Financial Reporting - CFA Level I Exam 2023

Information about the coupon rates on the various long-term fixed-rate debt issues of a company can most likely be found in the: A notes to the financial statements. B non-current liabilities section of the balance sheet. C Management Discussion and Analysis (MD&A). - Answer- A is correct. Information about the coupon rates on the various long-term fixed-rate debt issues can usually be found in the notes to the financial statements. The MD&A is more likely to discuss interest rate trends and/or current financing costs but not specific information on individual debt issues. A company acquires some new depreciable assets. It uses straight-line deprecation for all of its assets. Which of the following combinations of estimated residual values and useful lives is most likely to produce the highest net profit margin? Estimated residual values should be: high with long average lives. low with long average lives. high with short average lives. - Answer- A is correct. A high residual value estimate reduces the depreciable base and thus depreciation expense. Long average lives reduce the annual depreciation expense for any given depreciable base. The combination of the two would result in the lowest depreciation expense, which would lead to the highest net income and profit margins. A company using the last-in, first-out (LIFO) inventory method reports a year-end LIFO reserve of $85,000, which is $20,000 lower than the prior year. If the company had used first-in, first-out (FIFO) instead of LIFO in that year, its financial statements would most likely have reported: a higher cost of goods sold (COGS) but a lower inventory balance. both a higher cost of goods sold (COGS) and a higher inventory balance. a lower cost of goods sold (COGS) but a higher inventory balance. - Answer- B is correct. FIFO COGS = LIFO COGS − Change in LIFO reserve The negative change in the LIFO reserve would increase the COGS under FIFO compared with LIFO. FIFO inventory = LIFO inventory + LIFO reserve The LIFO reserve has a positive balance so that FIFO inventory would be higher than LIFO inventory. The year-end balances in a company's last-in, first-out (LIFO) reserve are $56.8 million as reported in the company's financial statements for both 2013 and 2014. For 2014, the measure that will most likely be the same regardless of whether the company uses the LIFO or the first-in, first-out (FIFO) inventory method is the: gross profit margin. amount of working capital. inventory turnover. - Answer- A is correct. The LIFO reserve did not change from 2013 to 2014. With no change in the LIFO reserve, cost of goods sold will be the same under both methods. Sales are always the same for both methods, so gross profit margin will be the same for 2014. The FIFO inventory will be higher because the LIFO inventory and LIFO reserve are added to compute FIFO inventory. Because the inventory balances would differ under FIFO, both inventory turnover and the amount of working capital would also differ under FIFO. A company uses the straight-line method to depreciate its assets. One of its assets is accounted for under the revaluation model. At the end of Year 1, a revaluation gain is recorded for this asset in other comprehensive income. If there is no further revaluation in Year 2, what is the most appropriate depreciable base for the asset in Year 2? No depreciation expense will be recorded under the revaluation model The asset's value including the revaluation gain The asset's original cost - Answer- B is correct. The revaluation model essentially resets the asset's carrying value to fair value. Depreciation is then calculated based on the new carrying value, which would include the revaluation gain. A is incorrect because this would be correct under a fair value approach, which is allowed for investment property. No depreciation is recorded under this approach. C is incorrect because this would be correct under the cost approach. Q. When constructing an asset for sale, directly related borrowing costs are most likely: expensed as incurred. capitalized as part of inventory. capitalized as part of property, plant, and equipment. - Answer- B is correct. When a company constructs an asset, borrowing costs incurred directly related to the construction are generally capitalized. If the asset is constructed for sale, the borrowing costs are classified as inventory. BAURU, S.A., a Brazilian corporation, borrows capital from a local bank to finance the construction of its manufacturing plant. The loan has the following conditions: Borrowing date 1 January 2009 Amount borrowed 500 million Brazilian real (BRL) Annual interest rate 14 percent Term of the loan 3 years Payment method Annual payment of interest only. Principal amortization is due at the end of the loan term. Q. The construction of the plant takes two years, during which time BAURU earned BRL 10 million by temporarily investing the loan proceeds. Which of the following is the amount of interest related to the plant construction (in BRL million) that can be capitalized in BAURU's balance sheet? 130. 140. 210. - Answer- A is correct. Borrowing costs can be capitalized under IFRS until the tangible asset is ready for use. Also, under IFRS, income earned on temporarily investing the borrowed monies decreases the amount of borrowing costs eligible for capitalization. Therefore, Total capitalized interest = (500 million × 14% × 2 years) - 10 million = 130 million. After reading the financial statements and footnotes of a company that follows IFRS, an analyst identified the following intangible assets: product patent expiring in 40 years; copyright with no expiration date; and goodwill acquired 2 years ago in a business combination. Q. Which of these assets is an intangible asset with a finite useful life? Product Patent Copyright Goodwill A Yes Yes No B Yes No No C No Yes Yes - Answer- B is correct. A product patent with a defined expiration date is an intangible asset with a finite useful life. A copyright with no expiration date is an intangible asset with an indefinite useful life. Goodwill is no longer considered an intangible asset under IFRS and is considered to have an indefinite useful life. Q. Intangible assets with finite useful lives mostly differ from intangible assets with infinite useful lives with respect to accounting treatment of: revaluation. impairment. amortization. - Answer- C is correct. An intangible asset with a finite useful life is amortized, whereas an intangible asset with an indefinite useful life is not. Q. Costs incurred for intangible assets are generally expensed when they are: internally developed. individually acquired. acquired in a business combination. - Answer- A is correct. The costs to internally develop intangible assets are generally expensed when incurred. Q. Under US GAAP, when assets are acquired in a business combination, goodwill most likely arises from: contractual or legal rights. assets that can be separated from the acquired company. assets that are neither tangible nor identifiable intangible assets. - Answer- C is correct. Under both International Financial Reporting Standards (IFRS) and US GAAP, if an item is acquired in a business combination and cannot be recognized as a tangible asset or identifiable intangible asset, it is recognized as goodwill. Under US GAAP, assets arising from contractual or legal rights and assets that can be separated from the acquired company are recognized separately from goodwill. Q. All else equal, in the fiscal year when long-lived equipment is purchased: depreciation expense increases. cash from operations decreases. net income is reduced by the amount of the purchase. - Answer- A is correct. In the fiscal year when long-lived equipment is purchased, the assets on the balance sheet increase and depreciation expense on the income statement increases because of the new long-lived asset. Q. A company is comparing straight-line and double-declining balance amortization methods for a non-renewable six-year license, acquired for €600,000. The difference between the Year 4 ending net book values using the two methods is closest to: €81,400. €118,600. €200,000. - Answer- A is correct. As shown in the following calculations, at the end of Year 4, the difference between the net book values calculated using straight-line versus double-declining balance is closest to €81,400. Net book value end of Year 4 using straight-line method = €600,000 - [4 × (€600,000/6)] = €200,000. Net book value end of Year 4 using double-declining balance method = €600,000 (1 - 33.33%)4 ≈ €118,600. Q. MARU S.A. de C.V., a Mexican corporation that follows IFRS, has elected to use the revaluation model for its property, plant, and equipment. One of MARU's machines was purchased for 2,500,000 Mexican pesos (MXN) at the beginning of the fiscal year ended 31 March 2010. As of 31 March 2010, the machine has a fair value of MXN 3,000,000. Should MARU show a profit for the revaluation of the machine? Yes. No, because this revaluation is recorded directly in equity. No, because value increases resulting from revaluation can never be recognized as a profit. - Answer- B is correct. In this case, the value increase brought about by the revaluation should be recorded directly in equity. The reason is that under IFRS, an increase in value brought about by a revaluation can only be recognized as a profit to the extent that it reverses a revaluation decrease of the same asset previously recognized in the income statement. An analyst is studying the impairment of the manufacturing equipment of WLP Corp., a UK-based corporation that follows IFRS. He gathers the following information about the equipment: Fair value £16,800,000 Costs to sell £800,000 Value in use £14,500,000 Net carrying amount £19,100,000 Q. The amount of the impairment loss on WLP Corp.'s income statement related to its manufacturing equipment is closest to: £2,300,000. £3,100,000. £4,600,000. - Answer- B is correct. The impairment loss equals £3,100,000. Impairment = max(Fair value less costs to sell; Value in use) - Net carrying amount = max(16,800,000 - 800,000; 14,500,000) - 19,100,000 = -3,100,000. Q. Under IFRS, an impairment loss on a property, plant, and equipment asset is measured as the excess of the carrying amount over the asset's: fair value. recoverable amount. undiscounted expected future cash flows. - Answer- B is correct. Under IFRS, an impairment loss is measured as the excess of the carrying amount over the asset's recoverable amount. The recoverable amount is the higher of the asset's fair value less costs to sell and its value in use. Value in use is a discounted measure of expected future cash flows. Under US GAAP, assessing recoverability is separate from measuring the impairment loss. If the asset's carrying amount exceeds its undiscounted expected future cash flows, the asset's carrying amount is considered unrecoverable and the impairment loss is measured as the excess of the carrying amount over the asset's fair value A financial analyst at BETTO S.A. is analyzing the result of the sale of a vehicle for 85,000 Argentine pesos (ARP) on 31 December 2009. The analyst compiles the following information about the vehicle: Acquisition cost of the vehicle ARP 100,000 Acquisition date 1 January 2007 Estimated residual value at acquisition date ARP 10,000 Expected useful life 9 years Depreciation method Straight-line Q. The result of the sale of the vehicle is most likely: a loss of ARP 15,000. a gain of ARP 15,000. a gain of ARP 18,333. - Answer- B is correct. The result on the sale of the vehicle equals Gain or loss on the sale = Sale proceeds - Carrying amount = Sale proceeds - (Acquisition cost - Accumulated depreciation) = 85,000 - {100,000 - [((100,000 - 10,000)/9 years) × 3 years]} = 15,000. Q. CROCO S.p.A sells an intangible asset with a historical acquisition cost of €12 million and an accumulated depreciation of €2 million and reports a loss on the sale of €3.2 million. Which of the following amounts is most likely the sale price of the asset? €6.8 million €8.8 million €13.2 million - Answer- A is correct. Gain or loss on the sale = Sale proceeds - Carrying amount. Rearranging this equation, Sale proceeds = Carrying amount + Gain or loss on sale. Thus, Sale price = (12 million - 2 million) + (-3.2 million) = 6.8 million. Q. The impairment of intangible assets with finite lives affects: the balance sheet but not the income statement. the income statement but not the balance sheet. both the balance sheet and the income statement. - Answer- C is correct. The carrying amount of the asset on the balance sheet is reduced by the amount of the impairment loss, and the impairment loss is reported on the income statement. Q. The gain or loss on a sale of a long-lived asset to which the revaluation model has been applied is most likely calculated using sales proceeds less: carrying amount. carrying amount adjusted for impairment. historical cost net of accumulated depreciation. - Answer- A is correct. The gain or loss on the sale of long-lived assets is computed as the sales proceeds minus the carrying amount of the asset at the time of sale. This is true under the cost and revaluation models of reporting long-lived assets. In the absence of impairment losses, under the cost model, the carrying amount will equal historical cost net of accumulated depreciation. Q. According to IFRS, all of the following pieces of information about property, plant, and equipment must be disclosed in a company's financial statements and footnotes except for: useful lives. acquisition dates. - Answer- B is correct. IFRS do not require acquisition dates to be disclosed. Q. According to IFRS, all of the following pieces of information about intangible assets must be disclosed in a company's financial statements and footnotes except for: fair value. impairment loss. amortization rate. - Answer- A is correct. IFRS do not require fair value of intangible assets to be disclosed. Q. Which of the following is a required financial statement disclosure for long-lived intangible assets under US GAAP? The useful lives of assets The reversal of impairment losses Estimated amortization expense for the next five fiscal years - Answer- C is correct. Under US GAAP, companies are required to disclose the estimated amortization expense for the next five fiscal years. Under US GAAP, there is no reversal of impairment losses. Disclosure of the useful lives—finite or indefinite and additional related details—is required under IFRS. Q. Which of the following characteristics is most likely to differentiate investment property from property, plant, and equipment? It is tangible. It earns rent. It is long-lived. - Answer- B is correct. Investment property earns rent. Investment property and property, plant, and equipment are tangible and long-lived. Q. If a company uses the fair value model to value investment property, changes in the fair value of the asset are least likely to affect: net income. net operating income. other comprehensive income. - Answer- C is correct. When a company uses the fair value model to value investment property, changes in the fair value of the property are reported in the income statement—not in other comprehensive income. Q. Investment property is most likely to: earn rent. be held for resale. be used in the production of goods and services. - Answer- A is correct. Investment property earns rent. Inventory is held for resale, and property, plant, and equipment are used in the production of goods and services. Q. A company is most likely to: use a fair value model for some investment property and a cost model for other investment property. change from the fair value model when transactions on comparable properties become less frequent. change from the fair value model when the company transfers investment property to property, plant, and equipment. - Answer- C is correct. A company will change from the fair value model to either the cost model or revaluation model when the company transfers investment property to property, plant, and equipment. Q. Under the revaluation model for property, plant, and equipment and the fair model for investment property: fair value of the asset must be able to be measured reliably. net income is affected by all changes in the fair value of the asset. net income is never affected if the asset increases in value from its carrying amount. - Answer- A is correct. Under both the revaluation model for property, plant, and equipment and the fair model for investment property, the asset's fair value must be able to be measured reliably. Under the fair value model, net income is affected by all changes in the asset's fair value. Under the revaluation model, any increase in an asset's value to the extent that it reverses a previous revaluation decrease will be recognized on the income statement and increase net income.