Accounting Policies, Changes in Accounting Estimates and Errors’ to the selection, application and modification of accounting policies in the preparation of financial statements Diff: (Easy)

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11) Events after the reporting date are of two types: Type 1 Those that provide new evidence about conditions that existed at the reporting date Type 2 Those that relate to new conditions arising after the reporting date Which of the following statements is correct?

A) Only type 1 events affect the figures in the financial statements of the previous period B) Only type 2 events affect the figures in the financial statements of the previous period C) Both type 1 and type 2 events affect the figures in the financial statements of the previous period D) Neither type 1 nor type 2 events affect the figures in the financial statements of the previous period Answer: A AACSB: Application of knowledge Topic: 18.5 Accounting policies, changes in accounting estimates and errors Learning Objective: LO 18.4 explain the reasons for the disclosure of accounting policies and apply the requirements of AASB 108 ‘Accounting Policies, Changes in Accounting Estimates and Errors’ to the selection, application and modification of accounting policies in the preparation of financial statements Diff: (Easy)

12) Events after the reporting date are of two types: Type 1 Those that provide new evidence about conditions that existed at the reporting date Type 2 Those that relate to new conditions arising after the reporting date Which of the following statements is correct?

A) Only type 1 events will affect the contents of the full annual report of the previous period B) Only type 2 events will affect the contents of the full annual report of the previous period C) Both type 1 and type 2 events will affect the contents of the full annual report of the previous period D) Neither type 1 nor type 2 events will affect contents of the full annual report of the previous period Answer: C AACSB: Application of knowledge Topic: 18.5 Accounting policies, changes in accounting estimates and errors Learning Objective: LO 18.4 explain the reasons for the disclosure of accounting policies and apply the requirements of AASB 108 ‘Accounting Policies, Changes in Accounting Estimates and Errors’ to the selection, application and modification of accounting policies in the preparation of financial statements Diff: (Medium)

13) Which of the following events occurring after the reporting date may need to be disclosed in the financial statements of a business for that previous period?

A) The bankruptcy of a major debtor B) A loss caused by fire or flood C) The announcement of a business merger

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D) All of the above may need to be disclosed Answer: A AACSB: Application of knowledge Topic: 18.5 Accounting policies, changes in accounting estimates and errors Learning Objective: LO 18.4 explain the reasons for the disclosure of accounting policies and apply the requirements of AASB 108 ‘Accounting Policies, Changes in Accounting Estimates and Errors’ to the selection, application and modification of accounting policies in the preparation of financial statements Diff: (Medium)

14 Paragraph 22 lists some examples of non-adjusting events occurring after the end of the reporting period for which note disclosures would generally be made by an entity for which of the following: A) the announcement of a plan to continue an operation B) the destruction of a major production plant by a fi re after the end of the reporting period C) major ordinary share transactions and potential ordinary share transactions during the middle end of the reporting period D) cannot be made unless an accounting standard permits alternative policies Answer: B AACSB: Application of knowledge Topic: 18.5 Accounting policies, changes in accounting estimates and errors Learning Objective: LO 18.4 explain the reasons for the disclosure of accounting policies and apply the requirements of AASB 108 ‘Accounting Policies, Changes in Accounting Estimates and Errors’ to the selection, application and modification of accounting policies in the preparation of financial statements Diff: (Medium)

15) The effect of a change in an estimate is to be recognised in the statement of comprehensive income in which of the following: A) the period of the change, if the change affects that period only B) the period of the change, if the change affects other periods C) the period of the change and future periods, if the change affects either D) only the future periods, Answer: A AACSB: Application of knowledge Topic: 18.5 Accounting policies, changes in accounting estimates and errors Learning Objective: LO 18.5 explain the nature of prior-period adjustments and apply the requirements of AASB 108 ‘Accounting Policies, Changes in Accounting Estimates and Errors’ to the treatment of changes in accounting estimates and the correction of errors in the preparation of financial statements Diff: (Medium)

16) Transactions between related parties should be of special interest to users of financial information for which of the following reasons?

A) Income tax liabilities may be illegitimately or artificially lowered B) Senior executives' personal friends may be favoured unduly C) Profit amounts or asset values may be inflated D) All of the above

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Answer:

D

AACSB: Application of knowledge Topic: 18.6 Related-party transactions Learning Objective: LO 18.6 explain the nature of related-party transactions and apply the requirements of AASB 124 ‘Related Party Disclosures’ in the preparation of financial statements Diff: (Medium)

17) Detailed disclosure of information about a company's transactions with 'related parties' is required: A) for all material transactions with related parties B) for all material transactions with related parties other than those occurring within a normal employee, customer or supplier relationship C) only for transactions involving directors of the company and/or their immediate family D) for all material transactions with related parties other than those who are regular customers of the company Answer: B AACSB: Application of knowledge Topic: 18.6 Related-party transactions Learning Objective: LO 18.6 explain the nature of related-party transactions and apply the requirements of AASB 124 ‘Related Party Disclosures’ in the preparation of financial statements Diff: (Hard)

18) Which of the following is not a 'related party' as defined by AASB 124?

A) A company in which 72% of the shares are owned by the chief executive officer's husband B) A company in which 72% of the shares are owned by a non-executive director's husband C) A company in which 72% of the shares are owned by a non-executive director's husband's self-managed superannuation plan D) All of the above are related parties Answer: C AACSB: Application of knowledge Topic: 18.6 Related-party transactions Learning Objective: LO 18.6 explain the nature of related-party transactions and apply the requirements of AASB 124 ‘Related Party Disclosures’ in the preparation of financial statements Diff: (Hard)

19) The Australian Securities Exchange requires listed companies to prepare and file financial reports: A) quarterly B) half-yearly C) annually only D) monthly Answer: B AACSB: Application of knowledge Topic: 18.6 Related-party transactions Learning Objective: LO 18.7 explain continuous and interim reporting and apply the requirements of AASB 134 ‘Interim Financial Reporting’ in the preparation of financial statements Diff: (Easy)

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20) 'Continuous reporting' requirements in Australia involve: A) promptly notifying the Australian Securities Exchange (ASX) and shareholders of any information likely to affect a listed company's share price B) promptly notifying the ASX and shareholders of any information likely to affect a listed company's profits C) promptly notifying the ASX of any information likely to affect a listed company's share price D) promptly notifying the ASX of any information likely to affect a listed company's profits Answer: C AACSB: Application of knowledge Topic: 18.6 Related-party transactions Learning Objective: LO 18.7 explain continuous and interim reporting and apply the requirements of AASB 134 ‘Interim Financial Reporting’ in the preparation of financial statements Diff: (Easy)

21) Australian Accounting Standard AASB 134 requires that interim (such as half-yearly) financial reports: A) need not show comparative figures for the previous period B) must take account of material events expected to arise in the remainder of the financial year C) need to include a condensed income statement and balance sheet only D) must clearly indicate that it is to be read in conjunction with the most recent annual financial report Answer: D AACSB: Application of knowledge Topic: 18.6 Related-party transactions Learning Objective: LO 18.7 explain continuous and interim reporting and apply the requirements of AASB 134 ‘Interim Financial Reporting’ in the preparation of financial statements Diff: (Medium)

22) Paragraph 15B provides a non-exhaustive list of events and transactions for which disclosures would be required for which of the following: A) detailed notes to the financial statements B) the reversal of any provisions for the costs of restructuring C) pending litigation D) corrections of year-end errors Answer: B AACSB: Application of knowledge Topic: 18.6 Related-party transactions Learning Objective: LO 18.7 explain continuous and interim reporting and apply the requirements of AASB 134 ‘Interim Financial Reporting’ in the preparation of financial statements Diff: (Easy)

23) Explain the significance of related-party transactions.

Answer: Transactions between related parties should be of interest to users because they may expose a reporting entity to risks, or provide opportunities that would not have existed without that relationship. For example, one subsidiary may sell goods to a related party at a price well above their fair value so that the former can record large

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profits at the expense of the latter. The ability of related parties to enter into transactions at amounts other than fair value has several implications. First, it may allow a related party to derive personal benefit. Senior executives may ‘negotiate’ very attractive salary packages for themselves. Executives may ensure that contracts are awarded to friends or relatives rather than to the best tenderer. The result is that the price paid by the reporting entity is above the market price and the executives or their friends or relatives benefit at the expense of the reporting entity’s owners. Second, related-party transactions may be used to ‘create’ profits and assets. For example, one entity may sell property to another at an inflated price, thereby earning a profit. The second entity could then sell the property back to the first entity at the same price. The second entity breaks even on the two transactions, but the fi rst entity has increased both its profit and the amount of its assets, which are now carried at a cost that is not the result of an arm’s-length transaction.

AACSB: Written and oral communication Topic: 18.6 Related-party transactions Learning Objective: LO 18.6 explain the nature of related-party transactions and apply the requirements of AASB 124 ‘Related Party Disclosures’ in the preparation of financial statements Diff: (Medium)

24) Where a business makes a change in an accounting policy, it must disclose: A) only the nature of the change and the reasons for it B) the nature of the change, the reasons for it and the financial effects of the change if it will affect the results of future periods C) the nature of the change, the reasons for it and the financial effects of the change if it has affected the current period's results or may affect the results of future periods D) the nature of the change, the reasons for it and the financial effects of the change if it has affected the current period's results Answer: C AACSB: Application of knowledge Topic: 18.7 Continuous and interim reporting Learning Objective: LO 18.7 explain continuous and interim reporting and apply the requirements of AASB 134 ‘Interim Financial Reporting’ in the preparation of financial statements Diff: (Medium)

25) The treatment of items that clearly belong to past reporting period is a long-standing problem. One way to handle this problem is to make adjustments to the retained earnings. The problem with this approach is that: A) it could lead to manipulation of profit for the period B) revenue and expenses are matched inappropriately C) revenue and expenses are matched appropriately D) none of the above Answer: A AACSB: Application of knowledge Topic: 18.7 Continuous and interim reporting Learning Objective: LO 18.7 explain continuous and interim reporting and apply the requirements of AASB 134 ‘Interim Financial Reporting’ in the preparation of financial statements Diff: (Medium)

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26) Which of the following is not classified as a prior period error according to AASB 108?

A) A mistake in estimating warranty costs B) Fraud C) Mistakes in applying accounting policies D) Oversights or misinterpretations of facts Answer: A AACSB: Application of knowledge Topic: 18.7 Continuous and interim reporting Learning Objective: LO 18.7 explain continuous and interim reporting and apply the requirements of AASB 134 ‘Interim Financial Reporting’ in the preparation of financial statements Diff: (Medium)

27) Discuss the importance of discrete reporting. What changes have been made AASB 134 and AASB 136 to improve ‘Impairment of Assets’?

Answer: AASB 134 requires each interim financial reporting period to be treated as a discrete reporting period.

This means that the interim report reflects the economic activity of that reporting period. As a result, there is no need to make assumptions or forecasts about what may happen in, say, the remaining six months of the annual reporting period as would be the case if the integral view of the interim reporting period was adopted.13 For example, assume the value of the Australian dollar falls during the first six months of the year and then rises during the second half of the year. The devaluation of the Australian dollar may result in an unrealised foreign exchange loss on overseas borrowings in the first half-year. Even though this may be expected to be reversed by a foreign exchange gain in the second half of the year, the unrealised loss must be disclosed in the interim financial report. If the Australian dollar rises in the second six months of the year, then the annual report could show only a small loss or even a gain for the year as a whole. This type of situation has also faced statement preparers complying with AASB 134 and AASB 136 ‘Impairment of Assets’. Interim reports that are general purpose financial statements prepared in accordance with AASB 134 apply the same principles as annual financial statements. Thus, an entity is required to assess goodwill for impairment at the end of each reporting period. Any impairment losses at that date must be recognised in accordance with the requirements of AASB 136.

AACSB: Written and oral communication Topic: 18.7 Continuous and interim reporting Learning Objective: LO 18.7 explain continuous and interim reporting and apply the requirements of AASB 134 ‘Interim Financial Reporting’ in the preparation of financial statements Diff: (Medium)

28) Discuss the concept of the reporting entity and the rationale for the revisions to the International Financial Reporting Standards for small and medium sized entities.

Answer: SAC1 defines a reporting entity as an entity for which ‘it is reasonable to expect the existence of users dependent on general purpose financial statements for information which will be useful to them for making and evaluating decisions about the allocation of scarce resources’ (para. 40). In other words, a reporting entity has financial statement users who cannot force the entity to prepare information to meet their specific needs, even though they have a right to be kept informed. SAC1 identifies three factors that may be employed to determine whether dependent users exist and therefore whether an entity is a reporting entity. These factors, discussed in paragraphs 19–22 of SAC1, are as follows: • the separation of management from economic interest – that is, the greater the spread of ownership, the more

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likely it is that there is a large number of users, such as shareholders, who rely on general purpose financial statements for decision-making purposes; • the ability of the entity to influence the welfare of others through economic or political importance or influence; and • the financial characteristics of the entity, such as size and indebtedness.

AACSB: Written and oral communication Topic: 18.8 Concise financial reports Learning Objective: LO 18.8 explain the purpose of concise financial reports and apply the requirements of AASB 1039 ‘Concise Financial Reports’ in the preparation of financial statements Diff: (Hard)

29) Concise financial reports: A) must be drawn up in accordance with AASB's B) must achieve consistency with the changes in terminology contained in AASB 101 C) must include a statement of comprehensive income, a statement of financial position, a statement of cash flows and a statement of changes in equity D) all of the above Answer: D AACSB: Application of knowledge Topic: 18.8 Concise financial reports Learning Objective: 18.8 explain the purpose of concise financial reports and apply the requirements of AASB 1039 ‘Concise Financial Reports’ in the preparation of financial statements Diff: (Medium)

30) In summary, AASB 1054 prescribes disclosures relating to the following items: A) financing fees B) bank reconciliation C) if for-profit or not-for-profit entity D) statutory basis or framework under which the bank statements have been prepared Answer: C AACSB: Application of knowledge Topic: 18.9 Australian additional disclosures Learning Objective: LO 18.9 apply the requirements of AASB 1054 ‘Australian Additional Disclosures’ in the preparation of financial statements Diff: (Easy)

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Henderson, Issues in Financial Accounting 16e Chapter 19: Accounting for extractive industry 1) According to the Statement of Accounting Concepts and the Framework, which of the following methods of accounting for exploration and evaluation costs in the extractive industries is most consistent?

A) The expense-and-reinstate method B) The successful-efforts method C) The expense (costs written-off) method D) The full-cost method Answer: A AACSB: Application of knowledge Topic: 19.1 Introduction Learning Objective: LO 19.1 describe the nature of extractive industries Diff: (Easy)

2) The expense (or costs written-off) method of accounting for exploration and evaluation costs in the extractive industries would seem to be the most conservative of the suggested methods of accounting for these costs.

Conservatism has a long history in accounting and is often used to justify or support many accounting practices.

Why then is the expense method not favoured by the Australian Accounting Standards Board? Consider both the benefits and the disadvantages arising from the use of this method.

Answer: The expense (or costs written-off) method is supported by several arguments. 1 There is usually a low probability that the costs incurred in exploring and evaluating a prospect will lead to the discovery of a commercial deposit. The traditional accounting response to an uncertain outcome is to expense all costs, which is consistent with the principles of conservatism and prudence – that is, when an outcome is very uncertain it is assumed that the outcome will be adverse. In the case of the extractive industries, it is assumed that exploration and evaluation costs are unlikely to generate any benefits and they should be recognised as expenses immediately.12 However, it is unreasonable to assume that all exploration and evaluation activities will be unsuccessful. While management realises that there is uncertainty about the discovery of a commercial deposit, it presumably initiates exploration programs in the expectation of at least some successes. 2 Research has indicated that companies that are already producing from existing reserves are more likely to expense pre-production costs than companies that are only in the exploration stage.13 There are several possible explanations for this: (a) A producer has sales revenue against which to charge pre-production costs. (b) Pre-production costs may be immaterial after an entity becomes a producer and capitalisation would not then be justified. (c) The accounting procedures may follow the tax treatment that permits the deduction of certain ‘capital’ expenditures in the year in which they are incurred. The provisions of the Income Tax Assessment Act 1997 do not necessarily follow good accounting practice as set out in Framework 2014 and the accounting standards. Some costs that would usually be regarded as capital expenditures for accounting purposes are allowable deductions for tax purposes because of a government decision to encourage development of the extractive industries. However, it does not follow that all costs that are allowable deductions for tax purposes should also be recognised as expenses in the preparation of a company’s statement of comprehensive income. 3 Exploration and evaluation costs should be recognised as expenses to be matched with the current period’s sales revenue, because they represent costs incurred in finding new reserves to replace the reduction in reserves in the current period. However, this argument is difficult to sustain because the costs of finding replacement reserves should be matched with the (future) sales revenue from those new reserves. These reasons for the immediate recognition of all exploration and evaluation costs as expenses are not convincing. It is true that recognising these costs as expenses is simple and produces results that are conservative. However, this treatment is inconsistent with Framework 2014. Exploration and evaluation costs should be recognised as an asset if it is

probable that they will result in future economic benefits and the costs can be measured reliably.

AACSB: Written and oral communication Topic: 19.1 Introduction Learning Objective: LO 19.1 describe the nature of extractive industries Diff: (Medium)

3) Which of the following statements is correct? The expense (costs written-off) method of accounting for exploration and evaluation costs in the extractive industries: A) is inconsistent with the framework of accounting B) is likely to be accepted for income tax purposes C) is simple and conservative D) all of the above are correct Answer: D AACSB: Application of knowledge Topic: 19.2 Nature of the accounting problem in the extractive industries Learning Objective: LO 19.2 explain the nature of the accounting issue in the extractive industries Diff: (Easy)

4) Reasons for the AASB 6 to allow exploration and evaluation costs to be capitalised under certain circumstances includes which of the following?

A) when the costs are expected to be recouped B) when the rights to tenure of the area of interest are current C) when a reasonable assessment of the viability of the area of interest can be made D) all of the above Answer: D AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.3 Apply AASB 6 ‘Exploration for and Evaluation of Mineral Resources’ to accounting for exploration and evaluation costs Diff: (Easy)

5) The units-of-production method is commonly used to calculate the amount of depreciation and amortisation expense to be written-off each year from the accumulated costs of exploration and development of a mining venture. Which of the following formulae best expresses the calculation of the amortisation rate under this method?

A)

B)

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C)

D)

Answer:

A

AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.7 explain how to account for the costs carried forward once production commences Diff: (Easy)

6) Epson Mining Ltd has economically recoverable reserves of 3 million tonnes of ore. In discovering and developing its mine it has spent $400 000 to acquire the mining site, $600 000 in geological survey costs and $300 000 in excavating an open pit mine. It has also acquired a fleet of trucks to transport the ore, at a total cost of $160 000; the trucks have an estimated life of 5 years and zero residual value. Epson has extracted 300 000 tonnes of ore in its first year of production and expects to mine the same amount each year for the life of the mine. The mine will have no value when the ore has been extracted. In its first year of production, Epson's total expense for amortisation and depreciation should be shown as: A) $292 000 B) $130 000 C) $146 000 D) $162 000 Answer: D AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.7 explain how to account for the costs carried forward once production commences Diff: (Medium)

7)Under the Australian Accounting Standard AASB 6 'Exploration for and Evaluation of Mineral Resources', the area-of-interest method in accounting for pre-production costs of a mining operation is a special form of the: A) expense-and-reinstatement method B) successful-efforts method C) expense (costs written-off) method D) full-cost method Answer: B AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.3 Apply AASB 6 ‘Exploration for and Evaluation of Mineral Resources’ to accounting for exploration and evaluation costs Diff: (Easy)

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8) Australian Accounting Standard AASB 6 Exploration for and Evaluation of Mineral Resources identifies all of the following EXCEPT which phases in the exploitation of mineral, oil or gas deposits?

A) Production B) Restoration C) Construction D) Evaluation Answer: B AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.3 Apply AASB 6 ‘Exploration for and Evaluation of Mineral Resources’ to accounting for exploration and evaluation costs Diff: (Medium)

9) Australian Accounting Standard AASB 6 Exploration for and Evaluation of Mineral Resources refers to which of the following categories of reserves of minerals, oil or gas?

A) Possible reserves B) Economically recoverable reserves C) Probable reserves D) Proved reserves Answer: B AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.3 Apply AASB 6 ‘Exploration for and Evaluation of Mineral Resources’ to accounting for exploration and evaluation costs Diff: (Easy)

10) Australian Accounting Standard AASB 6 Exploration for and Evaluation of Mineral Resources defines 'economically recoverable reserves' of minerals, oil or gas as those which can be expected to be profitably: A) extracted and sold under current and foreseeable economic conditions B) extracted, processed and sold under current and foreseeable economic conditions C) extracted, processed and sold under foreseeable economic conditions D) processed and sold under current economic conditions Answer: B AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.3 Apply AASB 6 ‘Exploration for and Evaluation of Mineral Resources’ to accounting for exploration and evaluation costs Diff: (Easy)

11) Australian Accounting Standard AASB 6 Exploration for and Evaluation of Mineral Resources states that exploration and evaluation costs of a mining operation: A) can be recognised as expenses or carried forward as an asset depending on the circumstances of the particular

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operation B) must be accounted for in accordance with Australian Accounting Standard AASB 116 'Property, Plant and Equipment' C) must be recognised as expenses as they are incurred D) must be carried forward as an asset until production commences Answer: A AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.3 Apply AASB 6 ‘Exploration for and Evaluation of Mineral Resources’ to accounting for exploration and evaluation costs Diff: (Easy)

12) Zenith Mining Ltd paid $3 million for a mineral deposit and spent a further $225 000 in developing the property prior to commencing production on 1 July 20X0. It is estimated that the deposit will produce 25 million tonnes of ore and that the land will have an eventual residual value of $25 000. In addition to the development costs, Zenith spent another $500 000 on infrastructure construction at the mine site. Its mining operations during the year ended 30 June 20X1 resulted in: Tonnes of ore mined Tonnes of ore sold

1 000 000 900 000

The amount to be charged as amortisation of pre-production costs for the year is: A) $149 000 B) $148 000 C) $128 000 D) $133 200 Answer: B AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.7 explain how to account for the costs carried forward once production commences Diff: (Hard)

13) Ferrous Minerals Ltd paid $2 million for a mine site and has spent a further $500 000 developing the property prior to commencing production. Ferrous estimates that the mine will produce 10 million tonnes of ore and that the land will have a final residual value of $75 000 for sale and use as a waste disposal site. It is also believed that to extract the last 2 million tonnes of ore will require further drilling and excavation work at a cost of an extra $200 000. What is the amortisation rate that should be used to write-off pre-production costs in the first year of production (when it is estimated that 1 million tonnes of ore will be mined): A) 27.0 cents per tonne B) 26.25 cents per tonne C) 24.25 cents per tonne D) 21.875 cents per tonne Answer: B AACSB: Application of knowledge

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Topic: 19.3 Accounting standards Learning Objective: LO 19.7 explain how to account for the costs carried forward once production commences Diff: (Hard)

14) Extractive industries should value inventory held by businesses at: A) lower of cost and net realisable value, including amortisation of pre-production cost B) net realisable value less an allowance for future rehabilitation costs C) net realisable value D) lower of cost and net realisable value, excluding amortisation of pre-production costs Answer: A AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.7 explain how to account for the costs carried forward once production commences Diff: (Easy)

15) Examples of expenditures that might be included in the initial measurement of exploration and evaluation assets provided in paragraph 9 are which of the following: A) topographical, geological, geochemical and geophysical studies B) mining C) cultiviating D) refining Answer: A AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.4 apply AASB 6 ‘Exploration for and Evaluation of Mineral Resources’ to measuring exploration and evaluation costs

Diff: (Easy) 16 When the stripping costs give rise to improved access to the ore body, they should be recognised as a non-current asset if the following conditions of paragraph 9 are met: A) there are probable future economic benefits associated with the stripping activity B) the reporting entity cannot identify which part of the ore body now has improved access as a result of the stripping activity C) the costs associated with the stripping activity cannot be measured reliably D) there is no future economic benefits associated with the stripping activity Answer: A AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.5 apply the relevant accounting standards to accounting for development and construction costs Diff: (Medium)

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17 AASB 137 requires that a provision for removal and restoration is to be recognised only when: A) a reliable estimate cannot be made of the amount of the obligation B) an entity has a present obligation (legal or constructive) as a result of a current event C) a reliable estimate can be made based on previous removal costs D) it is probable that an outflow ow of resources embodying economic benefits will be required to settle the obligation Answer: D AACSB: Application of knowledge Topic: 19.3 Accounting standards Learning Objective: LO 19.6 explain how to account for stripping costs, and removal and restoration costs Diff: (Medium)

18) AASB 6 is an activity based standard; as such it does not fully cover other areas of extractive industries. Make a list and briefly explain the other relevant standards that a mining company has to consider in producing its financial statements under the new regime.

Answer: The major issue in accounting for the extractive industries is the treatment of pre-production costs. Inter alia, the previous standard AASB 1022 required the recognition of pre-production costs using the area-of-interest method. The area-of-interest method is a special case of the successful-efforts method, discussed in section 19.4, with the cost centre relabelled as an ‘area of interest’. If the revaluation model is applied, the appropriate model in the case of property, plant and equipment is that specified in AASB 116 ‘Property, Plant and Equipment’, while in the case of intangible assets it is the model specified in AASB 138 ‘Intangible Assets’. To be consistent, the cost model or revaluation model will also be applied to costs incurred in other phases of extractive industry operations. Paragraph 18 of AASB 6 requires that exploration and evaluation assets be assessed for impairment when facts and circumstances suggest that their carrying amount exceeds recoverable amount. In this case an impairment loss is recognised in accordance with AASB 136 ‘Impairment of Assets’ AACSB: Written and oral communication Topic: 19.3 Accounting standards Learning Objective: LO 19.7 explain how to account for the costs carried forward once production commences Diff: (Medium)

19) Describe the units-of-production method of amortizing pre-production costs that have been capitalized.

Answer: The most frequently used method of amortising the pre-production costs carried forward is the units-of-production method.11 An amortisation rate is calculated by relating the costs carried forward to the ‘reserve base’ considered to be the most appropriate in the circumstances. The reserve base is the estimated quantity of minerals, oil or natural gas that can be recovered from the deposit, and in AASB 6 is referred to as ‘economically recoverable reserves’. Ideally, the reserve base should be measured in units of end product such as a gram of gold or a kilogram of nickel, rather than in units of mined output such as a tonne of ore. If the amortisation rate is calculated on the basis of the tonnes of ore expected to be obtained from the deposit, the same charge would be applied to a tonne of high-grade ore as to a tonne of low-grade ore, which could be misleading to financial statement users. After an amortisation rate is calculated, the amount charged against sales revenue for a particular reporting period is that rate multiplied by the period’s production.

AACSB: Written and oral communication Topic: 19.3 Accounting standards Learning Objective: LO 19.7 explain how to account for the costs carried forward once production commences

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Diff: (Medium)

20) Describe the activities involved in the pre-production phase in the production of minerals, oil and gas and the accounting treatments that might be allowed for costs arising from this phase.

Answer: The pre-production phase encompasses four types of activities. They comprise exploration of areas that are leased for this purpose, the evaluation of exploration results, the development of the deposit for exploitation, and the possible construction of facilities for extraction, treatment and transportation from the deposit or field.

EXPLORATION This phase of operations includes the topographical, geological, geochemical and geophysical studies that are usually made over a wide area in order to obtain information that will lead to the acquisition of exploration rights in the most promising areas. EVALUATION After the property rights have been acquired, work is undertaken to determine the technical feasibility and commercial viability of the prospect. The aim of this investigation is to find a commercial deposit. The costs of this phase include salaries and wages, supplies, transport, depreciation or rental of equipment, and other expenditure. DEVELOPMENT After the commercial viability of a prospect has been established, the development phase commences. ‘Development’ refers to the activities involved in the establishment of access to the deposit or field and other preparation for commercial production. These activities include drilling wells for the production of oil or natural gas, sinking shafts, driving tunnels, the removal of overburden, the development of access roads, and the supply of water and power. CONSTRUCTION A separate phase may be identified for construction, which includes the establishment of the facilities for extraction, treatment and transportation from the deposit or field.

AACSB: Written and oral communication Topic: 19.4 Alternative methods of accounting for pre-production costs Learning Objective: LO 19.8 identify four methods of accounting for exploration and evaluation costs Diff: (Medium)

21) The full-cost method of accounting for exploration and evaluation costs in the extractive industries: A) requires that all such costs be recognised as expenses B) requires that all such costs be recognised as assets C) allows more timely disclosure of the costs of unsuccessful exploration activities D) gives asset values closely approximating the value of mineral deposits that are discovered Answer: B AACSB: Application of knowledge Topic: 19.4 Alternative methods of accounting for pre-production costs Learning Objective: LO 19.8 identify four methods of accounting for exploration and evaluation costs Diff: (Medium)

22) The successful-efforts method of accounting for exploration and evaluation costs in the extractive industries: A) requires all such costs to be recognised as expenses B) requires all such costs to be recognised as expenses until an area is abandoned or a commercial mineral deposit is found C) requires all such costs to be recognised as assets until an area is abandoned or a commercial mineral deposit is found D) none of the above Answer: C AACSB: Application of knowledge

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Topic: 19.4 Alternative methods of accounting for pre-production costs Learning Objective: LO 19.8 identify four methods of accounting for exploration and evaluation costs Diff: (Medium)

23) Bigspill Gas & Oil Ltd began operations on 1 July 20X1. During the year ended 30 June 20X2, Bigspill explored five different areas of interest and spent $200 000 in each area. The exploration results indicated that three areas were likely to be productive and Bigspill acquired leases over the three areas at costs of $400 000, $720 000 and $480 000 respectively. Under the successful-efforts method of accounting for exploration and evaluation costs in the extractive industries, Bigspill would include which of the following amounts in its statement of financial position as at 30 June 20X2 for Exploration and Evaluation Costs?

A) $1 600 000 B) $2 600 000 C) $2 200 000 D) $ Nil Answer: C AACSB: Application of knowledge Topic: 19.4 Alternative methods of accounting for pre-production costs Learning Objective: LO 19.8 identify four methods of accounting for exploration and evaluation costs Diff: (Medium)

24) Bigspill Gas & Oil Ltd began operations on 1 July 20X1. During the year ended 30 June 20X2, Bigspill explored five different areas of interest and spent $200 000 in each area. The exploration results indicated that three areas were likely to be productive and Bigspill acquired leases over the three areas at costs of $400 000, $720 000 and $480 000 respectively. Under the expense method of accounting for exploration and evaluation costs in the extractive industries, Bigspill would include which of the following amounts in its statement of financial position as at 30 June 20X2 for Exploration and Evaluation Costs?

A) $2 200 000 B) $1 600 000 C) $2 600 000 D) $ Nil Answer: D AACSB: Application of knowledge Topic: 19.4 Alternative methods of accounting for pre-production costs Learning Objective: LO 19.8 identify four methods of accounting for exploration and evaluation costs Diff: (Medium)

25) Bigspill Gas & Oil Ltd began operations on 1 July 20X1. During the year ended 30 June 20X2, Bigspill explored five different areas of interest and spent $200 000 in each area. The exploration results indicated that three areas were likely to be productive and Bigspill acquired leases over the three areas at costs of $400 000, $720 000 and $480 000 respectively. Under the full-cost method of accounting for exploration and evaluation costs in the extractive industries, Bigspill would include which of the following amounts in its statement of financial position as at 30 June 20X2 for Exploration and Evaluation Costs?

A) $2 200 000

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B) $1 600 000 C) $ Nil D) $2 600 000 Answer: D AACSB: Application of knowledge Topic: 19.4 Alternative methods of accounting for pre-production costs Learning Objective: LO 19.8 identify four methods of accounting for exploration and evaluation costs Diff: (Medium)

26) The accountant for a mining exploration company presents the following figures to the directors of the company as being possible values that could be assigned to its total non-current assets (comprising exploration and evaluation costs and purchases of plant and machinery to date) — $750 000, $1 600 000, or $2 350 000. Use of the figure $2 350 000 indicates that the company is probably using which of the following methods of accounting for exploration and evaluation costs?

A) Expense B) Full-cost C) Successful-efforts D) Area-of-interest Answer: B AACSB: Application of knowledge Topic: 19.4 Alternative methods of accounting for pre-production costs Learning Objective: LO 19.8 identify four methods of accounting for exploration and evaluation costs Diff: (Medium)

27) To calculate the value of the reserves, the following data are required: A) an estimate of the current sales price per output unit B) a discount rateC) an estimate of the life of the fixed assets D) an estimate of the cost of salvage per output unit Answer: B AACSB: Application of knowledge Topic: 19.4 Alternative methods of accounting for pre-production costs Learning Objective: LO 19.9 explain the application of reserve recognition accounting Diff: (Easy)

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Henderson, Issues in Financial Accounting 16e Chapter 20: Accounting for agricultural activity 1) Agricultural activity should be classified as: A) non-current assets B) current assets C) non-current liabilities D) inventories Answer: A AACSB: Application of knowledge Topic: 20.1 Introduction Learning Objective: LO 20.1 define biological assets Diff: (Medium)

2) In what ways is agricultural activity different from other forms of assets? In what ways are they similar to other forms of assets? How do these differences, and similarities, affect accounting for agricultural activity?

Answer: The capacity of biological assets to grow makes them different from other assets and creates several accounting problems for classification, measurement and recognition of changes in asset value. The capability of biological assets to change can be managed for sale, the production of agricultural produce or the production of additional biological assets. Note, however, that the harvested non-living agricultural produce from biological assets is not a biological asset. Thus, produce such as wool, milk, meat, fruit, grain, pearls and felled logs are not biological assets. They are inventory and should be accounted for in accordance with AASB 102 ‘Inventories’.

AACSB: Written and oral communication Topic: 20.1 Introduction Learning Objective: LO 20.1 define biological assets Diff: (Medium)

3) Which of the following statements about a growing crop expected to be sold within the next reporting cycle is not true?

A) It should never be classified as inventory B) It should always be classified as a current asset C) It should always be classified as inventory D) It is in the process of production Answer: A AACSB: Application of knowledge Topic: 20.2 Accounting classification of biological assets Learning Objective: LO 20.2 identify the appropriate accounting classification for biological assets Diff: (Medium)

4) Agricultural activity under the heading of Biological assets such as animals is most appropriately measured for accounting purposes at: A) standard value B) net realisable value C) discounted market value D) historical cost

Answer:

B

AACSB: Application of knowledge Topic: 20.2 Accounting classification of biological assets Learning Objective: LO 20.2 identify the appropriate accounting classification for biological assets Diff: (Easy)

5) Agricultural assets that are plants or trees are most appropriately measured for accounting purposes at: A) net realisable value B) replacement cost C) net present value D) historical cost Answer: A AACSB: Application of knowledge Topic: 20.2 Accounting classification of biological assets Learning Objective: LO 20.2 identify the appropriate accounting classification for biological assets Diff: (Easy)

6) On 1 September 20XX, Beuno Vista Ltd purchased an established forest for a total cost of $2 000 000. During the year ended 30 June 20XX, Beuno Vista spent $300 000 on maintaining the forest and $100 000 on office administration costs. In March 20XX, the company cut logs from the forest that had an estimated net realisable value of $800 000. Costs of logging were $150 000. The logs were sold in June 20XX for . On 30 June 20XX the forest had an estimated net realisable value of $1 300 000. The total profit (or loss) from operations for the year ended 30 June 20XX is: A) $400 000 Profit B) $(400 000) Loss C) $350 000 Profit D) $700 000 Profit Answer: B AACSB: Application of knowledge Topic: 20.3 Measuring biological assets Learning Objective: LO 20.3 analyse the alternative methods of measuring biological assets Diff: (Medium)

7) At the beginning of the 20X1 financial year, Vaughn Downs Ltd owned a forest with an estimated net realisable value of $8 000 000. During the year, Vaughn Downs spent $300 000 on general administration costs and $400 000 on maintaining and improving the forest. Also during the year the company felled some timber from the forest that had an estimated net realisable value of $3 000 000. Costs of felling and treating the timber amounted to $800 000.

The timber was sold later in the year for $3 100 000. At the end of the year, the forest had an estimated net realisable value of $8 700 000. The financial statements for the year should report: A) a profit from operations of $1 700 000 and an increase in the revaluation surplus of $700 000 B) a profit from operations of $1 700 000 C) a profit from operations of $2 100 000 and an increase in the revaluation surplus of $300 000 D) a profit from operations of $2 300 000

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Answer:

D

AACSB: Application of knowledge Topic: 20.3 Measuring biological assets Learning Objective: LO 20.3 analyse the alternative methods of measuring biological assets Diff: (Hard)

8) Alton Downs Ltd has an orchard of citrus trees with an estimated net realisable value at 1 January 20X1 of $1 600 000. During the year ended 31 December 20X1 fruit with an estimated fair value of $300 000 was picked. The fruit was still on hand at the end of the year. Estimated sales commission on this fruit was . Costs of picking, sorting, packing and storage totalled $125 000. The fruit was sold in 20X2 (after the 20X1 financial statements were prepared) for $430 000. On 31 December 20X1 the orange orchard had an estimated net realisable value of $1 550 000. The fruit on hand at 31 December 20X2 should be valued at: A) $300 000 B) $275 000 C) $125 000 D) $475 000 Answer: B AACSB: Application of knowledge Topic: 20.3 Measuring biological assets Learning Objective: LO 20.3 analyse the alternative methods of measuring biological assets Diff: (Medium)

9) Greenview Dreams Ltd has an orchard of mango trees with an estimated fair value at 1 January 20X1 of $1 600 000. During the year ended 31 December 20X1 mangoes with a fair value of $300 000 were picked and they were still on hand at the end of the year. Costs of picking, sorting, packing and storage totaled $125 000. The mangoes were sold later in 2012 for $430 000. On 31 December 20X1 the mango orchard had an estimated net realisable value of $1 750 000. The total profit from operations for the 20X1 year is: A) $325 000 B) $305 000 C) $575 000 D) $425 000 Answer: A AACSB: Application of knowledge Topic: 20.3 Measuring biological assets Learning Objective: LO 20.3 analyse the alternative methods of measuring biological assets Diff: (Medium)

10) Describe the sustained-yield method and the standard method of measuring forestry assets.

Answer: The sustained-yield method involves accumulating the costs of total forestry assets until the forest reaches equilibrium, at which point the amount of timber harvested is equal to the amount of growth in each year.

When the forest reaches equilibrium, all new costs are recognised as expenses in the period in which they are incurred. After equilibrium is reached, the forest is carried in the accounts at the accumulated costs incurred up to the point of equilibrium. Revenues are recognised when sales of timber are made, and they are matched with the

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expenses recognised in the same reporting period as the revenues. The sustained-yield method assumes that the size of the forest remains constant when equilibrium is reached. If there is an expansion in the size of the forest, then there must be another period of cost accumulation. If the forest size is diminished, then costs previously carried forward would be written off. If the forest remains in equilibrium for some time, then the method has the advantage of simplicity. However, it suffers from the usual problems of historical cost. It will not provide asset valuations that are relevant to the needs of fi nancial statement users. It also depends on a variation of the matching concept.

AACSB: Written and oral communication Topic: 20.3 Measuring biological assets Learning Objective: LO 20.4 discuss the issues in accounting for changes in the carrying amount of biological assets Diff: (Hard)

11) Which of the following activities do not fall under the auspices of AASB 141?

A) Circus animals B) Greyhounds and horses held for racing C) Investment in a carbon sink D) All of the above Answer: D AACSB: Application of knowledge Topic: 20.4 Accounting for changes in the carrying amount of biological assets Learning Objective: LO 20.4 discuss the issues in accounting for changes in the carrying amount of biological assets Diff: (Easy)

16) Applying fair value to agricultural activity is assumed on the basis that it can be measured reliably. What do you think could potentially cause an asset's measurement to be unreliable, and why? How detailed should be the disclosure of any inherent unreliability?

Answer: There is an important difference between biological assets and other non-current assets. Biological assets have the capacity to change through biological processes – they grow, degenerate and procreate. Other non-current assets do not. For non-biological, non-current assets, changes in net realisable value are caused solely by price changes. For biological assets, changes in net realisable value are caused by a combination of growth and changes in prices. There has been some reluctance to regard changes in net realisable value due to changes in prices as income because the increases in value may not be realised as cash inflows. If prices can rise, they can subsequently fall. This period’s income may be lost in the next period as prices fall. It has been suggested that, if an increase in net realisable value is due to growth and price changes, then that part due to price changes should not be recognised as income. This argument is based on an assumption that changes in growth are not reversible, but changes in price are reversible. The probability of realising the increase in value from growth is greater than the probability of realising the increase in value due to price changes. For several reasons, we do not support the argument that changes in value from growth and from price changes should be treated differently. First, there are practical difficulties in separating the effects of the two causes of value change. Second, changes in value due to price changes satisfy the Framework 2014 definition of income. Third, the recognition criteria for income require that realisation must be ‘probable’. If it is probable that price increases will be reversed, then, as far as practicable, the value changes due to price increases should be omitted.

AACSB: Written and oral communication Topic: 20.4 Accounting for changes in the carrying amount of biological assets Learning Objective: LO 20.4 discuss the issues in accounting for changes in the carrying amount of biological assets Diff: (Hard)

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12) Australian Accounting Standard AASB '141 Agricultural Activity' requires disclosure of the following items of information EXCEPT: A) cost of agricultural produce is its fair value less costs to sell at the point of harvest; B) specific requirements for government grants related to a biological asset C) specific disclosures in relation to biological assets D) the method of calculating the replacement cost of biological assets Answer:

D

AACSB: Application of knowledge Topic: 20.5 Accounting standards for biological assets Learning Objective: LO 20.5 Explain and apply the requirements of AASB 141 ‘Agriculture’ to the measurement of biological assets Diff: (Medium)

13) AASB 141 requires that biological assets be measured at net realisable value that is: A) fair value less estimated point of sale costs B) fair value less point of sales costs C) fair value D) none of the above Answer: A AACSB: Application of knowledge Topic: 20.5 Accounting standards for biological assets Learning Objective: LO 20.5 Explain and apply the requirements of AASB 141 ‘Agriculture’ to the measurement of biological assets Diff: (Easy)

14) The accounting treatment of government grants under AASB 141 requires that: A) unconditional grants are to be treated as non-current assets when they become receivable B) unconditional grants are to be treated as income when they become receivable C) unconditional grants are to be treated as income D) none of the above Answer: B AACSB: Application of knowledge Topic: 20.5 Accounting standards for biological assets Learning Objective: LO 20.5 Explain and apply the requirements of AASB 141 ‘Agriculture’ to the measurement of biological assets Diff: (Medium)

15) List three significant items of information that Australian Accounting Standard AASB 141 'Agricultural Activity' requires to be shown in the annual report and financial statements specifically of a primary production business.

Explain why disclosure of each of these items is considered to provide useful information to investors.

Answer: AASB 141 is applicable to the following when they are part of agricultural activity: (a) biological assets,

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except for bearer plants;(b) agricultural produce at the point of harvest; and (c) government grants in certain circumstances outlined in paragraphs 34 and 35 of AASB 141 (para. 1). Biological assets are considered to be living animals or plants; they include consumables with both long-term and short-term production cycles. Agricultural activity is defined in paragraph 5 of AASB 141 as the ‘management by an entity of the biological transformation and harvest of biological assets for sale or for conversion into agricultural produce or into additional biological assets’.

AACSB: Written and oral communication Topic: 20.5 Accounting standards for biological assets Learning Objective: LO 20.5 Explain and apply the requirements of AASB 141 ‘Agriculture’ to the measurement of biological assets Diff: (Easy)

16) Paragraphs 54 to 56 require additional disclosures for biological assets where fair value cannot be reliably measured. These disclosures include which of the following: A) the depreciation method used B) the range of estimates within which market value C) the equivalent rates used D) the net carrying amount and the accumulated depreciation Answer A AACSB: Application of knowledge Topic: 20.5 Accounting standards for biological assets Learning Objective: LO 20.6 explain and apply the requirements of AASB 141 ‘Agriculture’ to agricultural produce Diff: (Medium)

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Henderson, Issues in Financial Accounting 16e Chapter 21: Accounting for superannuation entities 1) A superannuation fund to which employees can make voluntary contributions so as to increase the value of their benefits is known as a/an: A) defined contribution fund B) defined benefit fund C) externally managed fund D) contributory fund Answer: D AACSB: Application of knowledge Topic: 21.1 Introduction Learning Objective: LO 21.1 Explain the nature of superannuation Diff: (Medium)

2) A member of a superannuation fund can leave the fund but retain a right to all accrued benefits in the case of a: A) self-managed fund B) vested benefits fund C) contributory fund D) all of the above Answer: B AACSB: Application of knowledge Topic: 21.1 Introduction Learning Objective: LO 21.1 Explain the nature of superannuation Diff: (Easy)

3) Explain the essential features of a defined benefit, externally managed, non-contributory superannuation plan whose benefits are not vested.

Answer: In the majority of cases, however, the trustees pass the management responsibilities to professionals, such as banks and life insurance companies. The external managers report to the trustees at regular intervals about the earnings performance of the externally managed superannuation plan, its assets and its future prospects. The trustees, of course, remain ultimately responsible for the plan.

AACSB: Written and oral communication Topic: 21.1 Introduction Learning Objective: LO 21.1 Explain the nature of superannuation Diff: (Medium)

4) The trustees of a superannuation fund can transfer their responsibility for the general conduct of the fund: A) if it is non-contributory B) if it provides portable benefits C) if the fund is externally managed D) in none of the above cases Answer: D AACSB: Application of knowledge Topic: 21.2 Accounting and reporting by superannuation entities

Learning Objective: LO 21.1 Explain the nature of superannuation Diff: (Medium)

5) The inclusion of a report of the trustees of a superannuation plan is: A) required by AAS 25 B) the same as an actuarial report C) recommended by the ASFA D) not relevant for a self-managed plan Answer: C AACSB: Application of knowledge Topic: 21.2 Accounting and reporting by superannuation entities Learning Objective: 21.2 discuss the reports prepared by superannuation entities Diff: (Hard)

6) The general purpose financial reports of a superannuation plan should provide information to assist in answering the following question: A) Who are the trustees?

B) Is the plan solvent?

C) What are the names of the professional advisers?

D) None of the above Answer: B AACSB: Application of knowledge Topic: 21.2 Accounting and reporting by superannuation entities Learning Objective: LO 21.2 discuss the reports prepared by superannuation entities Diff: (Easy)

7) Discuss the roles of APRA, Asic and the ATO in the regulation of the superannuation industry.

Answer: There are three bodies that regulate the operations and reporting practices of superannuation plans – the Australian Prudential Regulation Authority, the Australian Securities and Investments Commission and the Australian Taxation Office (ATO). APRA is responsible for prudential supervision of superannuation plans, ASIC is responsible for disclosure of financial information and consumer issues, and the ATO ensures that self-managed superannuation plans adhere to rules and regulations.

AACSB: Written and oral communication Topic: 21.2 Accounting and reporting by superannuation entities Learning Objective: LO 21.2 discuss the reports prepared by superannuation entities Diff: (Medium)

8) Discuss some of the major differences between the requirements of AAS 25 and AASB 1056.

Answer: Accounting for and reporting by superannuation plans is not straightforward. In fact, there has been considerable debate on this topic since the introduction of the first accounting standard, AAS 25 ‘Financial Reporting

by Superannuation Plans’, in Australia in the early 1990s. To illustrate, the following is an extract from a

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commentary on AAS 25: If ever there was an area of accounting standards that could be accused (and duly convicted!) of condoning outdated, irrelevant reporting, we need look no further than AAS 25 …2 In addition there has been increasing criticism of the reporting practices of entities in the superannuation industry, with a recent survey of superannuation industry experts concluding that: Reporting by Australia’s superannuation industry remains ineffective in enlightening members about the performance of their superannuation funds, and in enabling members to better understand the governance functions and operational aspects of the industry.3 In response to such criticisms, the requirements of AAS 25 have been replaced by a new accounting standard, AASB 1056 ‘Superannuation Entities’, which is applicable to annual reporting periods beginning on or after 1 July 2016. AASB 1056 provides standards for the preparation of general purpose financial statements by superannuation entities that are reporting entities. Superannuation entities are defined in Appendix A of AASB 1056 as either superannuation plans or approved deposit funds. A superannuation plan is defined as an entity that is: (a) regulated under the Superannuation Industry (Supervision) Act 1993 or similar legislative requirements in the case of an exempt public sector superannuation plan; and (b) established and maintained: (i) in order to receive superannuation contributions; and (ii) f or the primary purpose of providing benefits to members upon their retirement, death, disablement or other event that qualifies as a condition of release for member benefits.

AACSB: Written and oral communication Topic: 21.2 Accounting and reporting by superannuation entities Learning Objective: LO 21.6 compare and contrast the requirements of AASB 1056 ‘Superannuation Entities’ with the requirements of AAS 25 ‘Financial Reporting by Superannuation Plans’ Diff: (Medium)

9) The general purpose financial statements of a superannuation plan should answer the following question(s): A) Is the plan solvent?

B) Will the plan remain solvent?

C) Are the trustees diligently performing their duties?

D) All of the above Answer: D AACSB: Application of knowledge Topic: 21.3 The accounting standard - AASB 1056 ‘Superannuation Entities’ Learning Objective: LO 21.3 explain the need for the preparation of general purpose financial statements by superannuation entities Diff: (Easy)

10) AAS 25 applies specifically to superannuation plans and: A) overrides the Australian equivalent to IFR's B) requires the preparation of information about the rights and benefits of individual members C) applies only to private sector superannuation plans D) all of the above Answer: A AACSB: Application of knowledge Topic: 21.3 The accounting standard - AASB 1056 'Superannuation Entities'

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Learning Objective: LO 21.3 explain the need for the preparation of general purpose financial statements by superannuation entities Diff: (Medium)

11) Australian Accounting Standard AAS 25 'Financial Reporting by Superannuation Plans' requires that, wherever possible, the amount recorded for accrued liabilities of a defined benefit superannuation plan: A) include allocated and unallocated contributions B) be measured in present value terms using a published discount rate C) equal the assets of the plan less the sum of tax and sundry liabilities D) be measured in present value terms using an appropriate, risk-adjusted discount rate Answer: D AACSB: Application of knowledge Topic: 21.3 The accounting standard - AASB 1056 ‘Superannuation Entities’ Learning Objective: LO 21.3 explain the need for the preparation of general purpose financial statements by superannuation entities Diff: (Hard)

12) Individual financial statements provided by superannuation entities provide which of the following: A) the amount payable now on the resignation of a member.

B) the average rate of return on current assets.

C) total employee contributions.

D) the amount payable when transferring a plan.

Answer: A AACSB: Application of knowledge Topic: 21.3 The accounting standard - AASB 1056 ‘Superannuation Entities’ Learning Objective: LO 21.3 explain the need for the preparation of general purpose financial statements by superannuation entities Diff: (Easy)

13) The factors provided in paragraphs AG41 to AG42 to consider in determining whether a superannuation entity is acting as an agent to include which of the following: A) members (or their beneficiaries) only receive insurance benefits if the external insurer/reinsurer pays claims B) insurance premiums are only paid through the superannuation entity for administrative reasons C) insurance premiums are effectively set directly by reference to premiums set by an external insurer.

D) all of the above Answer: D AACSB: Application of knowledge Topic: 21.3 The accounting standard - AASB 1056 ‘Superannuation Entities’ Learning Objective: LO 21.4 identify the issues in accounting for the assets and liabilities of superannuation entities and apply the requirements of AASB 1056 ‘Superannuation Entities' Diff: (Easy)

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14) Generally, insurance arrangements include which of the following?

A) offered to members, with the entity only acting as an agent B) offered to members, with the entity accepting insurance risk C) provided to defined benefit members in relation to their projected retirement benefit D) all of the above Answer: D AACSB: Application of knowledge Topic: 21.3 The accounting standard - AASB 1056 ‘Superannuation Entities’ Learning Objective: LO 21.4 identify the issues in accounting for the assets and liabilities of superannuation entities and apply the requirements of AASB 1056 ‘Superannuation Entities' Diff: (Easy)

15) Discuss some of the changes to MS Plan’s Income Statement under the AASB 1056 requirements.

Answer: AASB 1056 requires superannuation entities to prepare an income statement and not a statement of comprehensive income. This decision was taken for two reasons. First, it was argued that all remeasurement changes in assets and liabilities should be recognised in an income statement for superannuation entities (while typically these changes could appear in either profit or loss, or comprehensive income for other entities) to facilitate a clear presentation of a superannuation plan’s financial performance (Basis for Conclusions, paras BC78 and BC81). Second, comprehensive income includes items that would not be recognised in equity in a superannuation entity, so requiring a statement of comprehensive income could be misleading.

AACSB: Written and oral communication Topic: 21.3 The accounting standard - AASB 1056 ‘Superannuation Entities’ Learning Objective: LO 21.5 discuss the issues in preparing financial statements for superannuation entities and apply the requirements of AASB 1056 ‘Superannuation Entities’ Diff: (Medium)

16) Superannuation-specific disclosures include which of the following?

A) disaggregated information when it is necessary to explain the risks and benefit arrangements relating to different categories of members B) the main features of specific contractual or statutory arrangements in place between a superannuation entity and any relevant employer–sponsor(s) C) qualitative and quantitative information that provides a basis for understanding the amount, timing and uncertainty of future cash flows relating to insurance liabilities and assets D) all of the above Answer: D AACSB: Application of knowledge Topic: 21.3 The accounting standard - AASB 1056 ‘Superannuation Entities’ Learning Objective: LO 21.5 Discuss the issues in preparing financial statements for superannuation entities and apply the requirements of AASB 1056 ‘Superannuation Entities’ Diff: (Easy)

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17) In the notes section of a Future Annulation plan, insurance liabilities can do all of the following except that it A) can elect to take out term life cover with FS Plan up to a maximum of $1.5 million per member B) uses the services of an actuary to determine its insurance contract liabilities.

C) entity has reinsured all direct insurance risks with ABC Reinsurance (Australia) D) all of the above Answer: D AACSB: Application of knowledge Topic: 21.3 The accounting standard - AASB 1056 ‘Superannuation Entities’ Learning Objective: LO 21.5 discuss the issues in preparing financial statements for superannuation entities and apply the requirements of AASB 1056 ‘Superannuation Entities’ Diff: (Easy)

18) For each reporting period, superannuation entities are required to prepare each of the following except A) a statement of consolidated benefits.

B) income statements.

C) a statement of cash flows.

D) consolidated financial reports.

Answer: C AACSB: Application of knowledge Topic: 21.3 The accounting standard - AASB 1056 ‘Superannuation Entities’ Learning Objective: LO 21.6 compare and contrast the requirements of AASB 1056 ‘Superannuation Entities’ with the requirements of AAS 25 ‘Financial Reporting by Superannuation Plans’ Diff: (Easy)

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Henderson, Issues in Financial Accounting 16e Chapter 22: Accounting for insurance 1) Which of the following is not one of the broad categories of insurance?

A) Life B) General C) Medical D) Fixed-fee service contracts Answer: C AACSB: Written and Oral Communication Topic: 22.1. Introduction Learning Objective: LO 22.1. Explain the nature and categories of insurance.

Difficulty: Easy 2) What must be present for an insurer to enter into an insurance contract?

A) Written contract B) Insurance policy C) Insurable risk D) Insurable interest Answer: D AACSB: Analytical Thinking Topic: 22.1. Introduction Learning Objective: LO 22.1. Explain the nature and categories of insurance.

Difficulty: Medium 3) Which of the following is an example of a fixed-fee service contract?

A) Vehicle towing B) Renter’s insurance C) Medical insurance D) Accident claims Answer: A AACSB: Analytical Thinking Topic: 22.2 Fixed-fee service contracts Learning Objective: LO 22.2. Explain the nature of fixed-fee service contracts.

Difficulty: Medium 4) What would cause a decrease in the premium paid for a fixed-fee service contract?

A) Decrease in the number of insurance contracts B) Prompt settlement of claims C) Increase in the frequency of claim disputes D) Increase in the number of insurance contracts

Answer: D AACSB: Analytical Thinking Topic: 22.2 Fixed-fee service contracts Learning Objective: LO 22.2. Explain the nature of fixed-fee service contracts.

Difficulty: Medium 5. Which type of risk is transferred from the holder of a contract to the insurer?

A) Insurance B) Financial C) Premium D) Interest rate Answer: A AACSB: Analytical Thinking Topic: 22.2 Fixed-fee service contracts Learning Objective: LO 22.2. Explain the nature of fixed-fee service contracts.

Difficulty: Easy 6. A(n) ________ is an uncertain future event that is covered by an insurance contract and creates insurance risk.

A) Probable event B) Claim dispute C) Uninsured event D) Insured event Answer: D AACSB: Analytical Thinking Topic: 22.2 Fixed-fee service contracts Learning Objective: LO 22.2. Explain the nature of fixed-fee service contracts.

Difficulty: Easy 7. Which two types of risks are covered by a general insurance contract?

A) Medical and dental B) Flood and theft C) Annuities and lump-sum payments D) Life and accident insurance Answer: B AACSB: Analytical Thinking Topic: 22.3. General insurance contracts Learning Objective: LO 22.3. Explain the nature of general insurance and the accounting issues associated with a general insurer’s underwriting activities.

Difficulty: Easy

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8) What term describes the process of reinsurers themselves reinsuring in order to reduce risk?

A) Superannuation B) Reinsurance C) Retrocession D) Underwriting Answer: C AACSB: Analytical Thinking Topic: 22.3. General insurance contracts Learning Objective: LO 22.3. Explain the nature of general insurance and the accounting issues associated with a general insurer’s underwriting activities.

Difficulty: Hard 9) Underwriting and investment are the two activities of ________.

A) Fixed-fee service contracts B) Life insurance C) General insurance D) All insurance categories Answer: C AACSB: Analytical Thinking Topic: 22.3. General insurance contracts Learning Objective: LO 22.3. Explain the nature of general insurance and the accounting issues associated with a general insurer’s underwriting activities.

Difficulty: Easy

10) Which of the following is not considered an underwriting activity?

A) Arbitration B) Reinsurance C) Claims D) Premiums Answer: A AACSB: Analytical Thinking Topic: 22.3. General insurance contracts Learning Objective: LO 22.3. Explain the nature of general insurance and the accounting issues associated with a general insurer’s underwriting activities.

Difficulty: Medium 11) What is the proper treatment basis for the allocation of a premium?

A) The payment history of the policyholder B) The number of parties to which the payment is to be allocated C) The type of insurance (medical, general, etc.)

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D) The probability of a claim Answer: D AACSB: Analytical Thinking Topic: 22.3. General insurance contracts Learning Objective: LO 22.2. Explain the nature of general insurance and the accounting issues associated with a general insurer’s underwriting activities.

Difficulty: Hard 12) Which of the following is an obligation arising from past events?

A) Claims have been received but not been settled B) Claims that have been received but for which the amount of the obligation is uncertain C) Both A and B are correct D) Neither A nor B are correct Answer: C AACSB: Analytical Thinking Topic: 22.3. General insurance contracts Learning Objective: LO 22.3. Explain the nature of general insurance and the accounting issues associated with a general insurer’s underwriting activities.

Difficulty: Medium 13) Insurers desire to earn income in excess of the costs to manage the various types of insurance contracts. Which management objective is being addressed?

A) Solvency B) Liquidity C) Transparency D) Profitability Answer: D AACSB: Analytical Thinking Topic: 22.3. General insurance contracts Learning Objective: LO 22.4. Explain the accounting issues associated with the investment of a general insurer.

Difficulty: Medium 14) Which of the following is considered an operating asset?

A) Cash B) Consumables C) Property not occupied by the insurer D) Debt securities Answer: B AACSB: Analytical Thinking Topic: 22.3. General insurance contracts

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Learning Objective: LO 22.4. Explain the accounting issues associated with the investment of a general insurer.

Difficulty: Medium 15) What are the two sources of premium revenue?

A) Direct and indirect B) Reinsurance and direct C) Investments and operating D) General and fixed-fee Answer: B AACSB: Written and Oral Communication Topic: 22.3. General insurance contracts Learning Objective: LO 22.5. Identify and apply the requirements of AASB 1023 ‘General Insurance Contracts’.

Difficulty: Medium 16) Which of the following are components of expected future payments?

A) Amounts in relation to unpaid reported claims B) Claim handling costs expected to be incurred by the insurer C) Claims incurred but not reported D) All of the above are components of expected future payments Answer: D AACSB: Written and Oral Communication Topic: 22.3. General insurance contracts Learning Objective: LO 22.5. Identify and apply the requirements of AASB 1023 ‘General Insurance Contracts’.

Difficulty: Medium 17) According to AASB 1023, how are assets backing general insurance liabilities to be measured?

A) Fair value B) Book value of the insurer C) Book value of the insured party D) Historical cost Answer: A AACSB: Written and Oral Communication Topic: 22.3. General insurance contracts Learning Objective: LO 22.5. Identify and apply the requirements of AASB 1023 ‘General Insurance Contracts’.

Difficulty: Easy 18) Where is the deficiency related to an unearned premium liability to be reported?

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A) On the face of the income statement B) In the statement of comprehensive income C) In the insurance contract D) In the notes of the insured financial statements Answer: B AACSB: Written and Oral Communication Topic: 22.3. General insurance contracts Learning Objective: LO 22.5. Identify and apply the requirements of AASB 1023 ‘General Insurance Contracts’.

Difficulty: Medium 19) Which disclosure requirement is to be presented in the statement of comprehensive income?

A) The component related to risk margin B) Information regarding material non-insurance contracts C) The amount of net claims incurred D) The process used to determine risk margin Answer: C AACSB: Written and Oral Communication Topic: 22.3. General insurance contracts Learning Objective: LO 22.5. Identify and apply the requirements of AASB 1023 ‘General Insurance Contracts’.

Difficulty: Medium

20) List and explain the three broad classes of assets insurers have.

Answer: The three broad classes of assets are investments, operating assets, and financial assets.

Investments consist of holdings of property, listed and unlisted shares, and debt securities.

Investments are held to earn revenue and to make capital gains. Revenues and gains from investments make significant additions to underwriting profits and are essential for the operations of most insurance companies. An insurer’s portfolio of investments must produce a pattern of cash flows that allows the insurer to meet its claims liabilities as they are settled. Operating assets are used by an insurer in the process of generating underwriting revenues and investment revenues. The costs of using operating assets are expenses. Operating assets consist of land and buildings occupied by the insurer, plant and equipment, motor vehicles, and inventories of consumables such as stationery. Operating assets are traditionally accounted for at historical cost and are depreciated over their useful lives. An alternative view is that buildings owned and occupied by an insurance company should be treated as investments rather than as operating assets. This is based on the view that all property owned by insurers is an investment. Owner occupancy of buildings yields rent savings and capital gains when the property is sold. Financial assets are cash or claims to cash. They include accounts receivable, premiums

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receivable and bank deposits used for operating purposes. Financial assets are accounted for at the amount expected to be received.

AACSB: Written and Oral Communication Topic: 22.3. General insurance contracts Learning Objective: LO 22.3. Explain the nature of general insurance and the accounting issues associated with a general insurer’s underwriting activities.

Difficulty: Medium 21) Differentiate the types of insurance liabilities that arise from events that have already occurred.

Answer: A liability may arise when claims have been received but have not been settled. When a claim is received by an insurer it is ‘assessed’ to determine whether it results in an obligation in accordance with the insurance policy. Before admitting any liability, the insurer establishes that the claim results from an event specified in the policy and that the event occurred during the term of the policy. The amount of the claim must also be determined. For liability claims in particular, this assessment process may take some time and may involve litigation or arbitration.

During the period between lodgement of the claim and settlement, the amount of the settlement is carried as a liability. In some cases, the amount of the settlement must be estimated because the liability cannot be precisely determined at the end of the reporting period. If the insurer denies liability after assessment, then no liability will be recorded. This would happen, for example, if the claim was fraudulent or arose from an event not specified in the policy or that occurred outside the term of the policy. A liability may arise from events that have already occurred but which have so far not given rise to claims. At the end of the reporting period, insurers have no hard data on the number and size of claims that may be in the process of preparation. They must rely on past experience and an assessment of any special circumstances that may make past experience irrelevant for this reporting period. For example, a natural disaster in the last few weeks of a reporting period would indicate that a large number of claims may be in preparation. These pending claims are usually shown as liabilities. While their amounts must be estimated, there is little doubt that they satisfy the ‘Framework for the Preparation and Presentation of Financial Statements’ (Framework 2014) definition of liabilities, and that they can be measured with sufficient reliability to justify their inclusion as liabilities in the statement of financial position. A liability may arise from claims that have been received but for which the amount of the obligation is uncertain. This would be the case where the amount of the payout is determined by a judge or jury. For a liability to be recognised, its amount must be capable of reliable measurement. Even though the insurer may not know the precise amount of the payout, it may be capable of estimation based on experience and, if this is the case, it should be included among the claims liabilities. Insurers incur costs as part of the assessment and settlement process. These costs may include legal fees, court costs, accountants’ fees and medical bills. It is generally accepted accounting practice in Australia to include anticipated settlement costs, directly incurred as a result of claims, as part of the claims liability. These amounts are estimated at the end of the reporting period and

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are added to claims expense and claims liability. Indirect settlement costs, such as the salaries of assessors, in-house legal services and the administration of claims, are usually recognised as expenses in the periods in which they are incurred.

AACSB: Written and Oral Communication Topic: 22.3. General insurance contracts Learning Objective: LO 22.3. Explain the nature of general insurance and the accounting issues associated with a general insurer’s underwriting activities.

Difficulty: Medium 22) Explain the solvency requirements as outlined by the Insurance Act of 1973 and Prudential Standard GPS 110 ‘Capital Adequacy’.

Answer: The Insurance Act 1973 requires all authorised insurers to maintain minimum solvency levels at all times. APRA stipulates the minimum solvency level by reference to capital adequacy requirements for each authorised insurer. The capital adequacy requirements can be found in the Prudential Standard GPS 110 ‘Capital Adequacy’. The Standard requires a general insurer to maintain adequate capital against the risks associated with its activities. This legislative solvency requirement means that the value of an entity’s assets must exceed the amount of its liabilities by the specified margin. Legislative solvency is, therefore, more akin to ‘technical solvency’ than to legal solvency. The investment portfolio must be managed in such a way that the insurer maintains its minimum solvency margin. Hence, the realisable (market) value of the investments must be closely monitored even if there is no intention of selling them. If the fair value of the investment portfolio falls, the insurer runs the risk of its solvency margin falling below the minimum level, with consequent loss of the right to carry on business as an insurer.

AACSB: Written and Oral Communication Topic: 22.3. General insurance contracts Learning Objective: LO 22.4. Explain the accounting issues associated with the investment of a general insurer.

Difficulty: Medium 23) Which type of insurance policy pays benefits only if the insured person dies within a specified period?

A) Whole-of-life B) Term C) Endowment D) Disability Answer: B AACSB: Analytical Thinking Topic: 22.4. Life insurance contracts Learning Objective: LO 22.6. Describe the nature and business model of the life insurance industry.

Difficulty: Medium

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24) ‘Surrender’ of an insurance policy before death is a characteristic of which type of traditional life insurance activity?

A) Whole-of-life B) Endowment C) Both A and B are correct D) Neither A nor B is correct Answer: C AACSB: Analytical Thinking Topic: 22.4. Life insurance contracts Learning Objective: LO 22.6. Describe the nature and business model of the life insurance industry.

Difficulty: Medium 25) Which type of traditional activity is disability insurance most similar to?

A) General insurance B) Annuity contracts C) Endowment insurance D) Term insurance Answer: B AACSB: Analytical Thinking Topic: 22.4. Life insurance contracts Learning Objective: LO 22.6. Describe the nature and business model of the life insurance industry.

Difficulty: Medium 26) What is the main accounting issue insurers faced by life insurers?

A) Disclosure B) Measurement C) Recognition D) B and C above are correct Answer: D AACSB: Analytical Thinking Topic: 22.4. Life insurance contracts Learning Objective: LO 22.6. Describe the nature and business model of the life insurance industry.

Difficulty: Medium 27) Which accounting standard covers accounting for the life insurance industry?

A) AASB 1023 B) AASB 1038 C) AASB 9 D) AASB 4 Answer: B

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AACSB: Written and Oral Communication Topic: 22.4. Life insurance contracts Learning Objective: LO 22.7. Identify and apply the requirements of AASB 1038 ‘Life Insurance Contracts’.

Difficulty: Easy 25) Which of the following is the correct measurement of assets and liabilities, according to AASB 1038?

A)

Assets Net present value

Liabilities Fair value

B)

Assets Fair value

Liabilities Net present value

C)

Assets Fair value

Liabilities Fair value

D)

Assets Net present value

Liabilities Net present value

Answer: B AACSB: Written and Oral Communication Topic: 22.4. Life insurance contracts Learning Objective: LO 22.7. Identify and apply the requirements of AASB 1038 ‘Life Insurance Contracts’.

Difficulty: Medium 28) Aside from details of income, expenses, assets, liabilities, and equity, what must life insurers disclose in financial statements?

A) Regulatory capital information B) Disaggregated information C) Managed funds D) All of the above are correct Answer: D AACSB: Written and Oral Communication Topic: 22.4. Life insurance contracts Learning Objective: LO 22.7. Identify and apply the requirements of AASB 1038 ‘Life Insurance Contracts’.

Difficulty: Medium 29) Which two users of information are addressed by life insurance activities?

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A) Underwriters and policyholders B) Shareholders and policyholders C) Insurance agents and underwriters D) Shareholders and underwriters Answer: B AACSB: Analytical Thinking Topic: 22.4. Life insurance contracts Learning Objective: LO 22.6. Describe the nature and business model of the life insurance industry.

Difficulty: Medium

30) List and describe the five main types of traditional activities related to life insurance.

Answer: Whole-of-life insurance: With this type of insurance contract, benefits are paid on the death of the person insured. Premiums are paid throughout the period of the contract. In some cases, benefits are not paid after the insured person reaches a specified age. For example, if the insured person has not died before the age of 65 years, the premiums cease and no benefits are paid. In other cases, the benefits are paid regardless of the age of the insured person at death provided the premiums were paid up to that date. In some cases, the policy may be ‘surrendered’ before death for a reduced cash payment.

Endowment insurance: An endowment policy provides benefits at the end of a specified period or on the earlier death of the insured person. For example, the benefits may be paid on the insured person’s 65th birthday or death, whichever occurs first. The premiums are usually paid until the end of the specified period but may be for a shorter period. In some cases, the policy may be ‘surrendered’ before maturity for a reduced cash payment. Term insurance: This type of policy pays benefits only if the insured person dies within a specified period. The policy is often convertible at any time during the term into a permanent form of insurance, such as whole-of-life or endowment. In some cases, the premium is a single payment at the inception of the policy. In other cases, the premium is paid regularly over the term of the contract. Annuity contracts: These contracts provide a future stream of payments in exchange for a consideration paid before the stream begins. In some cases, the benefits begin on a specified date and continue for a specified period. In other cases, they begin on a specified date (e.g. the annuitant’s 65th birthday) and continue for an indefinite period (e.g. until the annuitant’s death). In some cases, the annuity may become payable on the death of an insured person. Disability insurance: Disability insurance provides a benefit that is paid when the insured person is unable to carry on gainful employment because of sickness or accident. The benefit is usually paid as an annuity until the insured person’s normal retirement age.

AACSB: Written and Oral Communication Topic: 22.4. Life insurance contracts Learning Objective: LO 22.6. Describe the nature and business model of the life insurance industry.

Difficulty: Medium

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Henderson, Issues in Financial Accounting 16e Chapter 23: International accounting standards, harmonisation and convergence 1) Explain how globalisation has impacted Australian accounting standards. What is the role of the various accounting governing bodies in harmonising the accounting standards?

Answer: With the increasing globalisation of capital markets in the 1960s and 1970s, there were suggestions that international financial reporting practices should be ‘harmonised’. It was argued that if companies were seeking to list securities on foreign stock exchanges, then regulators and other interested groups would be willing to accept their financial statements if they were based on accounting standards that were internationally comparable. A mechanism for achieving the harmonisation of accounting standards and international financial reporting practices emerged with the establishment of the International Accounting Standards Committee (IASC) in 1973. The trend towards globalisation of capital markets has continued into the 21st century, with the International Accounting Standards Board (IASB), as successor to the IASC, taking a leading role in the development of international financial reporting standards (IFRSs). Note that ‘harmonisation’ is a work-in-progress and the term does not necessarily mean that the accounting standards of every jurisdiction are the same.1 Although, at the start of 2016, 130 countries had made a ‘commitment’ to one set of global accounting standards, the application of IFRSs is not the same across all those countries.

AACSB: Written and oral communication Topic: 23.1 Introduction Learning Objective: LO 23.1 describe how the institutional arrangements for international accounting standard setting have evolved Diff: (Medium)

2) The International Accounting Standards Board is: A) an independent private sector body located in the United Kingdom B) a joint body set up by the International Accounting Standards Committee and the International Organisation of Securities Commissions C) a joint body established by the International Accounting Standards Committee and the United States Securities and Exchange Commission D) based in London and is an agency of the United Kingdom government Answer: A AACSB: Application of knowledge Topic: 23.2 The International Accounting Standards Board Learning Objective: LO 23.2 describe how the institutional arrangements for international accounting standard setting have evolved Diff: (Medium)

3) Place these steps in the development of an accounting standard by the IASB in the order in which they occur in practice. i. ii. iii. iv.

Developing an exposure draft for public comment Publishing a discussion paper for public comment Establishing an advisory committee Approval by the IASB

A) i, ii, iii, iv

B) iii, i, ii, iv C) ii, iii, i, iv D) iii, ii, i, iv Answer: D AACSB: Application of knowledge Topic: 23.2 The International Accounting Standards Board Learning Objective: LO 23.2 describe how the institutional arrangements for international accounting standard setting have evolved Diff: (Easy)

4) Discuss the significance of the Norwalk Agreement and the relationship between the IASB and various national standard setters.

Answer: The IASB and the FASB have been working towards convergence of IFRSs and US generally accepted accounting principles (GAAP) since the Norwalk Agreement (2002)5 in which they ‘each acknowledged their commitment to the development of high quality, compatible accounting standards that could be used for both domestic and crossborder financial reporting’. This commitment was reaffirmed in the Memorandum of Understanding between the IASB and the FASB, which was originally issued in 2006 and updated in 2008. The Memorandum of Understanding identified short-term and longer-term convergence projects with the aim of improving US GAAP and IFRSs, and eliminating differences between them. An example of a short-term project is the revision of the IFRS segment reporting standard by the IASB to align it with US GAAP, and a longer-term project on financial statement presentation resulted in amendments to IFRS and US GAAP relating to the presentation of other comprehensive income. By the end of 2013, the formal convergence arrangements between the IASB and the FASB had come to an end as major projects identified in the Norwalk Agreement were finalised. However, the IASB and the FASB continue to work cooperatively on projects where their mutual interests align.

AACSB: Written and oral communication Topic: 23.2 The International Accounting Standards Board Learning Objective: LO 23.2 describe how the institutional arrangements for international accounting standard setting have evolved Diff: (Hard)

5) The 'global harmonisation' approach to accounting standards, as set out in AASB Policy Statement No 1, means which of the following?

A) working to reduce the differences between Australian and other countries accounting standards B) adopting accounting standards developed and adopted in other countries C) developing local accounting standards based on an examination of accounting standards and practices adopted in other countries D) none of the above Answer: D AACSB: Application of knowledge Topic: 23.3 International convergence and harmonisation policy in Australia Learning Objective: LO 23.3 identify alternative approaches to the harmonisation of accounting standards Diff: (Medium)

6) Australia initially adopted the 'internationalisation' approach to setting accounting standards. This approach involves:

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A) adopting accounting standards developed and adopted in other countries B) developing local accounting standards based on an examination of accounting standards and practices developed outside Australia C) the adoption by Australia and other countries of a single set of accounting standards for all countries D) all of the above Answer: B AACSB: Application of knowledge Topic: 23.3 International convergence and harmonisation policy in Australia Learning Objective: LO 23.3 identify alternative approaches to the harmonisation of accounting standards Diff: (Hard)

7) The primary benefit of harmonising financial reporting practices around the world is: A) enhancing the attractiveness of exporting goods and services for smaller businesses B) reducing the likely risks and costs of making transactions in different countries C) eliminating the need for firms operating locally and in other countries to file detailed financial reports with regulatory authorities in other countries D) that investors in international capital markets can make more reliable comparisons of the reports of different entities Answer: D AACSB: Application of knowledge Topic: 23.3 International convergence and harmonisation policy in Australia Learning Objective: LO 23.3 identify alternative approaches to the harmonisation of accounting standards Diff: (Medium)

8) Describe and explain the strategies adopted by the AASB in order to achieve the objective of international harmonisation of accounting standards in Australia.

Answer: A further aspect of the AASB’s international convergence and harmonisation policy is the Trans-Tasman Convergence project. This project is part of a broader initiative of the Australian and New Zealand governments known as the Single Economic Market Initiative. From an accounting perspective, the outcome sought is to prepare only one set of financial statements that would be recognised in both jurisdictions. The project initially had three phases: • Phase 1: harmonisation of financial reporting requirements in relation to for-profit entities that assert compliance with IFRSs; • Phase 2: addressing differences affecting not-for-profit entities; and • Phase 3: addressing differential reporting and qualifying entity differences. Phase 1 has been completed. In relation to phase 2, the New Zealand Accounting Standards Board made a decision in 2011 to adopt IPSASs. However, the AASB maintains a policy of transaction neutrality for its accounting standards. Finally, note that the increasing use of IFRSs brought attention to the inequalities among jurisdictions in their ability to influence the IASB’s deliberations. Not all countries, for example, have the necessary technical expertise or resources to effectively contribute to the IASB’s activities. Also, jurisdictions differ in their relative political and economic power. As a result, the IASB was criticised for allegedly being dominated by the US and the European Union (EU), and for the use of an Anglo-Saxon model of financial reporting.13 One response to these issues has been the growth of regional groups of national accounting standard setters such as the Asian-Oceanian Standard Setters Group (AOSSG) (www.aossg.org) of which the AASB is a member, and the Group of Latin American Accounting Standard Setters (GLASS) (www.glenif.org/en). Such regional groups allow various national accounting standard setters to pool resources, develop standard-setting

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expertise and have a more powerful collective voice at the IASB. As such, they represent countervailing power to that of the US and the EU. AACSB: Written and oral communication Topic: 23.3 International convergence and harmonisation policy in Australia Learning Objective: LO 23.3 identify alternative approaches to the harmonisation of accounting standards Diff: (Hard)

9) Which of these statements is not correct concerning the adoption by Australia of international accounting standards?

A) Where words need to be changed in AASB adaptations of international standards to accommodate Australian legislation, these are identified by the use of 'Aus' paragraphs B) Australian standards, where there is no international equivalent, have been withdrawn C) The AASB is committed to ensuring that AASB equivalents will be issued for all international accounting standards D) None of the above, i.e., all are correct statements Answer: B AACSB: Application of knowledge Topic: 23.3 International convergence and harmonisation policy in Australia Learning Objective: LO 23.4 The benefits and costs of international harmonisation Diff: (Medium)

10) Australia adopted international accounting standards A) on 30 June 2005.

B) on 31 December 2005.

C) on 15 January 2005.

D) on 1 January 2005 Answer: D AACSB: Application of knowledge Topic: 23.3 International convergence and harmonisation policy in Australia Learning Objective: LO 23.5 describe the convergence and harmonisation policy adopted by the Australian Accounting Standards Board Diff: (Easy)

11) For which of the following are the International accounting standards are applicable?

A) only to for-profit entities in the private sector B) to for-profit and not-for-profit entities and government business enterprises C) to for-profit and not-for-profit entities but not to government business enterprises D) none of the above Answer: D AACSB: Application of knowledge Topic: 23.3 International convergence and harmonisation policy in Australia Learning Objective: LO 23.5 describe the convergence and harmonisation policy adopted by the Australian Accounting Standards Board Diff: (Hard)

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12) In 2005, the adoption of IFRSs had led to: A) greater transparency and comparability in financial reporting B) an increase in the cost of capital C) less market liquidity and cross-border investment D) an increase in equity Answer: A AACSB: Application of knowledge Topic: 23.4 The benefits and costs of international harmonisation Learning Objective: LO 23.6 outline the benefits resulting from the convergence process Diff: (Medium)

13) A notable exception was the accounting treatment of intangible assets for the IFRS resulted in a significant _________ in the recognition of internally generated intangibles compared to the Australian standard.

A) increase B) reduction C) elimination D) procurement Answer: B AACSB: Application of knowledge Topic: 23.4 The benefits and costs of international harmonisation Learning Objective: LO 23.7 outline the costs resulting from the convergence process Diff: (Medium)

14) The case against principles-based standards is that they ‘typically require preparers and auditors to exercise judgement in accounting for transactions and events without providing a ____________ to frame that judgement.

A) insufficient structure B) sufficient structure C) insufficient information D) sufficient information Answer: B AACSB: Application of knowledge Topic: 23.5 The principles-based approach adopted by the IASB Learning Objective: LO 23.8 outline the arguments for and against principles-based accounting standards Diff: (Medium)

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Henderson, Issues in Financial Accounting 16e Chapter 24: Foreign currency translation 1) Respectively, a company's domestic currency, functional currency and presentation currency are: i) ii) iii) iv)

the currency in which the financial statements must be presented the currency in which an entity is required to measure its financial performance and position the currency of the country of incorporation the currency of the country in which the majority of shareholders are located

A) i, ii, iv B) iii, iv, i C) iii, ii, i D) iv, iii, ii Answer: C AACSB: Application of knowledge Topic: 24.2 The unit of measurement Learning Objective: LO 24.1 compare and contrast functional currency with presentation currency Diff: (Medium)

2) The 'functional currency' of a business is: A) the currency of the country in which the business is incorporated B) the currency of the primary economic environment in which the company operates C) the currency in which the business presents its financial reports D) the currency of the country in which the majority of the shareholders of the business are located Answer: B AACSB: Application of knowledge Topic: 24.2 The unit of measurement Learning Objective: LO 24.1 compare and contrast functional currency with presentation currency Diff: (Medium)

3) From paragraph 9, indicators of an entity’s functional currency include which of the following: A) that mainly influences sales prices for goods and services B) of the country whose competitive forces and regulations mainly determine the sales price of its goods and services C) the currency that mainly influences labour, material and other costs of providing goods or services D) all of the above Answer: D AACSB: Application of knowledge Topic: 24.2 The unit of measurement Learning Objective: LO 24.1 compare and contrast functional currency with presentation currency Diff: (Easy)

4) The 'spot' rate of exchange for foreign currencies is: A) the rate at which currencies can be exchanged in a particular place (e.g., in Sydney or in New York) B) the rate of exchange between the Australian dollar and the US dollar C) the rate at which currencies can be exchanged on the New York foreign exchange market D) the rate at which currencies can be exchanged immediately Answer: D AACSB: Application of knowledge Topic: 24.3 Currency translation Learning Objective: LO 24.2 discuss the process of foreign currency translation Diff: (Easy)

5) The 'forward' rate of exchange for foreign currencies is: A) the rate of exchange between the Australian dollar and the US dollar B) the rate applicable to funds to be forwarded to an overseas country C) the rate at which currencies can be exchanged at some future date D) the rate at which currencies can be exchanged immediately Answer: C AACSB: Application of knowledge Topic: 24.3 Currency translation Learning Objective: LO 24.2 discuss the process of foreign currency translation Diff: (Easy)

6) Exchange rates between the Australian dollar and the US dollar are determined by: A) jointly by the Reserve Bank of Australia and the US Federal Reserve Board B) the Reserve Bank of Australia C) the Australian Department of Treasury D) the supply of and demand for the two currencies Answer: D AACSB: Application of knowledge Topic: 24.3 Currency translation Learning Objective: LO 24.2 discuss the process of foreign currency translation Diff: (Easy)

7) At the end of subsequent reporting periods, paragraph 23 requires that non-monetary items: A) non-monetary items that are measured in terms of historical cost in a foreign currency shall be translated using the exchange rate at the date of the transaction B) non-monetary items that are measured at fair value in a foreign currency shall be translated using the exchange rates at the date when the fair value was determined

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C) both A and B D) none of the above Answer: D AACSB: Application of knowledge Topic: 24.4 Translation of foreign currency transactions Learning Objective: LO 24.3 apply the requirements of AASB 121 ‘The Effects of Changes in Foreign Exchange Rates’ to account for foreign currency transactions, distinguishing between monetary and non-monetary items Diff: (Medium)

8) Which of the following methods have been suggested for translating foreign currency financial statements: A) historical method B) closing-return method C) current-return method D) all of the above Answer: A AACSB: Application of knowledge Topic: 24.4 Translation of foreign currency transactions Learning Objective: LO 24.3 apply the requirements of AASB 121 ‘The Effects of Changes in Foreign Exchange Rates’ to account for foreign currency transactions, distinguishing between monetary and non-monetary items Diff: (Easy)

9) The main objective of translating the financial statements of foreign operations into Australian dollars is to: A) compare the performance of the foreign subsidiary's managers with their Australian counterparts B) meet the requirements of tax legislation C) incorporate the results of the foreign operations into the consolidated financial reports D) evaluate the performance of the foreign subsidiary's managers Answer: C AACSB: Application of knowledge Topic: 24.4 Translation of foreign currency transactions Learning Objective: LO 24.3 apply the requirements of AASB 121 ‘The Effects of Changes in Foreign Exchange Rates’ to account for foreign currency transactions, distinguishing between monetary and non-monetary items Diff: (Medium)

10) AASB 121 requires that non-monetary items are measured, subsequent to their initial recognition, at: A) the exchange rate at the date of transaction B) the exchange rate at the date of that the fair value was determined C) an average exchange rate at the end of the reporting period D) both A and B can apply Answer: D AACSB: Application of knowledge Topic: 24.4 Translation of foreign currency transactions Learning Objective: LO 24.3 apply the requirements of AASB 121 ‘The Effects of Changes in Foreign Exchange Rates’ to account for foreign currency transactions, distinguishing between monetary and non-monetary items

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Diff: (Medium)

11) Maypole Pty Ltd is an Australian company which has a functional currency of Australian dollars. Appleflower Pty Ltd is a US company which is a wholly owned subsidiary of Maypole. Its functional currency is US dollars. To comply with AASB 121, Maypole must translate the financial statements of Appleflower into Australian dollars to report in the consolidated groups financial statements.

Appleflower has land which it acquired on 17 October 20X0 for US$ 500 000. The relevant exchange rates are as follows: Spot rate at date of acquisition Spot rate at 30 June 20X1 Average rate for the 20X1 financial year

AU$ 1 = US$ 0.80 AU$ 1 = US$ 0.85 AU$ 1 = US$ 0.82

The amount which should be recorded in the Maypole consolidated group for the land for the 20X1 financial year (assuming no fair value adjustments have occurred).is: A) AU$ 425 000 B) AU$ 410 000 C) AU$ 400 000 D) AU$ 500 000 Answer: A AACSB: Application of knowledge Topic: 24.4 Translation of foreign currency transactions Learning Objective: LO 24.3 apply the requirements of AASB 121 ‘The Effects of Changes in Foreign Exchange Rates’ to account for foreign currency transactions, distinguishing between monetary and non-monetary items Diff: (Medium)

12) When translating the assets and liabilities from functional currency to presentation currency, AASB 121 requires that: A) the exchange rates at the dates of transaction are used B) the exchange rate as at the end of the reporting period is used C) an average exchange rate for the year of reporting be used D) either a or c can be used Answer: D AACSB: Application of knowledge Topic: 24.4 Translation of foreign currency transactions Learning Objective: LO 24.3 apply the requirements of AASB 121 ‘The Effects of Changes in Foreign Exchange Rates’ to account for foreign currency transactions, distinguishing between monetary and non-monetary items Diff: (Medium)

13) The requirements for AASB 121 (para 39) include which of the following:

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A) assets and liabilities for each statement of financial position presented (i.e. including comparatives) shall be translated at the closing rate at the date of that statement of financial position B) income and expenses for each statement presenting profit or loss and other comprehensive income (i.e. including comparatives) shall be translated at exchange rates at the dates of the transactions C) all resulting exchange differences shall be recognised in other comprehensive income D) all of the above Answer: D AACSB: Application of knowledge Topic: 24.5 Translation of foreign operations Learning Objective: LO 24.4 apply the requirements of AASB 121 ‘The Effects of Changes in Foreign Exchange Rates’ in accounting for foreign operations Diff: (Medium)

14) AASB 121 requires the translation of financial statements in which of the following circumstances? i)

if the domestic currency of the foreign operation is not the same as the functional currency of its parent ii) if the functional currency of the foreign operation is not the same as the functional currency of its parent iii) if the functional currency of the economic entity is not its presentation currency iv) if the presentation currency of the economic entity is not its functional currency A) i and ii B) ii and iii C) iii and iv D) i and iii Answer: B AACSB: Application of knowledge Topic: 24.5 Translation of foreign operations Learning Objective: LO 24.4 apply the requirements of AASB 121 ‘The Effects of Changes in Foreign Exchange Rates’ in accounting for foreign operations Diff: (Medium)

15) A transaction that is denominated on or requires settlement in a foreign currency is: A) a forward agreement B) a foreign currency transaction C) a spot rate D) a hedging instrument Answer: B AACSB: Application of knowledge Topic: 24.6 Hedging of transactions Learning Objective: LO 24.5 explain the nature of hedging transactions Diff: (Easy)

16) Which of the following represents three criteria of which all must be met by a hedging relationship for it to

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qualify for hedge accounting?

A) the hedging relationship consists only of eligible hedging instruments and eligible hedged items B) at the inception of the hedging relationship there is formal designation and documentation of the hedging relationship and the entity’s risk management objective and strategy for undertaking the hedge C) the hedging relationship meets hedge effectiveness requirements D) all of the above Answer: D AACSB: Application of knowledge Topic: 24.6 Hedging of transactions Learning Objective: LO 24.5 explain the nature of hedging transactions Diff: (Medium)

17) A way in which a foreign currency transaction can be hedged is: A) Buy (or sell) foreign currency at the date of the initial transaction B) Enter into a forward rate agreement to fix the cost of the currency at a fixed date in the future C) Enter into a transaction which neutralises the risk (e.g., have accounts receivable and accounts payable in the same currency with the same payment dates) D) All of the above Answer: D AACSB: Application of knowledge Topic: 24.6 Hedging of transactions Learning Objective: LO 24.5 explain the nature of hedging transactions Diff: (Easy)

18) An effective foreign currency hedging transaction will: A) largely eliminate the risk of loss but allow a gain to be made on a foreign exchange transaction B) require the services of a banker or similar financial intermediary C) largely eliminate both the risk of loss and the possibility of gain on a foreign exchange transaction D) involve both A and C above Answer: C AACSB: Application of knowledge Topic: 24.6 Hedging of transactions Learning Objective: LO 24.5 explain the nature of hedging transactions Diff: (Medium)

19) Once an entity has designated the hedging relationship and it qualifies for hedge accounting, it is classified as which one of three types of relationships: A) a fair value excess capital B) a cash flow analysis C) the hedge of a net investment in a foreign operation as defined in AASB 121 (para. 86) D) a fair value statement Answer: C

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AACSB: Application of knowledge Topic: 24.6 Hedging of transactions Learning Objective: LO 24.6 apply the requirements of AASB 9 ‘Financial Instruments’ in accounting for hedging transactions Diff: (Easy)

20) In relation to cash flow hedges, AASB 7 requires that an entity must disclose separately which of the following?

A) the amount reclassified from the statement of owners’ equity B) hedge effectiveness statement C) hedging gains or losses of the reporting that were recognised in other comprehensive income D) hedge accountability statement Answer: C AACSB: Application of knowledge Topic: 24.6 Hedging of transactions Learning Objective: LO 24.6 apply the requirements of AASB 9 ‘Financial Instruments’ in accounting for hedging transactions Diff: (Medium)

21) Explain, using simple numerical examples, the hedging of currency risk.

Answer: Entities may reduce the uncertainty associated with foreign currency transactions by entering into other transactions that offset or hedge that exposure. In general terms, there are three types of hedging transactions to remove uncertainty from foreign currency operations. 1 The simplest form of hedge is to buy (or sell) foreign currency at the date of the initial transaction in anticipation of a future payment. Suppose, for example, that an entity purchases goods and agrees to pay US$10 000 in 30 days’ time. At the date of purchase, the exchange rate is A$1 5 US$0.70. The entity would record the purchase and the obligation at the Australian equivalent (US$10 000 4 0.70 5 A$14 285) as follows: Purchases Dr $14 285 Accounts payable Cr $14 285 On the same date as the transaction, the purchasing entity could acquire US$10 000 for A$14 285 and place it on deposit in a US bank. It would record the following: Deposit at US bank Dr $14 285 Cash at bank Cr $14 285 This is a hedging transaction. On settlement, the Australian purchaser would draw a cheque for US$10 000 on the US bank and send it to the US creditor. The general journal entry would be as follows: Accounts payable Dr $14 285 Deposit at US bank Cr $14 285 By entering into the hedging transaction, the Australian purchaser is unaffected by any changes in the exchange rate. It should be noted that the hedge removes uncertainty about the outcome. It does not, however, eliminate risk. The Australian entity has taken a risk that the Australian dollar will not strengthen and reduce the amount that would be payable on settlement date. By eliminating the possibility of an exchange loss, the company has also lost any chance of an exchange gain.

AACSB: Written and oral communication Topic: 24.6 Hedging of transactions Learning Objective: LO 24.6 apply the requirements of AASB 9 ‘Financial Instruments’ in accounting for hedging transactions Diff: (Hard)

22) Explain, using simple numerical example(s), how hedging a foreign currency transaction can remove uncertainty about the outcome of the transaction.

Answer: Another form of hedge is a transaction that neutralises the risk of loss. For example, if an Australian

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entity sells goods to a US customer for US$10 000, it could enter into another transaction to purchase goods for US$10 000 with a settlement date as close as possible to that of the first transaction. Any exchange gains or losses on one transaction would be offset by losses or gains on the other. It should be noted that there will not be an exact offset as slightly different exchange rates would apply to the transactions. Foreign currency will be purchased in one transaction and sold in the other and, as we note in section 24.3, buying and selling exchange rates differ slightly.

The opportunities for using such neutralising transactions as hedges are limited to a few entities that have both foreign currency buying and selling, or borrowing and lending transactions.

AACSB: Written and oral communication Topic: 24.6 Hedging of transactions Learning Objective: LO 24.6 apply the requirements of AASB 9 ‘Financial Instruments’ in accounting for hedging transactions Diff: (Hard)

23) There are four methods suggested for translating foreign currency financial statements. Identify these four methods and explain the translation methods used under each.

Answer: HISTORICAL METHOD The historical method generally requires that statement of financial position and statement of comprehensive income items are translated at the historical rate appropriate for that item. The historical rate is the one that was current when the transaction or event occurred. In particular, statement of comprehensive income items are translated at the exchange rates prevailing at the time the income was earned and the expenses incurred. For example, depreciation would be translated at the exchange rate in effect when the depreciable assets were acquired (or revalued), and wages and salaries would be translated using the rates in effect on the payment dates. However, it is common practice for a single representative rate, such as the average of the month-end rates, to be used to translate all statement of comprehensive income items other than depreciation. For the translation of statement of financial position items, a distinction is drawn between monetary assets and liabilities, which are translated at the exchange rate current at the end of the reporting period, and non-monetary assets and liabilities, which are translated at the relevant historical exchange rates. The components of equity are also translated at the relevant historical exchange rates. CLOSING-RATE METHOD The closing-rate method translates all statement of financial position items and all statement of comprehensive income items, including depreciation, at the exchange rate at the close of a reporting period (the current exchange rate). TEMPORAL METHOD The temporal method requires that items in both the statement of comprehensive income and the statement of financial position are translated at the rates that were current at the time the transactions occurred.

For example, assets and liabilities that are recorded at historical cost in the foreign operation’s statement of financial position are translated at the appropriate historical exchange rate. If, however, a non-monetary asset is revalued, the exchange rate at the date of the revaluation is now relevant. Assets and liabilities that are stated at fair value are translated at the current exchange rate. For statement of comprehensive income items such as sales revenue, purchases and operating expenses, the average rate for the period is usually applied. For depreciation expense, the appropriate rate is the one that was current when the depreciable asset was acquired (or revalued); for opening and closing inventory, the rates that were current when the inventory was acquired are used. The use of different translation rates means that the temporal method results in a translation gain or loss (exchange difference). This gain or loss, which is labelled ‘foreign exchange translation gain (or loss)’, is included in the statement of comprehensive income as part of profit.

CURRENT-RATE METHOD The current-rate method is a variation of the closing-rate method. In its ‘pure’ form, statement of financial position items are translated at the exchange rate at the end of the reporting period (current exchange rate); but statement of comprehensive income items are translated at the exchange rate current when the transactions occurred. Keeping track of the dates when transactions occurred is time-consuming and costly, so

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it is common practice to use an average rate for the period. The use of one rate for statement of comprehensive income items and another for statement of financial position items means that there will usually be a gain or a loss on translation which, in this case, is not reported as a part of profit but as a ‘foreign currency translation reserve’, an equity item in the statement of financial position.

AACSB: Written and oral communication Topic: 24.7 Other Issues Learning Objective: LO 24.6 apply the requirements of AASB 9 ‘Financial Instruments’ in accounting for hedging transactions Diff: (Medium)

24) AASB 121 requires an entity to measure its financial performance and financial position in its functional currency. What are the indicators of a functional currency? Is the functional currency the same as the presentation currency? Explain your answers.

Answer: Paragraphs 51 to 57 of AASB 121 specify the information about foreign currency translation that must be disclosed in the financial statements. These requirements are summarised below. 52 An entity shall disclose: (a) the amount of exchange differences recognised in profit or loss except for those arising on financial instruments measured at fair value through profit or loss in accordance with AASB 9; and (b) n et exchange differences recognised in other comprehensive income and accumulated in a separate component of equity, and a reconciliation of the amount of such exchange differences at the beginning and end of the period. 53 When the presentation currency is different from the functional currency, that fact shall be stated, together with disclosure of the functional currency and the reason for using a different presentation currency. 54 When there is a change in the functional currency of either the reporting entity or a significant foreign operation, that fact and the reason for the change in functional currency shall be disclosed. 55 When an entity presents its financial statements in a currency that is different from its functional currency, it shall describe the financial statements as complying with Australian accounting standards only if they comply with all the requirements of Australian accounting standards, including the translation method set out in paragraphs 39 and 42.

AACSB: Written and oral communication Topic: 24.7 Other Issues Learning Objective: LO 24.6 apply the requirements of AASB 9 ‘Financial Instruments’ in accounting for hedging transactions Diff: (Medium)

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Henderson, Issues in Financial Accounting 16e Chapter 25: Accounting for corporate 1) Corporate social responsibility is best thought of as: A) the need to meet the objective of maximising the wealth of a company's ordinary shareholders B) adopting safe work practices for all employees C) consideration of the impact of a company's activities on the welfare of society as a whole D) producing safe, as well as reliable, products Answer: C AACSB: Application of knowledge Topic: 25.1 Introduction Learning Objective: LO 25.1 define social responsibility and assess the role of corporate social responsibilities in the context of the corporate objective of maximising shareholders’ wealth Diff: (Easy)

2) Triple-bottom line reporting involves giving information on a company's: A) economic, environmental, and social activities B) economic, voluntary, and human rights activities C) environmental, social, and community activities D) environmental, social, and political activities Answer: A AACSB: Application of knowledge Topic: 25.1 Introduction Learning Objective: LO 25.1 define social responsibility and assess the role of corporate social responsibilities in the context of the corporate objective of maximising shareholders’ wealth Diff: (Medium)

3) The 'social performance' aspect of sustainability (or triple-bottom line) reporting is most likely to include details of: A) total wages and salaries paid B) investments in employee health and safety C) steps taken to reduce greenhouse gas emissions D) all of the above Answer: B AACSB: Application of knowledge Topic: 25.1 Introduction Learning Objective: LO 25.1 define social responsibility and assess the role of corporate social responsibilities in the context of the corporate objective of maximising shareholders’ wealth Diff: (Easy)

4) The approach that justifies corporate expenditure on socially responsible activities by suggesting that there is an implied social contract between a company and society that ensures the company's validity and survival as long as its activities are consistent with society's values is: A) enlightened self-interest

B) stakeholder management strategy C) legitimacy theory D) ethical universalism Answer: C AACSB: Application of knowledge Topic: 25.1 Introduction Learning Objective: LO 25.1 define social responsibility and assess the role of corporate social responsibilities in the context of the corporate objective of maximising shareholders’ wealth Diff: (Medium)

5) The statement concerning social responsibility reporting in Australia that is not correct is: A) Australian companies have been at the forefront of reporting and are well ahead of their counterparts in Europe and the US B) since the 1980s there has been an increasing trend in the quantity and quality of disclosure C) companies tend to disclose more positive than negative information D) none of the above, i.e., all are correct statements Answer: A AACSB: Application of knowledge Topic 25.1 Introduction Learning Objective: LO 25.1 define social responsibility and assess the role of corporate social responsibilities in the context of the corporate objective of maximising shareholders’ wealth Diff: (Medium)

6) 'Enlightened self-interest' is usually defined as: A) engaging in corporate philanthropy, such as by making donations to universities and public charitable institutions B) incurring costs that promote benefits for society as a whole but which it is hoped will generate benefits for the company concerned that will exceed those costs C) taking decisions that benefit consumers and the general community, as well as benefiting shareholders of the company concerned D) taking decisions that benefit consumers and the general community Answer: B AACSB: Application of knowledge Topic: 25.2 Motivations for corporate social responsibility reporting Learning Objective: LO 25.1 define social responsibility and assess the role of corporate social responsibilities in the context of the corporate objective of maximising shareholders’ wealth Diff: (Medium)

7) Businesses are most likely to act in a socially responsible manner because: A) their shareholders demand that they act in this way B) competitors are acting in a socially responsible manner C) the Corporations Law requires them to report in relation to any significant environmental regulation to which they are subject D) consumers demand that they act in this way

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Answer:

D

AACSB: Application of knowledge Topic: 25.2 Motivations for corporate social responsibility reporting Learning Objective: LO 25.1 define social responsibility and assess the role of corporate social responsibilities in the context of the corporate objective of maximising shareholders’ wealth Diff: (Hard)

8) 'A conflict of interest can be argued to exist between maximisation of shareholder's wealth and social responsibility'. Discuss this statement with respect to Australian corporations.

Answer: Advocates for maximising shareholders’ wealth suggest that socially responsible activities, such as pollution abatement, should not be undertaken unless they are consistent with the shareholders’ best interests.

They suggest that management should confine itself to ensuring the efficient operation of the company in the interests of shareholders. For example, if a detergent manufacturer installed expensive equipment to reduce pollution, the benefits would accrue largely to outsiders. From society’s point of view, the benefits may be substantial. However, from the company’s perspective, unless it can recover the costs of pollution abatement from its customers by charging higher prices, the costs are unlikely to be justified from a financial standpoint. In fact, it would probably place the company at a disadvantage compared with competitors who did not install the equipment. Thus, it will likely not be in the shareholders’ best interest because, other things being equal, the costs of pollution abatement will result in a lower market price for the company’s shares. The possibility of a reduction in share price will be reinforced if competitors fail to take similar action to reduce pollution and consequently are more profitable.

AACSB: Written and oral communication Topic: 25.2 Motivations for corporate social responsibility reporting Learning Objective: LO 25.1 define social responsibility and assess the role of corporate social responsibilities in the context of the corporate objective of maximising shareholders’ wealth Diff: (Hard)

9) Describe three means by which governments may take action that is likely to require businesses to act in a socially responsible manner. For each of these three means, explain what considerations are likely to influence a government decision to use that particular method in preference to the others.

Answer: In Australia, there are no accounting standards requiring companies to report on their environmental and social performance. The only legal requirements in Australia are found in the Corporations Act 2001 and the National Greenhouse and Energy Reporting Act 2007 (NGER Act). The first requirement stems from section 299(1)(f) of the Corporations Act which stipulates that companies include in their Directors’ Report information about whether the entity’s operations are subject to any particular and significant regulation and, if so, details of the entity’s performance in relation to the regulation. In addition, sections 1013(A)–(F) of the Act require providers of financial products with an investment component to disclose the extent to which labour standards and environmental, social or ethical considerations are taken into account in investment decision making. To illustrate the required disclosure in accordance with section 299(1)(f), the following Accounting in Focus box contains an extract from the Directors’ Report of Amcor, a listed Australian company operating in the materials, containers and packaging sectors. In the last paragraph of the environmental performance and reporting section of the Directors’ Report, it is noted that no material breaches of environmental regulations occurred. The second environmental performance reporting requirement that is operational in Australia stems from the NGER Act. Liable entities must report their annual greenhouse gas emissions and energy usage to the Clean Energy Regulator. (We discuss the requirements to report greenhouse gas emissions further in section 25.4.) Compliance with the NGER reporting

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requirements is noted in the third paragraph of Amcor’s Directors’ Report. In the absence of accounting regulations, Australian companies have undertaken accounting for corporate social responsibilities on a voluntary basis.

AACSB: Written and oral communication Topic: 25.2 Motivations for corporate social responsibility reporting Learning Objective:LO 25.2 explain the different motivations for corporate social responsibility reporting Diff: (Medium)

10) Describe two possible approaches to the reporting of socially responsible activities by businesses. Explain the difficulties or weaknesses in these approaches. Then suggest ways in which these difficulties or weaknesses might be overcome or reduced in each case.

Answer: The literature on the theory of the firm suggests that the primary role of a company’s management is the formulation and execution of policies that lead to the maximisation of shareholders’ wealth. Advocates for maximising shareholders’ wealth suggest that socially responsible activities, such as pollution abatement, should not be undertaken unless they are consistent with the shareholders’ best interests. They suggest that management should confine itself to ensuring the efficient operation of the company in the interests of shareholders. For example, if a detergent manufacturer installed expensive equipment to reduce pollution, the benefits would accrue largely to outsiders. From society’s point of view, the benefits may be substantial. However, from the company’s perspective, unless it can recover the costs of pollution abatement from its customers by charging higher prices, the costs are unlikely to be justified from a financial standpoint. In fact, it would probably place the company at a disadvantage compared with competitors who did not install the equipment. Thus, it will likely not be in the shareholders’ best interest because, other things being equal, the costs of pollution abatement will result in a lower market price for the company’s shares. The possibility of a reduction in share price will be reinforced if competitors fail to take similar action to reduce pollution and consequently are more profitable. In short, there is apparently little incentive for the detergent manufacturer to install pollution abatement equipment. However, this does not mean that the manufacturer will fail to install the equipment. If, for example, the manufacturer knows of impending legislation to impose large penalties on polluters, it may install the equipment now in order to avoid having to do so at a later date, probably at greater cost and with disruption to production.2 Further, it has been argued by Campbell that only companies with excess corporate resources will be lobbied by external parties to undertake CSR investments AACSB: Written and oral communication Topic: 25.2 Motivations for corporate social responsibility reporting Learning Objective: LO 25.2 explain the different motivations for corporate social responsibility reporting Diff: (Hard)

11) The extent to which mandatory reporting of corporate environmental and social activities is useful can be questioned because: A) it is too difficult to measure the costs of such activities B) it may become merely a public relations or similar self-justifying exercise C) it is a waste of time forcing companies to report D) all of the above Answer: B AACSB: Application of knowledge Topic: 25.3 Accounting for corporate social responsibilities Learning Objective: LO 25.3 describe the extent of reporting by entities on their corporate social responsibilities Diff: (Easy)

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12) Some requirements to account for corporate social responsibility in Australia are contained in: A) AASB 1018 B) the Corporations Act C) the Framework D) There are no legal, accounting standard or Framework requirements for reporting on corporate social responsibility in Australia Answer: B AACSB: Application of knowledge Topic: 25.3 Accounting for corporate social responsibilities Learning Objective: LO 25.3 describe the extent of reporting by entities on their corporate social responsibilities Diff: (Medium)

13) The quantitative reporting of a company's socially responsible activities may not be especially useful because: A) there can be difficulty in allocating cost accurately to different activities B) it provides no indication of the effectiveness of the expenditure incurred C) much of the expenditure incurred may simply be the result of complying with legal requirements or enforcement action by government authorities D) all of the above Answer: D AACSB: Application of knowledge Topic: 25.3 Accounting for corporate social responsibilities Learning Objective: LO 25.4 identify some proposed methods of accounting for corporate social responsibilities and understand how these methods may be implemented Diff: (Medium)

14) The major difficulty in implementing the full cost reporting approach to reporting a company's socially responsible activities is: A) auditing the resulting cost-benefit report B) calculating the cost of such activities C) calculating the value of the benefits D) all of the above Answer: C AACSB: Application of knowledge Topic: 25.3 Accounting for corporate social responsibilities Learning Objective: LO 25.4 identify some proposed methods of accounting for corporate social responsibilities and understand how these methods may be implemented Diff: (Medium)

15) When companies adopt social reporting by estimating and considering the cost of purchasing the most

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sustainable alternative on the market and the cost of remediation of environmental effects arising from the operations, they are applying the: A) maintenance cost approach B) damage cost approach C) asset valuation approach D) none of the above Answer: A AACSB: Application of knowledge Topic: 25.3 Accounting for corporate social responsibilities Learning Objective: LO 25.4 identify some proposed methods of accounting for corporate social responsibilities and understand how these methods may be implemented Diff: (Hard)

16) Economic performance refers to traditional business profit as well as issues such as the long-term sustainability of which of the following?

A) a company’s expenses B) the demand for its product C) its pricing and profit losses D) elasticity of the market price Answer: B AACSB: Application of knowledge Topic: 25.3 Accounting for corporate social responsibilities Learning Objective: LO 25.5 explain sustainability reporting Diff: (Easy)

17) General standard disclosures are comprised of which of the following?

A) strategy and analysis B) organisational profile C) report profile D) all of the above Answer: D AACSB: Application of knowledge Topic: 25.3 Accounting for corporate social responsibilities Learning Objective: LO 25.5 explain sustainability reporting Diff: (Easy)

18) The most common approach adopted by Australian corporations in accounting for corporate social responsibilities is: A) descriptive performance reporting B) quantitative reporting C) full cost reporting D) asset valuation approach

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Answer:

A

AACSB: Application of knowledge Topic: 25.3 Accounting for corporate social responsibilities Learning Objective: LO 25.5 explain sustainability reporting Diff: (Easy)

19) The term used to describe any group or individual who can be affected by or is affected by the achievement of the organisation's objectives is: A) shareholder B) entity C) stakeholder D) lobby group Answer: C AACSB: Application of knowledge Topic: 25.3 Accounting for corporate social responsibilities Learning Objective: LO 25.5 explain sustainability reporting Diff: (Easy)

20) The IRC identifies which of the following as capital?

A) production capital B) human capital C) waste capital D) all of the above Answer: B AACSB: Application of knowledge Topic: 25.3 Accounting for corporate social responsibilities Learning Objective: LO 25.6 explain integrated reporting Diff: (Easy)

21) When an entity's net emissions are less than the permits they hold, at the end of the year they: A) must forfeit the excess credits B) can sell the excess credits to other entities C) can bank the excess credits for future use D) B and C above Answer: D AACSB: Application of knowledge Topic: 25.4 Accounting for carbon Learning Objective: LO 25.7 discuss developments in accounting for carbon Diff: (Medium)

22) When an entity's net emissions are greater than the permits they hold, at the end of the year they may: A) purchase approved carbon offsets B) purchase unused emission permits from other entities

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C) have to pay an emissions fee to the government D) all of the above Answer: D AACSB: Application of knowledge Topic: 25.4 Accounting for carbon Learning Objective: LO 25.7 discuss developments in accounting for carbon Diff: (Medium)

23) The Australian government ratified the Kyoto Protocol on: A) 3 December 2007 B) 1 January 2005 C) 11 December 1997 D) 16 February 2005 Answer: A AACSB: Application of knowledge Topic: 25.4 Accounting for carbon Learning Objective: LO 25.7 discuss developments in accounting for carbon Diff: (Easy)

24) The National Greenhouse and Energy Reporting System (NGERS) is currently administered by the Clean Energy Regulator and aims to A) inform government policy formulation and the Australian public.

B) avoid the duplication of similar reporting requirements in the states and territories.

C) help meet Australia’s international reporting obligations D) all of the above.

Answer: D AACSB: Application of knowledge Topic: 25.4 Accounting for carbon Learning Objective: LO 25.7 discuss developments in accounting for carbon Diff: (Medium)

25) Explain the three components of the Emissions Reduction Fund (ERF).

Answer: Launched in July 2014, the ERF has three components: crediting, purchasing and safeguarding emissions reductions. The ‘crediting’ element requires interested businesses to identify emissions reductions projects that are additional to their ‘business as usual’ activities. Examples might include capturing landfill gas, reducing waste coal mine gas and managing fi res in savannah grassland. The second, ‘purchasing’, element involves an auction run by the Clean Energy Regulator. The Clean Energy Regulator was established on 2 April 2012 and is an independent statutory authority administering various climate change initiatives of the Commonwealth Environment Department. At the auction, businesses submit their proposed carbon abatement projects, setting a bid price they are willing to accept. In return, the Clean Energy Regulator acquires the lowest-priced carbon emissions. The selected businesses must deliver the agreed carbon reductions at the auction bid price in order to receive payment from the Clean Energy Regulator. The final ‘safeguarding’ stage is focused on businesses which report their emissions as part of the National Greenhouse and Energy Reporting System (NGERS), AACSB: Written and oral communication

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Topic: 25.4 Accounting for carbon Learning Objective: LO 25.7 discuss developments in accounting for carbon Diff: (Medium)

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Henderson, Issues in Financial Accounting 16e Chapter 26: Ethics in accounting 1) Which relationship between accountants and the people with whom they interact is a fundamental motivation for ethical considerations in accounting?

A) professional B) personal C) fiduciary D) proletarian Answer: C AACSB: Ethical Understanding and Reasoning Topic: 26.1 Introduction Learning Objective: LO 26.1 Explain the nature of ethics Diff: (Easy)

2) Ethical issues pertain primarily to A) individuals.

B) those in the financial industry.

C) licensed professionals.

D) communities.

Answer: D AACSB: Ethical Understanding and Reasoning Topic: 26.2 What is ethics?

Learning Objective: LO 26.1 Explain the nature of ethics Diff: (Easy)

3) Where a conflict of interest arises for an accountant so that safeguarding the interest of one client may cause harm to another client, it is generally accepted that rules of professional ethical conduct require that: A) the accountant should not continue to advise both clients B) the accountant should ensure that information about either client is not made available by anyone to the other client C) the accountant should ensure that information about either client is not made available by anyone to the client who might be harmed by the information D) the accountant should not continue to advise either client Answer: A AACSB: Ethical Understanding and Reasoning Topic: 26.3 Bases for ethical judgement Learning Objective: LO 26.2 distinguish between rules-based and values-based approaches to ethics Diff: (Medium) 4) Briefly describe the classes of teleological theories that have been used to examine ethical behaviour.

Answer: We consider four groups of teleological theories of ethical behaviour. ETHICAL EGOISM This class of teleological theories is based on a belief that people should act in a way that maximises the ‘good’ of the person making the decision. The effect of that behaviour on other people is of much less importance. For example, ethical

egoists would not stop to help the victim of a road accident if it would make them late for an appointment. They are not concerned with rules or accepted behaviour; they behave in a way that is in their own interest. One theory in the ethical egoist group is hedonism. Ethical behaviour for a hedonist would be that which gratifies a desire for pleasure and minimises pain. Even within hedonism, there are several theories. For example, there is the Cyrenaic school founded by Aristippus (435–356 BCE), which advocated immediate pleasure as the chief goal of life. Ethical behaviour according to advocates of this school means enjoying every momentary pleasure, lest the opportunity be lost forever. Epicurus (347–270 BCE) founded a less extreme school of thought. The Epicureans suggested that some pleasures should be forgone because they may have longer-term undesirable consequences. They had a longer-term perspective of consequences than the Cyrenaic school. Epictetus (50–120), on the other hand, argued that life’s greatest goods were contentment, tranquillity, serenity and composure. Ethical behaviour for Epictetus avoided conflict, anger and concern. Probably the most relevant ethical egoist theory for this discussion is the more modern utilitarian philosophy of Jeremy Bentham (1748–1832). Utilitarianism defines ‘good’ as ‘utility’, which is any source of pleasure, happiness, benefit, good or advantage, or any means of prevention of pain, evil and unhappiness. These sources of good can be summed to give a measure of utility. Utility could be increased by adding to any component or reduced by deducting from any component. For example, the utility arising from theft would be increased by the money obtained, but reduced by the unhappiness caused by being dishonest. Bentham devised the hedonistic calculus, which provided characteristics of pleasure that could be measured so that a person could rank competing pleasures and choose the one that promised the greatest utility. Bentham also suggested four sanctions that would prevent a person from exceeding the bounds of propriety in seeking pleasure: • the physical sanction – a glutton may suffer pain and nausea; • the political sanction – a thief may be gaoled; • the popular sanction – a liar may be ostracised by society; and • the religious sanction – a sinner may be punished by God in this world or the next. Bentham argued that, when individuals seek to maximise their own utility, the community’s utility is also maximised. The community’s utility is simply the sum of the utilities of the teleological theories Ethical theories that focus on the consequences of decisions and behaviour of individual members of the community. Adding to the utility of an individual adds the same amount to the utility of the community. Bentham’s utilitarian theory became a basic premise for classical economics. It should be noted, however, that Bentham’s utilitarianism was a normative theory, whereas classical economics assumed that it described the actual behaviour of individuals who acted to maximise utility. Adam Smith (1723–1790) also advocated the pursuit of maximum self-interest. He believed that such a policy pursued by individuals would lead to the maximisation of society’s interests. He argued that, in pursuing self-interest, an individual’s behaviour was guided by an ‘invisible hand’ that ensured compatibility between the interests of the individual and those of society. The invisible hand restrained the individual from behaviour that would damage the interests of society. Restricted egoism is a mutation of ethical egoism. It suggests that the behaviour of individuals seeking to maximise their self-interest should be constrained by the law and the conventions of competition and fair play. Restricted egoism would not allow breaking the law or the violation of accepted codes of behaviour in pursuing self-interest. The best-known contemporary advocate of restricted egoism in business is probably Milton Friedman, who wrote: there is one and only one social responsibility of business – to use its resources and engage in activities designed to increase its profits so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception or fraud.

ETHICAL ELITISM This group of teleological theories proposes that society is stratified and that ethical behaviour should maximise the interests of only the top stratum, or the elite. Thus, sending thousands of soldiers to their deaths in a battle would be ethical behaviour if it improved the general’s reputation. The dismissal of a ‘mere’ accounts clerk to protect the reputation of the chief accountant would be regarded as ethical behaviour by a society

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that subscribed to ethical elitism. ETHICAL PAROCHIALISM This teleological theory assumes that ethical behaviour should protect the interests of the individual’s ‘in-group’. The in-group could be the individual’s family, friends, professional associates, religion, gender or cultural group. Ethical parochialism would regard lying to protect a family member as ethical behaviour. Similarly, preferring as employees’ former students from the employer’s old school would be ethical to those who believe in ethical parochialism. It has been suggested that some professional codes of ethics are based on an implicit assumption of ethical parochialism. For example, a code of ethics may be designed primarily to protect the members of the profession from competition and may be much less concerned with obligations to those outside the profession.

ETHICAL UNIVERSALISM The fourth type of teleological theory suggests that ethical behaviour should be concerned with the good of all humankind and that individuals are all of equal value. Any behaviour that pursues the interests of an individual or a particular group of individuals at the expense of others would be unethical. The best-known example of an ethical universal theory is the utilitarianism of John Stuart Mill (1806–1873). Mill modified Bentham’s theory by making ethical behaviour that which provided the greatest good to the greatest number. Mill’s greatest happiness principle meant that an individual should act not to maximise personal utility, but to maximise the utility of the community as a whole. In its extreme form, ethical universalism would accept an individual being killed to save the lives of many others. Although the individual who was killed suffered a considerable loss of utility, the increase in the utility of those who survived more than compensated for that loss. Mill’s greatest happiness principle has been used in the political sphere to justify policies such as progressive taxation rates and means-tested social security payments. Mill suggested that people should stop acting as individuals attempting to maximise personal utility and form collectives with collective interests. When this happens, individuals are more likely to view a collective’s interests as their own. Mill’s utilitarianism is probably regarded as the most acceptable of the teleological theories. It replaces blatant self-interest with a fairer system more attuned to community standards.

It seems fair to suggest, however, that those who choose unethical behaviour are implicitly adopting either an ethical egoist or an ethical parochialist philosophy. As we see later, these particular normative ethical theories are not accepted by the general community.

AACSB: Ethical Understanding and Reasoning Topic: 26.4 Foundational ethical principles Learning Objective: LO 26.3 describe the nature and limitations of ethical relativism Diff: (Hard)

5) Which of the following is NOT part of the Foundational Ethical Principles that each community derives its own values?

A) honesty B) justice C) beneficence D) respect for persons Answer: A AACSB: Ethical Understanding and Reasoning Topic: 26.4 Foundational ethical principles Learning Objective: LO 26.4 describe the foundational ethical principles and their application Diff: (Medium)

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6) Which of the following does not fall under the ethical principle of “beneficence”?

A) objectivity B) professional behaviour C) confidentiality D) professional competence and due care Answer: A AACSB: Ethical Understanding and Reasoning Topic: 26.4 Foundational ethical principles Learning Objective: LO 26.4 describe the foundational ethical principles and their application Diff: (Medium) 13) In research on ethical issues faced by accountants in Australia, it was found that the three most common ethical issues faced were: A) overcharging, professional competence, conflicts of interest B) confidentiality, honesty, admitting to mistakes C) conflicts of interest, client proposals to manipulate financial statements and client proposals for tax evasion D) using inside information for personal gain, client proposals for tax evasion, whistle blowing Answer: C AACSB: Ethical Understanding and Reasoning Topic: 26.5 Competence in ethics Learning Objective: LO 26.5 describe the three core skills in applied ethics Diff: (Medium) 7) The advantage of professions, such as accountants, having self-regulatory codes of ethics is: A) they are likely to be more lenient than legal rules and regulations enforced by the courts B) they can forestall action by government regulatory bodies such as the Australian Securities and Investments Commission C) they are developed and imposed by professionals who understand the problems of practitioners D) All of the above are advantages Answer: C AACSB: Ethical Understanding and Reasoning

Topic: 26.5 Competence in ethics Learning Objective: LO 26.6 describe the fundamental ethical principles of the accounting profession Diff: (Medium)

8) Self-regulatory codes of ethics for professions, such as accountants means: A) they are likely to be more lenient than legal rules and regulations enforced by the courts B) they can forestall action by government regulatory bodies such as the Australian Securities and Investments

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Commission C) they are developed and imposed by professionals who understand the problems of practitioners D) All of the above are advantages Answer: C AACSB: Ethical Understanding and Reasoning Topic: 26.5 Competence in ethics Learning Objective: LO 26.6 describe the fundamental ethical principles of the accounting profession Diff: (Medium)

9) Which of the following is not included as a fundamental principle of professional conduct in the Code of Ethics for Professional Accountants?

A) Confidentiality B) Accuracy C) Independence D) Objectivity Answer: B AACSB: Ethical Understanding and Reasoning

Topic: 26.5 Competence in ethics Learning Objective: LO 26.6 describe the fundamental ethical principles of the accounting profession Diff: (Easy)

10) The Code of Ethics for Professional Accountants includes all of the following except: A) Confidentiality B) Accuracy C) Independence D) Objectivity Answer: B AACSB: Ethical Understanding and Reasoning

Topic: 26.5 Competence in ethics Learning Objective: LO 26.6 describe the fundamental ethical principles of the accounting profession Diff: (Easy)

11) The Code of Ethics for Professional Accountants is best described as: A) deontological in nature B) voluntary for all members of the ICAA, CPA Australia and the NIA C) descriptive in nature D) teleological in nature Answer: C AACSB: Ethical Understanding and Reasoning

Topic: 26.5 Competence in ethics Learning Objective: LO 26.6 describe the fundamental ethical principles of the accounting profession Diff: (Hard)

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12) Generally accepted that rules of professional ethical conduct require that when a conflict of interest arises for an accountant, if the interest of one client may cause harm to another client: A) the accountant should not continue to advise both clients B) the accountant should ensure that information about either client is not made available by anyone to the other client C) the accountant should ensure that information about either client is not made available by anyone to the client who might be harmed by the information D) the accountant should not continue to advise either client Answer: A AACSB: Ethical Understanding and Reasoning

Topic: 26.5 Competence in ethics Learning Objective: LO 26.6 describe the fundamental ethical principles of the accounting profession Diff: (Medium)

13) Should accountants act ethically? Explain the reasons for your answer to this question.

Answer: We can again turn to Aristotle to assist us in making sound ethical judgements. He argued that competence in ethical judgement could be achieved by taking a community’s values and applying those values in real-life situations. In section 26.2, we note that ethics is about achieving excellence – for example, becoming an excellent accountant. Aristotle’s ‘virtue ethics’5 considered the characteristics or attributes (‘virtues’) that we need to possess if we are to achieve excellence in our profession. He suggested that there were two broad classes of virtues: intellectual virtues such as technical knowledge (e.g. sound knowledge of accounting standards and taxation laws) and moral virtues (e.g. loyalty, courage and integrity). Competence in ethics requires an accountant to combine these two sets of virtues in order to achieve good outcomes. A technically competent but morally incompetent accountant is dangerous to his clients and others. Similarly, an accountant who may be well-meaning in his behaviour but is technically incompetent to do the task required can also cause harm. Aristotle argued that if the intellectual and moral virtues are to be successfully married to promote excellence in practice, then a special virtue, ‘prudence’, is needed. Prudence is the ability to apply universal principles to particular circumstances to achieve good outcomes for oneself and others.

AACSB: Ethical Understanding and Reasoning Topic: 26.5 Competence in ethics Learning Objective: LO 26.7 incorporate ethics into decision making in a systematic and justifiable manner Diff: (Easy) 14) Reflecting on the rule of independence in setting ethical accounting standard, discuss the role of ‘integrity’ and ‘objectivity’ for auditors.

Answer: For example, sections 290 and 291 of Part B of APES 110 provide rules about the need for independence in the conduct of financial statement audits and other assurance engagements. The rules for independence are derived from the values of ‘integrity’ and ‘objectivity’, and exist because independence is such a fundamental characteristic of ‘good’ auditing. Audits become worthless if auditors are not (or are perceived not to be) independent. Consequently, the profession has rules about independence to promote public trust in the profession

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which, in turn, creates a demand for the profession’s services.

AACSB: Ethical Understanding and Reasoning Topic: 26.5 Competence in ethics Learning Objective: LO 26.7 incorporate ethics into decision making in a systematic and justifiable manner Diff: (Hard)

15) It is true that the principle of 'professional behaviour' in the Code of Ethics for Professional Accountants: A) requires a member to avoid any action or omission that may bring discredit to the profession B) is, in sense, a catch all provision that covers unethical behaviour not included elsewhere in the code C) covers accountants’ behaviour outside their professional role D) all of the above Answer: D AACSB: Ethical Understanding and Reasoning Topic: 26.5 Competence in ethics Learning Objective: LO 26.8 describe how rules can be set in organisations in a way that reflects ethics in a systematic and justifiable manner Diff: (Medium) 16) Which of the following statements about the costs and benefits of unethical behaviour is not true?

A) The benefits of unethical behaviour are nearly always material B) The costs of unethical behaviour are nearly always material C) The penalties for unethical behaviour are not imposed in many cases D) A cost of unethical behaviour may be the loss of freedom of choice in future decisions about whether to act ethically Answer: B AACSB: Ethical Understanding and Reasoning Topic: 26.5 Competence in ethics Learning Objective: LO 26.8 describe how rules can be set in organisations in a way that reflects ethics in a systematic and justifiable manner Diff: (Hard) 17) Of the following statements about the costs and benefits of unethical behaviour is false?

A) The benefits of unethical behaviour are nearly always material B) The costs of unethical behaviour are nearly always material C) The penalties for unethical behaviour are not imposed in many cases D) A cost of unethical behaviour may be the loss of freedom of choice in future decisions about whether to act ethically Answer: B AACSB: Ethical Understanding and Reasoning Topic: 26.5 Competence in ethics

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Learning Objective: LO 26.8 describe how rules can be set in organisations in a way that reflects ethics in a systematic and justifiable manner Diff: (Hard) 18) Part of the ethical complaint process for filing with both Australian professional accounting bodies is: A) filing a written complaint B) investigating by a telephone call to a senior staff member C) referring written complaints to the General Manager Professional Conduct (GMPC) D) all of the above Answer: D AACSB: Ethical Understanding and Reasoning Topic: 26.6 Ethical issues for accountants Learning Objective: LO 26.9 describe some of the ethical issues facing Australian accountants Diff: (Medium)

19) The ethical issues most frequently experienced by Australian accountants a 2005 survey by Leung and Cooper was: A) fee problems B) maintaining confidentiality C) conflict of interest D) admitting one’s mistakes Answer: C AACSB: Ethical Understanding and Reasoning Topic: 26.6 Ethical issues for accountants Learning Objective: LO 26.9 describe some of the ethical issues facing Australian accountants

Diff: (Medium) 5) Briefly describe three classes of deontological theories that have been used to examine ethical behaviour.

Answer: THEOLOGICAL ETHICS: Classical deontological theory relies on religion. The rules that must be followed are set down in religious literature such as the Bible or the Koran. The rules were established by God. It is thus God’s command that we should behave in certain ways. Conforming to God’s rules is ethical. Not conforming is unethical. The strictest version of theological ethics requires compliance with God’s rules regardless of the circumstances or the consequences. Unethical behaviour will be punished by God. While theological ethics provides a powerful set of duties for many people, philosophers have some doubts about its universal application.

Acceptance of the rules requires a faith or belief that is not universal. There are different religions and varying degrees of faith within each religion. However, in most countries the rules of the dominant religion are well accepted as standards of behaviour even if acceptance of the religion itself is less widespread. Thus, in countries like Australia the Judeo–Christian code of behaviour is accepted almost without question by the community.

RATIONALISM: The German philosopher Immanuel Kant (1724–1804) provided an interpretation of the Judeo– Christian view of deontology that has had a major influence on the development of Western moral thinking. Kant sought a simple maxim based on reason or rationality that would provide a rule for a general duty that would

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override all others. He suggested the categorical imperative as a universally valid ethical law. The categorical imperative is as follows: Act as if the principle from which you act were to become through your will a universal law of nature. Thus, to decide whether a contemplated action is ethical, the categorical imperative must be applied to that action. For example, a person who is about to break a promise must ask ‘Would I desire a law that says that everybody may break promises if they so choose?’ If the answer is ‘no’, then the proposed action is unethical. Kant intended that the categorical imperative would be an unconditional ethical command that would be valid regardless of the circumstances or the consequences. The categorical imperative is a philosophical formulation of the Christian Golden Rule: ‘Do unto others as you would have them do unto you.’ As well as the categorical imperative, Kant proposed a second maxim, designed to establish the worth of the individual: Act so that you treat humanity whether in your own person or in that of another, always as an end and never as a means only. This maxim requires that people should not be ‘used’ to achieve an end no matter how worthy that end may appear to be. The end does not justify the means. Northcott illustrates the application of this maxim as follows: to persuade someone to provide a loan of money with the intention of not repaying the loan is both deception and an example of not treating the potential lender with the respect that he or she requires. If the potential borrower reveals that he or she may not be able to repay the loan, the lender can decide whether or not to make the loan. In this case, the borrower has shown a duty of respect for the lender.3 Kant argued that applying these maxims to every proposed behaviour would lead to ethical behaviour.

SOCIAL CONTRACT THEORY: The final class of deontological theories that we consider is the social contract view of ethics. This class of normative ethical theories assumes there is a social contract between the individual and the state that requires both to perform certain duties and gives to both certain rights. A ‘social’ contract is an unwritten agreement based on custom and accepted without dissent. Failure to perform the duties implied by the social contract would be unethical behaviour. The notion of a social contract comes from Thomas Hobbes (1588–1679). In his book Leviathan (1651), Hobbes argued that humanity’s natural aggression could be tempered if the individual could gain civil rights by entering into an agreement or a contract with others in which ‘a man would be willing for the sake of peace, to lay down his natural right, and be content to limit his liberties to the extent that others are willing to curb theirs’.4 Later, the notion of a social contract between individuals was extended to include the state.

Individuals gave up some liberties in exchange for the state’s protection and the provision of more security than would otherwise be the case. Johnstone suggested that ‘remnants of this crude contractarian approach’ remain. For example: by observing the road rules, one surrenders certain personal liberties in the hope of receiving safe road-driving conditions in return.5 This crude contractarian philosophy is also evident in society’s attitude to the professions: if society wishes to receive well organised and skilful professional services, it must be prepared to relinquish a certain degree of autonomy and grant professionals special privileges of autonomy and power in return. In exchange for these privileges, professionals perform certain tasks and carry out certain duties that would not be expected of them were they acting as ‘ordinary’ persons.

AACSB: Ethical Understanding and Reasoning Topic: Appendix 26.1 An introduction to theories of ethics: Normative ethical theories Learning Objective: LO 26.3 describe the nature and limitations of ethical relativism Diff: (Hard) 20) Normative ethical theories are: A) derived from common law rules of behaviour B) descriptions of how people actually behave

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C) beliefs about how people should behave D) beliefs about how people actually behave Answer: C AACSB: Ethical Understanding and Reasoning Topic: Appendix 26.1 An introduction to theories of ethics: Normative ethical theories Learning Objective: LO 26.4 describe the foundational ethical principles and their application Diff: (Medium)

21) Teleological theories of ethics: A) determine whether behaviour is ethical or unethical by observing the consequences of that behaviour B) suggest that people behave with varying degrees of self-interest C) are based on religious principles D) can be all of the above Answer: A AACSB: Ethical Understanding and Reasoning Topic: Appendix 26.1 An introduction to theories of ethics: Normative ethical theories Learning Objective: LO 26.4 describe the foundational ethical principles and their application Diff: (Hard)

22) Ethical egoism is based on a belief that people should act in a way that: A) maximises the 'good' of the person making the decision B) maximises the 'common good' C) maximises good to the top stratum of the elite D) conforms with the rules established by God Answer: A AACSB: Ethical Understanding and Reasoning Topic: Appendix 26.1 An introduction to theories of ethics: Normative ethical theories Learning Objective: LO 26.4 describe the foundational ethical principles and their application Diff: (Hard)

23) Ethical parochialism: A) assumes that ethical behaviour should protect the individuals belonging to the 'in group' B) suggests that the behaviour of individuals should be constrained by the law and the conventions of fair play C) is evidenced when individuals seek to maximise their own utility D) suggests that ethical behaviour should be concerned with the good of all humankind and that individuals are all of equal value Answer: A AACSB: Ethical Understanding and Reasoning Topic: Appendix 26.1 An introduction to theories of ethics: Normative ethical theories Learning Objective: LO 26.4 describe the foundational ethical principles and their application Diff: (Hard)

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24) Deontological theories of ethics: A) are a special class of teleological theories B) can also be described as descriptive theories C) are based on duties and rights D) can be all of the above Answer: C AACSB: Ethical Understanding and Reasoning Topic: Appendix 26.1 An introduction to theories of ethics: Normative ethical theories Learning Objective: LO 26.4 describe the foundational ethical principles and their application Diff: (Hard)

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