WGU D105 OA2 (UNITS 5–9)
COMPREHENSIVE QUESTIONS AND
ANSWERS
1. When a company issues bonds at a discount, what is the effect on the carrying value and
interest expense over the life of the bond using the effective-interest method?
A. Carrying value increases and interest expense increases.
B. Carrying value decreases and interest expense decreases.
C. Carrying value increases and interest expense decreases.
D. Carrying value decreases and interest expense increases.
Answer: A
Conceptual Explanation: As a bond discount is amortized, it is added to the carrying value
until it reaches par. Under the effective-interest method, interest expense is calculated as
the carrying value times the effective rate; thus, as carrying value increases, so does the
interest expense.
2. Under US GAAP, a loss contingency must be accrued if which of the following conditions
are met?
A. It is more likely than not that a liability has been incurred and the amount is known.
,B. It is probable that a liability has been incurred and the amount can be reasonably
estimated.
C. It is reasonably possible that a liability has been incurred and the amount is estimable.
D. It is probable that a liability has been incurred, regardless of whether the amount is
estimable.
Answer: B
Conceptual Explanation: FASB ASC 450 requires both ‘probable’ and ‘reasonably
estimable’ criteria to be met for accrual.
3. A company reacquires 1,000 shares of its $10 par value common stock for $25 per share
using the cost method. If it later resells these shares for $30 per share, how is the $5,000 gain
recorded?
A. As a Gain on Sale of Treasury Stock in the Income Statement.
B. As an increase to Retained Earnings.
C. As an increase to Paid-in Capital from Treasury Stock.
D. As a reduction to General and Administrative expenses.
Answer: C
Conceptual Explanation: Gains and losses on treasury stock transactions are never
reported on the income statement; they are adjusted through stockholders’ equity
accounts, specifically Paid-in Capital from Treasury Stock.
, 4. Which of the following is true regarding the ‘Treasury Stock Method’ used in calculating
diluted Earnings Per Share (EPS)?
A. It assumes options are exercised at the beginning of the year and the proceeds are used
to buy back shares at the average market price.
B. It assumes options are exercised at the end of the year and the proceeds are used to buy
back shares at the par value.
C. It increases the numerator of the EPS calculation by the amount of hypothetical interest
saved.
D. It is only applied if the exercise price is greater than the average market price.
Answer: A
Conceptual Explanation: The treasury stock method assumes proceeds from hypothetical
option exercises are used to repurchase shares at the average market price, reducing the
dilutive effect.
5. When an investment is classified as Available-for-Sale (AFS) debt securities, where are the
unrealized holding gains and losses reported?
A. Net Income.
B. Retained Earnings directly.
C. Other Comprehensive Income (OCI).
D. They are not recognized until the security is sold.
COMPREHENSIVE QUESTIONS AND
ANSWERS
1. When a company issues bonds at a discount, what is the effect on the carrying value and
interest expense over the life of the bond using the effective-interest method?
A. Carrying value increases and interest expense increases.
B. Carrying value decreases and interest expense decreases.
C. Carrying value increases and interest expense decreases.
D. Carrying value decreases and interest expense increases.
Answer: A
Conceptual Explanation: As a bond discount is amortized, it is added to the carrying value
until it reaches par. Under the effective-interest method, interest expense is calculated as
the carrying value times the effective rate; thus, as carrying value increases, so does the
interest expense.
2. Under US GAAP, a loss contingency must be accrued if which of the following conditions
are met?
A. It is more likely than not that a liability has been incurred and the amount is known.
,B. It is probable that a liability has been incurred and the amount can be reasonably
estimated.
C. It is reasonably possible that a liability has been incurred and the amount is estimable.
D. It is probable that a liability has been incurred, regardless of whether the amount is
estimable.
Answer: B
Conceptual Explanation: FASB ASC 450 requires both ‘probable’ and ‘reasonably
estimable’ criteria to be met for accrual.
3. A company reacquires 1,000 shares of its $10 par value common stock for $25 per share
using the cost method. If it later resells these shares for $30 per share, how is the $5,000 gain
recorded?
A. As a Gain on Sale of Treasury Stock in the Income Statement.
B. As an increase to Retained Earnings.
C. As an increase to Paid-in Capital from Treasury Stock.
D. As a reduction to General and Administrative expenses.
Answer: C
Conceptual Explanation: Gains and losses on treasury stock transactions are never
reported on the income statement; they are adjusted through stockholders’ equity
accounts, specifically Paid-in Capital from Treasury Stock.
, 4. Which of the following is true regarding the ‘Treasury Stock Method’ used in calculating
diluted Earnings Per Share (EPS)?
A. It assumes options are exercised at the beginning of the year and the proceeds are used
to buy back shares at the average market price.
B. It assumes options are exercised at the end of the year and the proceeds are used to buy
back shares at the par value.
C. It increases the numerator of the EPS calculation by the amount of hypothetical interest
saved.
D. It is only applied if the exercise price is greater than the average market price.
Answer: A
Conceptual Explanation: The treasury stock method assumes proceeds from hypothetical
option exercises are used to repurchase shares at the average market price, reducing the
dilutive effect.
5. When an investment is classified as Available-for-Sale (AFS) debt securities, where are the
unrealized holding gains and losses reported?
A. Net Income.
B. Retained Earnings directly.
C. Other Comprehensive Income (OCI).
D. They are not recognized until the security is sold.
