Accounting Information for Business Decisions 2nd Edition by Billie Cunningham - Test Bank

Chapter 2 – Developing a Business Plan: Cost–Volume–Profit Analysis COMPLETION 1. Instead of rushing into a business right away, it is wise to develop a ____________________. ANS: businessplan PTS: 1 DIF: Easy TOP: Planning in a new business 2. A ____________________ describes a business’ goals and its plans for achieving those goals. ANS: businessplan PTS: 1 DIF: Easy TOP: Planning in a new business 3. ____________________ refers to the uncertainty about the future operations of a business. ANS: Risk PTS: 1 DIF: Easy TOP: Planning in a new business 4. The ____________________ is money that investors will receive back from their investment and credit decisions. ANS: return PTS: 1 DIF: Easy TOP: Planning in a new business 5. The ____________________ shows how the business will make sales and how it will influence and respond to market conditions. ANS: marketingplan PTS: 1 DIF: Easy TOP: Marketing plan 6. The _________________________ describes how the business will promote, price and distribute the product. ANS: marketingstrategy PTS: 1 DIF: Easy TOP: Marketing plan 7. The ____________________ describes the predicted growth, market share and sales of the business’ products by period. ANS: salesforecast PTS: 1 DIF: Easy TOP: Marketing plan 8. The _________________________ section of a business plan includes a description of the relationships between the business, its suppliers, its customers, as well as a description of how the business will develop, service, protect and support its products or services. ANS: businessoperations PTS: 1 DIF: Easy TOP: Operating plan 9. The ____________________ section of a business plan identifies the business’ capital requirements and sources of capital, as well as describing the business’ projected financial performance. ANS: financialplan PTS: 1 DIF: Moderate TOP: Financial plan 10. The ____________________ section of a business plan describes the social and environmental impact of the organisation. ANS: environmentalmanagementplan PTS: 1 DIF: Moderate TOP: Environmental management plan 11. ____________________ is the business’ funding. ANS: Capital PTS: 1 DIF: Moderate TOP: Sources of capital 12. ____________________ is the business’ funding that will be repaid within a year or less. ANS: Short-termcapital PTS: 1 DIF: Moderate TOP: Sources of capital 13. Credit from suppliers is a source of____________________ for the business. ANS: Short-termcapital PTS: 1 DIF: Moderate TOP: Sources of capital 14. ____________________ is the business’ funding that will be repaid after more than a year. ANS: Long-termcapital PTS: 1 DIF: Moderate TOP: Sources of capital 15. The financial performance section of the financial plan includes projected financial statements supported by ____________________ and ____________. ANS: cost–volume–profitanalysis;budgets PTS: 1 DIF: Moderate TOP: Projected financial performance 16. ______________________________ shows how profit is affected by changes in sales volume, selling price of products and the various costs of the business. ANS: Cost–volume–profitanalysis PTS: 1 DIF: Difficult TOP: Cost–volume–profit analysis 17. The ______________________________ is the difference between the total sales revenue and total variable costs. ANS: totalcontributionmargin PTS: 1 DIF: Difficult TOP: Contribution margin 18. The ______________________________ is the difference between the sales revenue per unit and the variable costs per unit. ANS: contributionmarginperunit PTS: 1 DIF: Moderate TOP: Contribution margin 19. [Selling price per unit – variable cost per unit] x volume = ___________________. ANS: totalcontributionmargin PTS: 1 DIF: Moderate TOP: Contribution margin 20. A desired level of overall profit for a business is called _________________. ANS: targetprofit PTS: 1 DIF: Moderate TOP: Target profit TRUE/FALSE 1. The first step in starting a business is to develop a business plan. ANS: T PTS: 1 DIF: Easy TOP: Planning in a new business 2. The first step in starting a business is to set up a corporation. ANS: F PTS: 1 DIF: Easy TOP: Planning in a new business 3. A business plan is a static document. Once created it should not need to be updated. ANS: F PTS: 1 DIF: Easy TOP: Planning in a new business 4. A business plan typically includes a description of the business, a marketing plan, an operating plan, an environmental management plan and a financial plan. ANS: T PTS: 1 DIF: Moderate TOP: Planning in a new business 5. A business plan should be viewed as an opportunity to identify mistakes before they could happen. ANS: T PTS: 1 DIF: Moderate 6. In cost behaviour, activity affects the way costs behave. ANS: T PTS: 1 DIF: Moderate 7. In cost behaviour, profit affects the way costs behave. ANS: F PTS: 1 DIF: Moderate 8. Fixed costs per unit will remain constant as activity changes. ANS: F PTS: 1 DIF: Moderate 9. A fixed cost does not respond to changes in an activity such as sales volume. ANS: T PTS: 1 DIF: Moderate TOP: Fixed costs 10. A fixed cost responds directly to changes in an activity such as sales volume. ANS: F PTS: 1 DIF: Moderate TOP: Fixed costs 11. Fixed costs per unit will change as activity changes. ANS: T PTS: 1 DIF: Moderate TOP: Fixed costs 12. Variable costs will remain constant per unit as activity changes. TOP: Planning in a new business TOP: Cost behaviour TOP: Cost behaviour TOP: Fixed costs ANS: T PTS: 1 DIF: Moderate TOP: Variable costs 13. Variable costs per unit will change as activity changes. ANS: F PTS: 1 DIF: Moderate TOP: Variable costs 14. A variable cost responds directly to changes in an activity such as sales volume. ANS: T PTS: 1 DIF: Moderate TOP: Variable costs 15. Total costs are the sum of the fixed costs and variable costs. ANS: T PTS: 1 DIF: Moderate TOP: Total costs 16. Contribution margin is the amount left over after a sale to cover the fixed costs, which then contributes toward profit. ANS: T PTS: 1 DIF: Moderate 17. Sales less fixed costs equal contribution margin. ANS: F PTS: 1 DIF: Moderate 18. Sales less variable costs equal contribution margin. ANS: T PTS: 1 DIF: Moderate 19. All contribution margin created past the break-even point will contribute towards profit. ANS: T PTS: 1 DIF: Moderate TOP: Contribution margin 20. All contribution margin created prior to the break-even point will contribute towards covering fixed costs. ANS: T PTS: 1 DIF: Moderate TOP: Contribution margin 21. All contribution margin created prior to the break-even point will contribute towards profit. ANS: F PTS: 1 DIF: Moderate TOP: Contribution margin 22. Only fixed costs are deducted from the selling price per unit, with the result then taken times sales volume in the profit equation for determination of profit. ANS: F PTS: 1 DIF: Moderate TOP: Finding the unit sales volume to achieve a target profit TOP: Contribution margin TOP: Contribution margin TOP: Contribution margin 23. The break-even point is the point that total revenues equal total costs. ANS: T PTS: 1 DIF: Moderate TOP: Finding the break-even point 24. The break-even point is the point that total revenues exceed total costs. ANS: F PTS: 1 DIF: Moderate TOP: Finding the break-even point 25. The break-even point is the point that total revenues are less than total costs. ANS: F PTS: 1 DIF: Moderate TOP: Finding the break-even point 26. The break-even point is the point that total revenues equal target profit. ANS: F PTS: 1 DIF: Moderate TOP: Finding the break-even point 27. If a business were concerned about raising the price of their goods, CVP analysis would help determine the impact on profits and the resulting changes in costs. ANS: T PTS: 1 DIF: Difficult TOP: Cost–volume–profit analysis 28. CVP can be an absolute decision-making tool. Faced with a change in costs or prices, one need look only to the CVP results to make a complete decision. ANS: F PTS: 1 DIF: Difficult TOP: Cost–volume–profit analysis 29. CVP is not an absolute decision-making tool. Faced with a change in costs or prices, one should also consider the impact on customers as well as the CVP results to make a complete decision. ANS: T PTS: 1 DIF: Difficult TOP: Cost–volume–profit analysis 30. When analysing an alternative set of plans, CVP is but one tool. The impact on customers should also be considered. ANS: T PTS: 1 DIF: Difficult TOP: Cost–volume–profit analysis MULTIPLE CHOICE 1. I. The first step in starting a business is to develop a business plan. II. The first step in starting a business is to set up a corporation. III. A business plan is a static document that if done right will not need updating. IV. A business plan should be viewed as an opportunity to identify mistakes before they occur. Which of the above is correct? 2. 3. 4. 5. Which of the following would NOT be included in a typical business plan: a. The marketing plan. b. The financial plan. c. The weekly sales plan. 6. 7. Barney’s Brick Co. has high fixed costs such as building, machinery and salaries. Barney desires to minimise the impact of these fixed costs. A strategy for Barney would be? a. To produce and sell as many units as possible. b. To downsize. c. Sell the business to someone else. d. Lay off the salary employees. ANS: A PTS: 1 DIF: Moderate TOP: Planning in a new business Which of the following best represents an example of a fixed cost? a. Equipment. b. Cost of products sold to customers. c. Salary plus commission employees. a. I. only. b. I. and II only. c. II and III only. d. I and IV only. e. I, II, III and IV. ANS: D PTS: 1 DIF: Moderate TOP: Planning in a new business d. The operating plan. ANS: C PTS: 1 DIF: Easy The primary concern of creditors and investors is: a. risk. b. return. c. both of the options given. ANS: C PTS: 1 DIF: Easy Fixed costs: a. In the short term do not respond to changes in volume. b. respond in the opposite direction of changes in volume. c. change in proportion with changes in volume. d. will always be the same from one period to the next. ANS: A PTS: 1 DIF: Moderate TOP: Planning in a new business TOP: Planning in a new business TOP: Fixed costs d. Telephone usage. ANS: A PTS: 1 Total variable costs: DIF: Difficult TOP: Fixed costs 8. 9. 10. 11. 12. 13. a. do not respond to changes in volume. b. respond in the opposite direction to changes in volume. c. change in proportion with changes in volume. d. will always be the same from one period to the next. ANS: C PTS: 1 DIF: Moderate TOP: Variable costs Which of the following best represents an example of a variable cost? a. Equipment. b. Cost of products sold to customers. c. Salary plus commission employees. d. Telephone usage. ANS: B PTS: 1 DIF: Difficult TOP: Variable costs Which of the following costs change is in direct proportion to the volume? a. Fixed costs and variable costs. b. Total variable costs. c. None of the options given. d. Fixed costs. ANS: B PTS: 1 DIF: Moderate The definition of contribution margin per unit is: a. Selling price per unit – variable cost per unit. b. Selling price per unit – fixed costs. c. Selling price per unit – total costs. d. None of the above. ANS: A PTS: 1 DIF: Easy TOP: Variable costs TOP: Contribution margin The unit sales volume at which a business earns zero profit is called: a. Zero-profit point. b. Total costs. c. Contribution margin per unit. d. Break-even point. ANS: D PTS: 1 DIF: Easy TOP: Break-even point The profit equation for a given sales volume is: a. [Selling price per unit x volume] + [variable cost per unit x volume] – total fixed costs. b. [Selling price per unit x volume] – [break even point] – total fixed costs. c. [Selling price per unit x volume] + [break even point] + total fixed costs. d. [Selling price per unit x volume] – [variable cost per unit x volume] – total fixed costs. ANS: D PTS: 1 DIF: Moderate TOP: Profit equation Barb’s Best Pies sells a meat pie for $5.00. Variable costs are $3.00 per unit and fixed costs for the period are $4000. The profit on the 2001st pie sold is: 14. a. $2.00. b. $5.00. c. $3.00. d. $-0-. ANS: A PTS: 1 DIF: Difficult TOP: Profit calculation Widget World makes a widget that is sells for $10 per unit. The variable costs are $7 per unit. Assuming the business has normal fixed costs, and the break-even point is 350 units, what are the total costs at break even? 15. 16. 17. Leslie’s Soccer Balls sells soccer balls for $20 each and incurs variable costs of $15 per ball. Leslie’s break-even point is 40 000 units. Refer to Example 2.1. What is the total of Leslie’s fixed costs? a. $2000. b. $8000. c. $200 000. d. None of the options given. ANS: C PTS: 1 DIF: Difficult TOP: Fixed costs Refer to Example 2.1. What is Leslie’s profit when 50 000 units are sold? a. $50 000. b. $250 000. c. $1 000 000. a. $4500. b. $3500. c. $12 000. d. $7500. ANS: B Example 2.1 PTS: 1 DIF: Difficult TOP: Finding the break-even point The information below is used for the following problems. d. None of the options given. ANS: A PTS: 1 to achieve a target profit DIF: Moderate TOP: Finding the unit sales volume Refer to Example 2.1. What is Leslie’s profit when 25 000 units are sold? a. $500 000. b. $125 000. c. $75 000 loss. d. None of the options given. ANS: C PTS: 1 to achieve a target profit DIF: Easy TOP: Finding the unit sales volume 18. 19. The information below is used for the following problems. Garrison’s Gaskets has variable costs of $2 per unit and fixed costs of $40 000. Garrison’s selling price is $5 per unit. Refer to Example 2.2. What is Garrison’s break-even point? a. 8000 units. b. 20 000 units. c. 13 334 units. d. None of the options given. ANS: C PTS: 1 DIF: Moderate TOP: Finding the break-even point Refer to Example 2.2. How many units will Garrison’s have to sell in order to earn a profit of 20. Refer to Example 2.2. How much profit will Garrison’s earn if it cuts its selling price to $3 per unit, Example 2.2 $100 000? a. 33 333 units. b. 46 667 units. c. 20 000 units. d. 28 000 units. ANS: B to achieve a target profit DIF: Moderate TOP: Finding the unit sales volume and sells 100 000 units? a. $300 000. b. $100 000. c. $60 000. d. None of the options given. ANS: C PTS: 1 to achieve a target profit DIF: Moderate TOP: Finding the unit sales volume SHORT ANSWER PTS: 1 1. What are the three main purposes of a business plan? Discuss each of the three purposes. ANS: First, the business plan helps the entrepreneur visualise and organise the business and its operations. It helps to evaluate the plan, develop new ideas, and refine the plan. Mistakes may be identified and corrected prior to implementing the plan. Second, the business plan serves as a ‘benchmark’ for measuring the actual performance of the business. Plans for future activities can then be modified. Third, the business plan helps the business obtain financing. The business plan helps creditors and investors assess the expected risk and return associated with the business. PTS: 1 DIF: Moderate TOP: Planning in a new business 2. What are the two primary concerns of investors? Discuss each. ANS: One concern is the level of risk associated with the investment. Risk refers to the uncertainty existing about the future operations of the business. The other concern is return. Return refers to the money that the investor will receive back from their investment and credit decisions. PTS: 1 DIF: Moderate TOP: Planning in a new business 3. What are the five parts of the business plan? Discuss each. ANS: The five parts of the business plan are a description of the business, a marketing plan, an operating plan, an environmental management plan and a financial plan. The description of the business discloses the type of business and product. It describes how the business is organised. It discloses where the business is located. The objectives of the business are listed, along with potential customers. The marketing plan shows how the business will influence and respond to market conditions. It provides evidence of the demand for the business’ product or services. It describes the current and expected competition in the market and relevant government regulations. The operating plan includes a description of the relationships between the business, its suppliers, and its customers, along with a description of how the business will develop, service, protect and support its products or services. It also includes any other influences on the operations of the business. The environmental management plan looks at the financial and environmental performance of business through the development and implementation of accounting systems and practices that reduce the environmental impacts of business activities. The financial plan discloses the capital requirements and sources of capital, and describes the business’ projected financial performance. PTS: 1 DIF: Difficult TOP: Planning in a new business 4. What is the purpose of the description of the business section of the business plan? ANS: The description of business section of the business plan discloses the type of business and product. It describes how the business is organised. It discloses where the business is located. The objectives of the business are listed, along with potential customers. The organisation of a business and its personnel can have a major impact on the success of the business. The investors need to be able to evaluate the items contained in this part of the business plan in order to assess the long-term potential of the business. PTS: 1 DIF: Moderate TOP: Planning in a new business 5. What is the purpose of the marketing plan section of the business plan? ANS: The marketing section of the business plan shows how the business will influence and respond to market conditions. It provides evidence of the demand for the business’ product or services. It describes the current and expected competition in the market and relevant government regulations. This section receives considerable attention from creditors and investors, as the marketing of a product is critical to the long-term success of a business. This information helps the manager think about the business’ activities related to sales. It shows investors and creditors how well the manager has thought about the business’ sales potential and how the business will attract and sell to customers. PTS: 1 DIF: Moderate TOP: Marketing plan 6. Doggie Donuts sells treats for pets for $5 per box. The variable costs per box are $3. Doggie Donuts’ fixed costs total $20 000. a. Calculate the contribution margin per box. b. Calculate the break-even point in boxes. c. Calculate the profit that Doggie would earn if sales total 30,000 units. ANS: a. $2=$5–$3 b. 10 000 units = $20 000/$2 per unit c. $40 000 = $2 per unit30 000 units – $20 000 PTS: 1 DIF: Difficult TOP: Finding the break-even point 7. Bill produces a miracle tool. His variable costs are $20 per unit and his fixed costs are $25 000. His break-even point is 30 000 units. a. What is Bill’s selling price per unit? b. What is Bill’s profit at 50 000 units of sales? c. What would Bill’s profits at 50 000 units of sales be if Bill were able to reduce his variable costs by $5 per unit? ANS: a. 30 000 units = $25 000/contribution margin per unit Contribution margin per unit = $0.83 Selling price per unit – $20 = $0.83 Selling price per unit = $20.83 b. ($0.8350000)–$25000=$16500 c. [($20.83 – $15.00)  50 000] – $25 000=$266 500 PTS: 1 DIF: Difficult TOP: Finding the break-even point 8. If variable costs increase, and fixed costs and the selling price remain constant, what will happen to the break-even point? What will happen to profits? ANS: If variable costs rise, the contribution margin will fall. This will cause the break-even point to rise. The same level of profit will be attained with higher unit sales. PTS: 1 DIF: Difficult TOP: Cost–volume–profit analysis 9. If fixed costs increase, variable costs and the selling price remain constant, what will happen to the break-even point? What will happen to profits? ANS: If fixed costs increase, it will take more unit sales to break even. More units will have to be sold to attain a profit. PTS: 1 DIF: Moderate TOP: Cost–volume–profit analysis 10. Suppose that your business profits are less than the desired amount. What actions might you take to raise profits, if you do not want to change products? ANS: There are only a few actions that a business might take. The following are some of the possible alternatives. If the business can raise prices without hurting the sales volume in units, the contribution margin per unit would rise, resulting in higher profits. The business might consider investing in a new automated production facility, which would lower variable costs. If the increased contribution margin per unit more than offsets the increased fixed costs, profits will rise. If the business increases advertising, fixed costs will rise. If the advertising results in an increased sales volume, the increased total contribution margin may increase more than the increased fixed costs. This would result in an increase in profits. PTS: 1 DIF: Moderate TOP: Cost–volume–profit analysis PROBLEMS 1. Bob’s variable costs are $7 per unit. His selling price is $9 per unit. His break-even point is 25 000 units. a. What is the amount of Bob’s fixed costs? b. What is Bob’s profit when he sells 30 000 units? c. What would Bob’s profit be if he were able to raise prices to $10 per unit and had sales of 40 000 units? ANS: a. 25 000 = fixed costs/($9 – $7) Fixed costs = $50 000 b. ($230 000) – $50 000 = $10 000 c. ($340 000) – $50 000 = $70 000 PTS: 1 DIF: Difficult TOP: Finding the break-even point 2. Following from Problem 1 above, suppose that Bob is able to make some changes to his business by increasing his selling price by $0.50 per unit, decreasing his variable costs by $0.50 per unit and increasing his fixed costs by $10 000. a. What is Bob’s new break-even point in units? b. What is Bob’s profit when he sells 30 000 units? c. Should Bob make the changes to his business? ANS: a. BEP=Fixedcosts/CMperunit=$60000/(9.50–6.50) = $60 000 / $3 = 20 000 units b. ($330 000) – $60 000 = $30 000 c. Yes, he will make an additional $20 000 of profit compared to his original situation. PTS: 1 DIF: Difficult TOP: Finding the break-even point Chapter 4 – The Accounting System: Concepts and Applications COMPLETION 1. ________________________________________ establish the rules to be followed when preparing financial statements. ANS: Generallyacceptedaccountingprinciples PTS: 1 DIF: Moderate TOP: Financial accounting information and decision making 2. An ____________________ is considered to be separate from its owners and from any other business. ANS: entity PTS: 1 DIF: Easy TOP: Entity concept 3. A ____________________ is an exchange of property or service by a business with another entity. ANS: transaction PTS: 1 DIF: Easy TOP: Transactions 4. A ____________________ is a business record used as evidence that a transaction has occurred. ANS: sourcedocument PTS: 1 DIF: Moderate TOP: Source documents 5. ____________________ are the business’ economic resources that will provide future benefits to the business. ANS: Assets PTS: 1 DIF: Easy TOP: Assets 6. _________________________ are the amounts owed to the business by customers. ANS: Accountsreceivable PTS: 1 DIF: Moderate TOP: Assets 7. ____________________ are the economic obligations (debts) of the business. ANS: Liabilities PTS: 1 DIF: Easy TOP: Liabilities 8. ____________________ are the external parties to whom a business owes the debts ANS: Creditors PTS: 1 DIF: Moderate TOP: Liabilities 9. ____________________ are amounts owed to suppliers for credit purchases. ANS: Accountspayable PTS: 1 DIF: Moderate TOP: Liabilities 10. ____________________ are the amounts owed to employees for work they have done. ANS: Wages and salaries payable PTS: 1 DIF: Moderate TOP: Liabilities 11. The ____________________ of a business is the owner’s current investment in the assets of the business. ANS: owner’sequity PTS: 1 DIF: Difficult TOP: Owner’s equity 12. The _________________________ is presented as Assets = Liabilities + Owner’s Equity. ANS: accountingequation PTS: 1 DIF: Easy TOP: Using the accounting equation 13. Assets ANS: liabilities – ____________= Owner’s Equity. PTS: 1 DIF: Easy TOP: Using the accounting equation 14. Due to the ______________________________, a business must make at least two changes in its assets, liabilities and/or owners’ equity when it records each transaction. ANS: dualeffectoftransactions PTS: 1 DIF: Easy TOP: The dual effect of transactions 15. ____________________ are the prices a business charged to its customers for goods or services provided during a specific time period. ANS: Revenues PTS: 1 DIF: Moderate TOP: Expanding the accounting equation 16. ____________________ are the costs of providing the goods or services to customers ANS: Expenses PTS: 1 DIF: Easy TOP: Expanding the accounting equation 17. An ____________________ is the time span for which a business reports its revenues and expenses. ANS: accountingperiod PTS: 1 DIF: Easy TOP: Accounting period 18. Under ____________________, a business records its revenues and the related expenses in the same accounting period that it provides the goods or services, regardless of whether it receives or pays cash during the period. ANS: accrualaccounting PTS: 1 DIF: Moderate TOP: Accrual accounting 19. ____________________ is the part of the cost of a physical asset allocated as an expense to each time period in which the asset is used. ANS: Depreciation PTS: 1 DIF: Moderate TOP: Depreciation of shop equipment (Transaction 16) 20. A revenue earned, but not yet received in cash is referred to as an __________ ____________. ANS: Accruedrevenue PTS: 1 DIF: Easy TOP: Earning and recording revenues TRUE/FALSE 1. External users can extract information from financial statements to make their decisions. ANS: T PTS: 1 DIF: Easy TOP: Financial accounting information and decision making 2. GAAP allows external users to make assumptions about the information contained in financial statements. ANS: T PTS: 1 DIF: Moderate TOP: Financial accounting information and decision making 3. GAAP enables external users to instruct the issuing business on how to prepare their financial statements to meet the needs of the external user. ANS: F PTS: 1 DIF: Moderate TOP: Financial accounting information and decision making 4. GAAP sets the rules for businesses to follow in the preparation of financial statements. ANS: T PTS: 1 DIF: Moderate TOP: Financial accounting information and decision making 5. The entity concept allows owners the convenience of keeping track of their personal financial records through the business’ accounting system. ANS: F PTS: 1 DIF: Easy TOP: Entity concept 6. The entity concept means the business is considered separate from the owners. ANS: T PTS: 1 DIF: Easy TOP: Entity concept 7. A transaction requires cash to be exchanged for goods or services before it can be recorded. ANS: F PTS: 1 DIF: Moderate TOP: Transactions 8. A time card is an example of a source document. ANS: T PTS: 1 DIF: Easy TOP: Source documents 9. A source document serves as evidence that a transaction has occurred. ANS: T PTS: 1 DIF: Easy TOP: Source documents 10. A transaction would be recorded from a source document. ANS: T PTS: 1 DIF: Easy TOP: Source documents 11 The historical cost concept requires that a business record a transaction based on the cost at the time the transaction occurred. ANS: T PTS: 1 DIF: Moderate TOP: Historical cost concept 12. A business purchased a desk for $250. Another store had the same desk priced at $300. The historical cost concept would dictate that the business record $250 as the cost of the desk. ANS: T PTS: 1 DIF: Easy TOP: Assets 13. A business purchased a desk for $250. Another store had the same desk priced at $300. The historical cost concept would dictate that the business record $300 as the cost of the desk. ANS: F PTS: 1 DIF: Easy TOP: Assets 14. Assets are resources that will provide future benefits to the business. ANS: T PTS: 1 DIF: Easy 15. An account payable is an example of an asset. ANS: F PTS: 1 DIF: Moderate 16 An account payable is an example of a liability. ANS: T PTS: 1 DIF: Moderate 17. An employee could be a creditor of the business for any salary earned but not yet paid for. ANS: T PTS: 1 DIF: Difficult TOP: Liabilities 18. Creditor is a term that refers to an outside investor in the business. ANS: F PTS: 1 DIF: Difficult TOP: Liabilities 19. A liability refers to a financial obligation on the part of the business to a creditor. ANS: T PTS: 1 DIF: Moderate TOP: Liabilities 20. A = L + OE represents the statement of financial position for a business. ANS: T PTS: 1 DIF: Difficult TOP: The dual effect of transactions 21. A = L + OE represents the income position for a business. TOP: Assets TOP: Liabilities TOP: Liabilities ANS: T PTS: 1 DIF: Difficult TOP: The dual effect of transactions 22. The monetary total of a business’ debt must equal the sum of resources and residual claims. ANS: F PTS: 1 DIF: Difficult TOP: The dual effect of transactions 23. The monetary total of a business’ resources must equal the sum of the claims on resources by creditors and residual claimants. ANS: T PTS: 1 DIF: Difficult TOP: The dual effect of transactions 24. A business’ resources less the amount of creditor’s claims are referred to as the dual effect of transactions. ANS: F PTS: 1 DIF: Difficult TOP: The dual effect of transactions 25. Accounting transactions require at least two effects to keep the accounting equation in balance. This requirement is referred to as the dual effect of transactions. ANS: T PTS: 1 DIF: Difficult TOP: The dual effect of transactions 26. Accounting transactions require at least two effects to keep the accounting equation in balance. This requirement is referred to as the dual compound law. ANS: F 27. Revenue ANS: F PTS: 1 – Liabilities = Net Income DIF: Difficult DIF: Moderate DIF: Moderate TOP: The dual effect of transactions TOP: The dual effect of transactions TOP: The dual effect of transactions PTS: 1 Liabilities = Net Assets 28. Assets – ANS: T PTS: 1 29. The earning process refers to the cycle of purchasing inventory, selling the inventory, delivering the inventory, and collecting and paying cash. ANS: T PTS: 1 DIF: Difficult TOP: Earning and recording revenues 30. A business records revenue when the earning process is complete and collectible. ANS: T PTS: 1 DIF: Moderate TOP: Earning and recording revenues 31. Depreciation is the part of the cost of a physical asset allocated as an expense to each time period in which the asset is used. ANS: T PTS: 1 DIF: Easy TOP: Depreciation of shop equipment (Transaction 16) MULTIPLE CHOICE 1. 2. 3. 4. 5. External users use a business’ financial statements to: a. Make decisions about the business, such as whether to invest or not. b. Make decisions for their own business. c. None of the options given. d. Both of the options given. ANS: D PTS: 1 DIF: Easy TOP: Financial accounting information and decision making The three broad forms of business structure are: a. Sole proprietorships, dual proprietorships and companies / corporations. b. Sole proprietorships, partnerships and companies / corporations. c. Partnerships, dual proprietorships and companies / corporations. d. Sole proprietorships, dual proprietorships and partnerships. ANS: B PTS: 1 DIF: Easy TOP: Basic concepts and terms used in accounting Which of the following best describes an application of the entity concept? a. Property is exchanged with another business for services received. b. Transactions are valued in terms of the currency of the business’ country. c. An owner uses their personal checking account to buy milk at the grocery store. d. A transaction is recorded based on the dollars exchanged at the time of the transaction. e. A sales transaction is recorded from the customer sales order. ANS: C PTS: 1 DIF: Difficult An exchange of property or service with another entity is called a: a. Transaction. b. Cashflow. c. Outgoing. d. All of the above. ANS: A PTS: 1 DIF: Difficult TOP: Entity concept TOP: Transaction The source documents for transactions show the value of the exchange in terms of money. This is known as: a. The historical cost concept. b. A transaction. c. The monetary unit concept. 6. 7. 8. 9. 10. 11. d. A source document. ANS: C PTS: 1 DIF: Difficult TOP: Monetary unit concept Which of the following best describes an application of historical cost? a. Property is exchanged with another business for services received. b. Transactions are valued in terms of the currency of the business’ country. c. An owner uses their personal cheque account to buy milk at the grocery store. d. A transaction is recorded based on the dollars exchanged at the time of the transaction. e. A sales transaction is recorded from the customer sales order. ANS: D PTS: 1 DIF: Difficult Which of the following is a basic concept of accounting? a. Dual effect of transactions b. Entities c. Transactions d. Source documents ANS: B PTS: 1 DIF: Moderate information and decision making Which of the following best describes an asset? a. Resources owned by an entity. b. Resources owed by an entity. c. Resources owned by an entity that are only tangible. d. Resources that will provide future benefits to an entity. TOP: Historical cost concept TOP: Financial accounting TOP: Assets TOP: Liabilities ANS: D PTS: 1 An example of a liability is: a. Amounts owed to creditors. b. Amounts owed to employees. c. A loan from a bank. d. All of the above. ANS: D PTS: 1 DIF: Moderate DIF: Moderate The accounting equation: a. requires equilibrium of resources and the claims on those resources. b. requires at least one entry to record a transaction. c. provides the structure for the income statement. d. is another name for the balance sheet. ANS: A PTS: 1 DIF: Moderate TOP: Components of the accounting equation The dual effect of transactions means: a. every transaction affects both assets and either liabilities or owners’ equity. 12. 13. ANS: D PTS: 1 Which of the following is true? a. Revenue – Liability = Net Income b. Revenue – Expense = Net Assets c. Assets – Liabilities = Net Income. d. Revenue – Expense = Net Income ANS: D PTS: 1 DIF: Moderate DIF: Moderate TOP: The dual effect of transactions TOP: The dual effect of transactions 14. If an entity pays for one year’s insurance in the first month of operations, this payment is referred to 15. 16. The accounting period is: a. a month. b. a year. c. the time span for which the business reports its revenues and expenses. d. a four-monthly period. ANS: C PTS: 1 DIF: Moderate TOP: Accounting period The principle that the entity is able to continue as a viable entity for the foreseeable future is known as: a. Going concern. b. Matching principle. c. Historical cost. d. None of the above. b. every transaction affects either assets or liabilities. c. every transaction affects both assets and owners’ equity. d. every transaction affects at least two accounts. If an entrepreneur starts a business with $20 000 of their own money, what is the effect on the accounting equation? a. Liabilities increase; equity decreases. b. Assets increase; equity increases. c. Assets increase; liabilities increase. d. None of the above. ANS: B PTS: 1 start a business DIF: Moderate TOP: Accounting for transactions to as: a. A liability. b. A prepayment. c. An expense. d. Revenue. ANS: B start a business PTS: 1 DIF: Moderate TOP: Accounting for transactions to 17. 18. 19. 20. To accrue means: a. To account for. b. To spend. c. To receive. d. To accumulate. ANS: D PTS: 1 DIF: Moderate TOP: Accrual accounting ANS: A PTS: 1 DIF: Moderate TOP: Going concern Which of the following best describes depreciation? a. Accounts for the market value of a physical asset. b. It is part of the cost of a physical asset allocated as an expense to each time period in which the asset is used. c. It shows the increase in value of a physical asset over the asset’s useful life. d. It shows the drop in value of an asset when the asset is first used by an entity. ANS: B PTS: 1 Net income is: a. Assets less liabilities. b. Liabilities plus equity. c. Revenue less expenses. d. None of the above. ANS: C PTS: 1 the balance sheet An income statement normally includes which of the following: a. Revenue. b. Expenses. c. Net income. d. All of the above. ANS: D the balance sheet PTS: 1 DIF: Moderate SHORT ANSWER 1. Explain the entity concept. DIF: Moderate TOP: End-of-period adjustments TOP: Net income and its effect on TOP: Net income and its effect on DIF: Moderate ANS: An entity is considered to be separate from its owners and from any other business. Therefore, each business should have its own accounting records and these should be separate from the records of the owner. Business and personal items should remain separate. This makes it easier to identify the transactions and financial status of the business. PTS: 1 DIF: Moderate TOP: Entity concept 2. Provide a brief explanation of owner’s equity.. ANS: The owner’s equity of a business is the owner’s current investment in the assets of a business. Owner’s equity is sometimes referred to as ‘residual equity’ because creditors have first legal claim to the assets of a business. PTS: 1 DIF: Moderate TOP: The dual effect of transactions 3. Explain the dual effect of transactions. ANS: To keep the accounting equation in balance, a business must make at least two changes in its assets, liabilities or owners’ equity. This is the dual effect of transactions. This does not mean that the business must make an adjustment to each side of the accounting equation, just that two changes are required. PTS: 1 DIF: Moderate TOP: The dual effect of transactions 4. Explain the accounting period. ANS: Businesses operate for many years. The owners and investors need information on a timely basis to make operating and investment decisions. Therefore, businesses report their results and financial position for an accounting period. This is normally either a fiscal or a calendar year. Many businesses base their accounting period on their operating cycle. PTS: 1 DIF: Moderate TOP: Accounting period 5. What is the matching principle? ANS: The matching principle states that expenses should be subtracted from income in the same period that the related revenues are recognised. The costs are matched with the related revenues for recognition purposes. This enables a business to determine how much better off it is at the end of an accounting period as a result of that period’s operations. PTS: 1 DIF: Moderate TOP: Matching principle 6. What is accrual accounting? ANS: Under accrual accounting, a business records its revenues and related expenses in the same accounting period that it provides the goods or services to a customer. That is, it records the revenue and related expense in the same period that it earns the revenue. The collection or payment of cash does not impact the determination of when to recognise the revenue or expense. PTS: 1 DIF: Moderate TOP: Accrual accounting 7. Describe the effect on the accounting equation of the receipt of cash from the sale of product on credit to a customer. ANS: One assets (bank) would increase and another asset (accounts receivable) would decrease. PTS: 1 DIF: Moderate TOP: Recording daily operations 8. Describe the effect on the accounting equation of the withdrawal of cash by the owner for personal use. ANS: Asset (bank) would decrease and equity (owner’s capital account) would decrease. PTS: 1 DIF: Moderate TOP: Recording daily operations 9. Briefly explain the purpose of end-of-period adjustments. ANS: End-of-period-adjustments in accounting are journal entries made to the accounts of a business prior to the preparation and distribution of the financial statements for a given accounting period. End-of- period adjustments ensure that the financial statements reflect the true financial position and performance of a business by allocating to the appropriate period the income earned and expenses incurred. End-of-period adjustments are also known as year-end adjustments, adjusting journal entries and balance day adjustments. End-of-period adjustments apply the matching principle of accounting which includes accruals, deferrals and asset value adjustments. PTS: 1 DIF: Moderate TOP: End-of-period adjustments 10. What are revenues and expenses and how is the accounting equation expanded to record these items? ANS: Revenues are the prices a business charged its customers for goods or services provided during the accounting period. Expenses are the costs of providing the goods or services during the period. Net income is the excess of revenues over expenses for the period. The accounting equation is expanded as follows to record revenues and expenses: Assets = Liabilities + [Owner’s Capital + Revenues – Expenses]. PTS: 1 DIF: Moderate TOP: Using the accounting equation PROBLEM Example 4.1 The following information applies to the following questions. The accountant for Big Stores has compiled the following information about the business and its accounts: 1. Refer to Example 4.1. What is the total amount of assets belonging to Big Stores? 2. Refer to Example 4.1. Using the accounting equation, what is the amount of owner’s equity reported on Big Stores’ balance sheet? 3. Refer to Example 4.1. What is the total amount that Big Stores owes to creditors? 4. Refer to Example 4.1. How much net income did Big Stores have for the year? Cash Revenues Accounts Payable Wages Payable $1000 Inventory 5000 Expenses 3000 Equipment 2000 Notes payable $ 12 000 ANS: Cash Inventory Equipment Total PTS: 1 ANS: Assets Liabilities Owner’s equity PTS: 1 ANS: Accounts payable Wages payable Notes payable Total PTS: 1 3000 000 ANS: Revenues Expenses Net income PTS: 1 DIF: Moderate 5000 3000 2000 TOP: Earning and recording revenues DIF: Moderate TOP: Assets DIF: Moderate TOP: Owner’s equity DIF: Moderate TOP: Liabilities 5. Refer to Example 4.1. If this is Big Stores’ first year of operations and the owner did not make any withdrawals during the year, how much capital did the owner invest in Big Stores? ANS: Owner’s equity @ end of year Net income Owner’s investment 9000 2000 7000 PTS: 1 DIF: Moderate TOP: Owner’s equity