WGU D104 Intermediate Accounting II Exam 2 Review 80 Practice
Questions with Answers and Detailed Rationales
1. What denominator is used to calculate return on common stockholders’
equity?
Answer Average common stockholders’ equity.
Rationale The numerator is net income less applicable preferred dividends, so
the denominator must represent capital attributable to common holders. Average
beginning and ending common equity unless a more representative weighted
average is needed. Using total equity would mix preferred capital with common-
only earnings.
2. Net income is $45,000, interest expense $13,000, and income tax
expense $9,000. Compute times interest earned using the net-income-based
formula.
Answer 5.15 times.
Rationale Add interest and taxes back to net income: $45,000 + $13,000 +
$9,000 = $67,000. Divide by $13,000 for 5.1538, rounded to 5.15. The
attachment’s separate $70,000 operating-income amount is inconsistent with
these components, so this question explicitly uses the specified formula.
3. Chen has 10,000 vested equity-classified options with a $60 exercise
price and $1 common-share par value. Recognized APIC—Stock Options
totals $220,000. Executives exercise 2,000 options. Record the exercise,
ignoring taxes.
Answer Dr Cash $120,000; Dr APIC—Stock Options $44,000; Cr Common Stock
$2,000; Cr APIC—Common Stock $162,000.
Rationale Cash is 2,000 × $60. Reclassify 20% of the $220,000 option balance, or
$44,000. Credit common stock at 2,000 × $1 and the remainder to common APIC.
These explicit assumptions complete the missing information in the source
exercise; no new compensation expense arises merely from this exercise.
D104 Exam 2 Practice Review | 1
,4. What event is a preemptive right intended to protect a shareholder
against?
Answer Involuntary dilution of proportionate ownership from new share
issuances, when the right applies.
Rationale The right allows an existing owner to purchase a proportional share
of a new issuance. Exercising it can preserve the owner’s percentage interest. It
does not guarantee a share price, prevent all business losses, or create a universal
right to receive dividends every profitable year.
5. A company reports net sales $750,000, net income $120,000, beginning
assets $450,000, and ending assets $500,000. Compute profit margin on
sales.
Answer 16%.
Rationale Profit margin uses net income divided by net sales:
$120,000/$750,000 = 0.16. The asset figures are irrelevant to this ratio; they are
used for asset turnover and return on assets. The result means $0.16 of net
income per dollar of net sales.
6. When is assumed conversion of a convertible bond antidilutive for EPS?
Answer When the incremental after-tax earnings per conversion share exceed
the applicable basic EPS benchmark, so assumed conversion would improve EPS.
Rationale Under the if-converted method, ordinarily add back after-tax interest
and add the conversion shares. If that combination raises EPS rather than
reduces it, exclude the effect from diluted EPS. Compare amounts on a per-
incremental-share basis; total interest savings alone do not establish dilution.
7. Cash is $150,000, short-term investments $350,000, net receivables
$200,000, inventory $300,000, net PPE $500,000, and current liabilities
$400,000. Compute the current ratio.
Answer 2.50 to 1.
Rationale Current assets total $150,000 + $350,000 + $200,000 + $300,000 =
$1,000,000. Divide by $400,000 current liabilities for 2.50. PPE is noncurrent and
excluded. This is a balance-sheet liquidity measure, not a measure of profit
earned during the year.
D104 Exam 2 Practice Review | 2
, 8. Net income is $70,000, preferred dividends $10,000, beginning common
equity $100,000, and ending common equity $200,000. Compute return on
common equity.
Answer 40%.
Rationale Common income is $70,000 − $10,000 = $60,000. Average common
equity is ($100,000 + $200,000)/2 = $150,000. Divide $60,000 by $150,000 for
40%. The 50,000 common shares mentioned in the source are not used in this
equity-return calculation.
9. Employees exercise 1,000 vested equity-classified options for total cash
of $15,000. Common stock has $1 par, and recognized option APIC totals
$30,000. Record the exercise, ignoring taxes.
Answer Dr Cash $15,000; Dr APIC—Stock Options $30,000; Cr Common Stock
$1,000; Cr APIC—Common Stock $44,000.
Rationale The company receives the exercise proceeds and transfers the
previously recognized option-equity balance to issued-share equity. Total debits
are $45,000. Common stock receives only par value; the remaining credit is APIC.
Exercise does not itself create another $30,000 compensation charge after
vesting expense was recognized.
10. Which components make up the production-variable or hybrid
depreciation approach described in the source?
Answer Straight-line and activity-based components.
Rationale The method combines cost associated with elapsed time and cost
associated with productive use. For example, a fixed annual amount can be
supplemented by a rate per unit produced. Any such method must still allocate
depreciable cost systematically and rationally according to the asset’s expected
consumption of benefits.
11. Profit margin is 2.50% and asset turnover is 0.50 times. Compute
return on assets using the net-income convention.
Answer 1.25%.
Rationale The DuPont relationship is profit margin × asset turnover. Multiply
0.025 × 0.50 = 0.0125, or 1.25%. Net sales cancel algebraically when the
underlying ratios use consistent definitions. Reporting 1.25 without the percent
sign can confuse a 1.25% return with a 125% return.
D104 Exam 2 Practice Review | 3
Questions with Answers and Detailed Rationales
1. What denominator is used to calculate return on common stockholders’
equity?
Answer Average common stockholders’ equity.
Rationale The numerator is net income less applicable preferred dividends, so
the denominator must represent capital attributable to common holders. Average
beginning and ending common equity unless a more representative weighted
average is needed. Using total equity would mix preferred capital with common-
only earnings.
2. Net income is $45,000, interest expense $13,000, and income tax
expense $9,000. Compute times interest earned using the net-income-based
formula.
Answer 5.15 times.
Rationale Add interest and taxes back to net income: $45,000 + $13,000 +
$9,000 = $67,000. Divide by $13,000 for 5.1538, rounded to 5.15. The
attachment’s separate $70,000 operating-income amount is inconsistent with
these components, so this question explicitly uses the specified formula.
3. Chen has 10,000 vested equity-classified options with a $60 exercise
price and $1 common-share par value. Recognized APIC—Stock Options
totals $220,000. Executives exercise 2,000 options. Record the exercise,
ignoring taxes.
Answer Dr Cash $120,000; Dr APIC—Stock Options $44,000; Cr Common Stock
$2,000; Cr APIC—Common Stock $162,000.
Rationale Cash is 2,000 × $60. Reclassify 20% of the $220,000 option balance, or
$44,000. Credit common stock at 2,000 × $1 and the remainder to common APIC.
These explicit assumptions complete the missing information in the source
exercise; no new compensation expense arises merely from this exercise.
D104 Exam 2 Practice Review | 1
,4. What event is a preemptive right intended to protect a shareholder
against?
Answer Involuntary dilution of proportionate ownership from new share
issuances, when the right applies.
Rationale The right allows an existing owner to purchase a proportional share
of a new issuance. Exercising it can preserve the owner’s percentage interest. It
does not guarantee a share price, prevent all business losses, or create a universal
right to receive dividends every profitable year.
5. A company reports net sales $750,000, net income $120,000, beginning
assets $450,000, and ending assets $500,000. Compute profit margin on
sales.
Answer 16%.
Rationale Profit margin uses net income divided by net sales:
$120,000/$750,000 = 0.16. The asset figures are irrelevant to this ratio; they are
used for asset turnover and return on assets. The result means $0.16 of net
income per dollar of net sales.
6. When is assumed conversion of a convertible bond antidilutive for EPS?
Answer When the incremental after-tax earnings per conversion share exceed
the applicable basic EPS benchmark, so assumed conversion would improve EPS.
Rationale Under the if-converted method, ordinarily add back after-tax interest
and add the conversion shares. If that combination raises EPS rather than
reduces it, exclude the effect from diluted EPS. Compare amounts on a per-
incremental-share basis; total interest savings alone do not establish dilution.
7. Cash is $150,000, short-term investments $350,000, net receivables
$200,000, inventory $300,000, net PPE $500,000, and current liabilities
$400,000. Compute the current ratio.
Answer 2.50 to 1.
Rationale Current assets total $150,000 + $350,000 + $200,000 + $300,000 =
$1,000,000. Divide by $400,000 current liabilities for 2.50. PPE is noncurrent and
excluded. This is a balance-sheet liquidity measure, not a measure of profit
earned during the year.
D104 Exam 2 Practice Review | 2
, 8. Net income is $70,000, preferred dividends $10,000, beginning common
equity $100,000, and ending common equity $200,000. Compute return on
common equity.
Answer 40%.
Rationale Common income is $70,000 − $10,000 = $60,000. Average common
equity is ($100,000 + $200,000)/2 = $150,000. Divide $60,000 by $150,000 for
40%. The 50,000 common shares mentioned in the source are not used in this
equity-return calculation.
9. Employees exercise 1,000 vested equity-classified options for total cash
of $15,000. Common stock has $1 par, and recognized option APIC totals
$30,000. Record the exercise, ignoring taxes.
Answer Dr Cash $15,000; Dr APIC—Stock Options $30,000; Cr Common Stock
$1,000; Cr APIC—Common Stock $44,000.
Rationale The company receives the exercise proceeds and transfers the
previously recognized option-equity balance to issued-share equity. Total debits
are $45,000. Common stock receives only par value; the remaining credit is APIC.
Exercise does not itself create another $30,000 compensation charge after
vesting expense was recognized.
10. Which components make up the production-variable or hybrid
depreciation approach described in the source?
Answer Straight-line and activity-based components.
Rationale The method combines cost associated with elapsed time and cost
associated with productive use. For example, a fixed annual amount can be
supplemented by a rate per unit produced. Any such method must still allocate
depreciable cost systematically and rationally according to the asset’s expected
consumption of benefits.
11. Profit margin is 2.50% and asset turnover is 0.50 times. Compute
return on assets using the net-income convention.
Answer 1.25%.
Rationale The DuPont relationship is profit margin × asset turnover. Multiply
0.025 × 0.50 = 0.0125, or 1.25%. Net sales cancel algebraically when the
underlying ratios use consistent definitions. Reporting 1.25 without the percent
sign can confuse a 1.25% return with a 125% return.
D104 Exam 2 Practice Review | 3
