WALL STREET PREP TEST WITH ALL
ANSWERS CORRECT
1. Do fcompanies fprefer fstraight-line for faccelerated fdepreciation?: fFor fGAAP
freporting fpurposes, fcompanies fgenerally fprefer fstraight-line fdepreciation. fThat's
fbecause fa fcompany fwill frecord flower fdepreciation fin fthe fearly fyears fof fthe fasset's
flife fthan fif fthey fhad fused faccelerated fdepreciation. fAs fa fresult, fcompanies fusing
fstraight-line fdepreciation fwill fshow fhigher fnet fincome fthan funder faccelerated fde-
fpreciation.
2. Do fcompanies fdepreciate fland?: fNo, fland fis fconsidered fto fhave fan findefinite flife
fand fis fnot fdepreciated.
3. Can fcompanies famortize fgoodwill?: fUnder fGAAP, fpublic fcompanies fare fnot
fallowed fto famortize fgoodwill. fInstead, fit fmust fbe ftested fannually ffor fimpairment.
The flonger fanswer fis fthat funder fGAAP, fpublic fcompanies fare fnot fallowed fto famortize
fgoodwill fand fmust finstead ftest fit fannually ffor fimpairment. fHowever, fprivate fcompa-
fnies fmay felect fto famortize fgoodwill. fIn faddition, ffor ftax freporting fpurposes, fgoodwill
fmay fbe famortized fover f15 fyears funder fsome fcircumstances.
4. What fis fthe fimpact fof fshare fissuance fon fEPS?: fThe fmajor fimpact fto fEPS fis
fthat fthe factual fshare fcount fincreases, fthereby fdecreasing fEPS. fHowever, fthere fis
fsometimes fan fimpact fon fnet fincome. fThat's fbecause fassuming fshare fissuances
fgenerate fcash ffor fthe fcompany, fthere fwill fbe fhigher finterest fincome, fwhich fincreases
fnet fincome fand fEPS fslightly. fBecause freturns fon fexcess fcash ffor fmost fcompanies
fare flow, fthis fimpact fis fusually fvery fminor fand fdoesn't foffset fthe fnegative fimpact fto
fEPS ffrom fa fhigher fshare fcount.
5. What fis fthe fimpact fof fshare frepurchases fon fEPS?: fThe fmajor fimpact fto
fEPS fis fthat fthe factual fshare fcount fis freduced, fthereby fincreasing fEPS. fHowever,
fthere fis fsometimes fan fimpact fon fnet fincome. fThat's fbecause fassuming fshare
frepurchases fare ffunded fwith fthe fcompany's fexcess fcash, fany finterest fincome fthat
fwould fhave fotherwise fbeen fgenerated fon fthat fcash fis fno flonger favailable, fthereby
freducing fnet fincome f- fand fEPS f- fslightly. fBecause freturns fon fexcess fcash ffor
fmost fcompanies fare flow, fthis fimpact fis fusually fvery fminor fand fdoesn't foffset fthe
fpositive fimpact fto fEPS ffrom fa flower fshare fcount.
6. How fdo fyou fcalculate fearnings fper fshare?: fEarnings fper fshare f(EPS) fis fcalcu-
flated fas fnet fincome fdivided fby fthe fcompany's fweighted faverage fshares foutstanding
1 f/ f28
,f during fthe fperiod.
There fare ftwo fways fto fmeasure fEPS f- fBasic fand fDiluted. fBasic
EPS fis fnet fincome fdivided fby fthe factual fshares, fwhile fDiluted fEPS fis fnet fincome
fdivided fby factual fshares fand fshares ffrom fpotentially fdilutive fsecurities fsuch fas
foptions, frestricted fstock, fand fconvertible fbonds for fstock.
2 f/ f28
, 7. A fcompany facquired fa fmachine ffor f$5 fmillion fin f2003 fand fhas fsince
fgener- fated f$3 fmillion fin faccumulated fdepreciation. fIn faddition, fthe fPP&E
fnow fhas fa ffair fvalue fof f$20 fmillion. fAssuming fGAAP, fwhat fis fthe fvalue fof
fthat fPP&E fon fthe fcompany's fbalance fsheet?: fThe fshort fanswer fis f$2 fmillion.
fExcept ffor fcertain fliquid ffinancial fassets fwhich fcan fbe fwritten fup fto freflect ffair fmarket
fvalue, fcompanies fmust fcarry fthe fvalue fof fassets fat ftheir fhistorical fcost.
8. Do fyou famortize fintangible fassets?: fIntangible flike fcustomer flists, fcopyrights
fand fpatents f- fassets fthat fhave fa ffinite flife f- fare famortized, fwhile fothers flike ftrade-
fmarks f(and fgoodwill) fare fconsidered fto fhave findefinite flives fand fare fnot famortized.
9. How fdo fcapital fleases faffect fthe fthree ffinancial fstatements?: fLeases ftreated
fas fcapital fleases f(as fopposed fto foperating fleases) fcreate fan fasset fand fassociated
fliability ffor fthe fthing fthat fis fbeing fleased. fFor fexample, fif fa fcompany fleases fa
fbuilding ffor f30 fyears, fthe fbuilding fis frecognized fas fan fasset fon fthe flessee's fbalance
fsheet fwith fa fcorresponding fdebt-like fliability. fThe fincome fstatement fimpact fis fthe
fdepreciation fexpense fassociated fwith fthe fbuilding, fas fwell fas finterest fexpense
fassociated fwith fthe ffinancing.
10. How fdo foperating fleases faffect fthe fthree ffinancial fstatements?: fUnder
fUS fGAAP, fcompanies fcan fchoose fto faccount ffor fleases fas foperating for fcapital
fleases. fOperating fleases fprimarily fonly fimpact fthe fincome fstatement. fWhen
fleases fare faccounted ffor fas foperating fleases, flease f(rent) fpayments fare ftreated
fas foperating fexpenses flike fwages fand futilities: fRegardless fof fwhether fyou fsign fa
f1-year flease for fa f30-year flease, fevery ftime fyou fpay fthe frent, fcash fis fcredited fand
fan foperating fexpense fis fdebited.
The fonly fsignificant fbalance fsheet fimpacts fhave fto fdo fwith ftiming fdifferences
fbetween fpayments f(prepaid fand faccrued frent) fand fthe fmatching fof frent fpayments
fto fwhen fthe ftenant fbenefits ffrom fthat frent f(leading fto fbalance fsheet faccruals ffor
fsmoothing fof frent fescalations fand fupfront frent fincentives flike fa ffree fmonth). fStarting
fin f2019, foperating fleases fwill fno flonger fbe fallowed funder fUS fGAAP.
11. How fcan fa fprofitable ffirm fgo fbankrupt?: fTo fbe fprofitable, fa fcompany fmust
fgenerate frevenues fthat fexceed fexpenses. fHowever, fif fthe fcompany fis fineffective
fat fcollecting fcash ffrom fcustomers fand fallows fits freceivables fto fballoon, for fif fit fis
funable fto fget ffavorable fterms ffrom fsuppliers fand fmust fpay fcash ffor fall finventories
fand fsupplies, fwhat fcan foccur fis fthat fdespite fa fprofitable fincome fstatement, fthe
company fsuffers ffrom fliquidity fproblems fdue fto fthe ftiming fmismatch fof fcash finflows
fand foutflows.
While freliably fprofitable fcompanies fwho fsimply fhave fthese fworking fcapital fissues
fcan fusually fsecure ffinancing fto fdeal fwith fit, ftheoretically, fif ffinancing fbecomes
funavailable ffor fsome freason f(the f2008 fcredit fcrisis fis fan fexample fwhere feven
3 f/ f28
ANSWERS CORRECT
1. Do fcompanies fprefer fstraight-line for faccelerated fdepreciation?: fFor fGAAP
freporting fpurposes, fcompanies fgenerally fprefer fstraight-line fdepreciation. fThat's
fbecause fa fcompany fwill frecord flower fdepreciation fin fthe fearly fyears fof fthe fasset's
flife fthan fif fthey fhad fused faccelerated fdepreciation. fAs fa fresult, fcompanies fusing
fstraight-line fdepreciation fwill fshow fhigher fnet fincome fthan funder faccelerated fde-
fpreciation.
2. Do fcompanies fdepreciate fland?: fNo, fland fis fconsidered fto fhave fan findefinite flife
fand fis fnot fdepreciated.
3. Can fcompanies famortize fgoodwill?: fUnder fGAAP, fpublic fcompanies fare fnot
fallowed fto famortize fgoodwill. fInstead, fit fmust fbe ftested fannually ffor fimpairment.
The flonger fanswer fis fthat funder fGAAP, fpublic fcompanies fare fnot fallowed fto famortize
fgoodwill fand fmust finstead ftest fit fannually ffor fimpairment. fHowever, fprivate fcompa-
fnies fmay felect fto famortize fgoodwill. fIn faddition, ffor ftax freporting fpurposes, fgoodwill
fmay fbe famortized fover f15 fyears funder fsome fcircumstances.
4. What fis fthe fimpact fof fshare fissuance fon fEPS?: fThe fmajor fimpact fto fEPS fis
fthat fthe factual fshare fcount fincreases, fthereby fdecreasing fEPS. fHowever, fthere fis
fsometimes fan fimpact fon fnet fincome. fThat's fbecause fassuming fshare fissuances
fgenerate fcash ffor fthe fcompany, fthere fwill fbe fhigher finterest fincome, fwhich fincreases
fnet fincome fand fEPS fslightly. fBecause freturns fon fexcess fcash ffor fmost fcompanies
fare flow, fthis fimpact fis fusually fvery fminor fand fdoesn't foffset fthe fnegative fimpact fto
fEPS ffrom fa fhigher fshare fcount.
5. What fis fthe fimpact fof fshare frepurchases fon fEPS?: fThe fmajor fimpact fto
fEPS fis fthat fthe factual fshare fcount fis freduced, fthereby fincreasing fEPS. fHowever,
fthere fis fsometimes fan fimpact fon fnet fincome. fThat's fbecause fassuming fshare
frepurchases fare ffunded fwith fthe fcompany's fexcess fcash, fany finterest fincome fthat
fwould fhave fotherwise fbeen fgenerated fon fthat fcash fis fno flonger favailable, fthereby
freducing fnet fincome f- fand fEPS f- fslightly. fBecause freturns fon fexcess fcash ffor
fmost fcompanies fare flow, fthis fimpact fis fusually fvery fminor fand fdoesn't foffset fthe
fpositive fimpact fto fEPS ffrom fa flower fshare fcount.
6. How fdo fyou fcalculate fearnings fper fshare?: fEarnings fper fshare f(EPS) fis fcalcu-
flated fas fnet fincome fdivided fby fthe fcompany's fweighted faverage fshares foutstanding
1 f/ f28
,f during fthe fperiod.
There fare ftwo fways fto fmeasure fEPS f- fBasic fand fDiluted. fBasic
EPS fis fnet fincome fdivided fby fthe factual fshares, fwhile fDiluted fEPS fis fnet fincome
fdivided fby factual fshares fand fshares ffrom fpotentially fdilutive fsecurities fsuch fas
foptions, frestricted fstock, fand fconvertible fbonds for fstock.
2 f/ f28
, 7. A fcompany facquired fa fmachine ffor f$5 fmillion fin f2003 fand fhas fsince
fgener- fated f$3 fmillion fin faccumulated fdepreciation. fIn faddition, fthe fPP&E
fnow fhas fa ffair fvalue fof f$20 fmillion. fAssuming fGAAP, fwhat fis fthe fvalue fof
fthat fPP&E fon fthe fcompany's fbalance fsheet?: fThe fshort fanswer fis f$2 fmillion.
fExcept ffor fcertain fliquid ffinancial fassets fwhich fcan fbe fwritten fup fto freflect ffair fmarket
fvalue, fcompanies fmust fcarry fthe fvalue fof fassets fat ftheir fhistorical fcost.
8. Do fyou famortize fintangible fassets?: fIntangible flike fcustomer flists, fcopyrights
fand fpatents f- fassets fthat fhave fa ffinite flife f- fare famortized, fwhile fothers flike ftrade-
fmarks f(and fgoodwill) fare fconsidered fto fhave findefinite flives fand fare fnot famortized.
9. How fdo fcapital fleases faffect fthe fthree ffinancial fstatements?: fLeases ftreated
fas fcapital fleases f(as fopposed fto foperating fleases) fcreate fan fasset fand fassociated
fliability ffor fthe fthing fthat fis fbeing fleased. fFor fexample, fif fa fcompany fleases fa
fbuilding ffor f30 fyears, fthe fbuilding fis frecognized fas fan fasset fon fthe flessee's fbalance
fsheet fwith fa fcorresponding fdebt-like fliability. fThe fincome fstatement fimpact fis fthe
fdepreciation fexpense fassociated fwith fthe fbuilding, fas fwell fas finterest fexpense
fassociated fwith fthe ffinancing.
10. How fdo foperating fleases faffect fthe fthree ffinancial fstatements?: fUnder
fUS fGAAP, fcompanies fcan fchoose fto faccount ffor fleases fas foperating for fcapital
fleases. fOperating fleases fprimarily fonly fimpact fthe fincome fstatement. fWhen
fleases fare faccounted ffor fas foperating fleases, flease f(rent) fpayments fare ftreated
fas foperating fexpenses flike fwages fand futilities: fRegardless fof fwhether fyou fsign fa
f1-year flease for fa f30-year flease, fevery ftime fyou fpay fthe frent, fcash fis fcredited fand
fan foperating fexpense fis fdebited.
The fonly fsignificant fbalance fsheet fimpacts fhave fto fdo fwith ftiming fdifferences
fbetween fpayments f(prepaid fand faccrued frent) fand fthe fmatching fof frent fpayments
fto fwhen fthe ftenant fbenefits ffrom fthat frent f(leading fto fbalance fsheet faccruals ffor
fsmoothing fof frent fescalations fand fupfront frent fincentives flike fa ffree fmonth). fStarting
fin f2019, foperating fleases fwill fno flonger fbe fallowed funder fUS fGAAP.
11. How fcan fa fprofitable ffirm fgo fbankrupt?: fTo fbe fprofitable, fa fcompany fmust
fgenerate frevenues fthat fexceed fexpenses. fHowever, fif fthe fcompany fis fineffective
fat fcollecting fcash ffrom fcustomers fand fallows fits freceivables fto fballoon, for fif fit fis
funable fto fget ffavorable fterms ffrom fsuppliers fand fmust fpay fcash ffor fall finventories
fand fsupplies, fwhat fcan foccur fis fthat fdespite fa fprofitable fincome fstatement, fthe
company fsuffers ffrom fliquidity fproblems fdue fto fthe ftiming fmismatch fof fcash finflows
fand foutflows.
While freliably fprofitable fcompanies fwho fsimply fhave fthese fworking fcapital fissues
fcan fusually fsecure ffinancing fto fdeal fwith fit, ftheoretically, fif ffinancing fbecomes
funavailable ffor fsome freason f(the f2008 fcredit fcrisis fis fan fexample fwhere feven
3 f/ f28
