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Financial Accounting Robert Libby 10th Edition- Test Bank
Sample Questions
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Chapter 2 Investing and Financing Decisions and the Accounting System
1) The primary objective of financial reporting is to provide useful information to external decision makers.
Answer: TRUE
Explanation: The primary objective of external financial reporting is to provide useful financial information about a business to help external decision makers.
Difficulty: 1 Easy
Topic: Accounting concepts
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
2) In order for information to be relevant, the information needs to be complete, neutral, and free from error.
Answer: FALSE
Explanation: Relevant information is timely and has predictive and/or feedback value. Faithful representation requires that information be complete, neutral, and free from error.
Difficulty: 1 Easy
Topic: Accounting concepts
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
3) In order for information to be relevant, the information should have both predictive and/or feedback value.
Answer: TRUE
Explanation: Relevant information provides feedback and predictive value on a timely basis.
Difficulty: 1 Easy
Topic: Accounting concepts
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
4) The continuity assumption states that a business will continue to operate into the foreseeable future.
Answer: TRUE
Explanation: The continuity assumption assumes that a business will continue operating long enough to meet its contractual commitments and plans. This is also called the going-concern assumption.
Difficulty: 1 Easy
Topic: Accounting concepts
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
5) The current assets section of a balance sheet includes both inventory and prepaid expenses.
Answer: TRUE
Explanation: Current assets are resources that a business will use or turn into cash within one year.
Difficulty: 1 Easy
Topic: Balance sheet—Elements
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
6) The stockholders’ equity section of a balance sheet includes capital contributed by owners and also retained earnings.
Answer: TRUE
Explanation: The stockholders’ equity section reports the financing provided by the owners and by its business operations.
Difficulty: 1 Easy
Topic: Balance sheet—Elements
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
7) Under the monetary unit assumption, accounting information should be measured and reported in terms of the national monetary unit, with an adjustment for changes in purchasing power.
Answer: FALSE
Explanation: The monetary unit assumption guides financial reporting so that the national monetary unit is the reporting unit for financial statements and will not be adjusted for changes in purchasing power.
Difficulty: 2 Medium
Topic: Accounting concepts
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
8) Assets are reported on the balance sheet in the order of liquidity.
Answer: TRUE
Explanation: Assets are reported in order of liquidity. The asset section of the balance sheet begins with cash.
Difficulty: 1 Easy
Topic: Balance sheet—Elements; Preparing a classified balance sheet
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.; 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
9) Many valuable internally-developed intangible assets such as trademarks and copyrights are not reported on a company’s balance sheet.
Answer: TRUE
Explanation: Intangible assets that are not purchased but that are developed inside a company are not reported on the balance sheet.
Difficulty: 2 Medium
Topic: Balance sheet—Elements
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
10) Stockholders’ equity reflects the financing provided by owners.
Answer: TRUE
Explanation: The stockholders’ equity section of the balance sheet includes financing provided by owners and net income retained from business operations.
Difficulty: 1 Easy
Topic: Balance sheet—Elements
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
11) Common stock and additional-paid in capital represent the financing sources from shareholders.
Answer: TRUE
Explanation: Common stock and additional paid-in capital are contributed capital components representing the financing sources from owners.
Difficulty: 1 Easy
Topic: Balance sheet—Elements; Balance sheet—Common account titles
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
12) Financial reporting focuses on reporting the impact of transactions on an entity’s financial position.
Answer: TRUE
Explanation: Accounting focuses on certain events that have an economic impact on the entity. Those events that are recorded as part of the accounting process are called transactions.
Difficulty: 1 Easy
Topic: Business transactions—General information; Transaction analysis—Principles
Learning Objective: 02-02 Identify what constitutes a business transaction and recognize common balance sheet account titles used in business.; 02-03 Apply transaction analysis to simple business transactions in terms of the accounting model: Assets = Liabilities plus Stockholders’ Equity.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
13) Unearned revenue is reported on the balance sheet as a liability and represents amounts paid to an entity in exchange for future services and/or goods.
Answer: TRUE
Explanation: Accounts with “unearned” in the title are always liabilities representing amounts paid to the company in the past, by others, with the promise of goods and/or services in the future.
Difficulty: 2 Medium
Topic: Balance sheet—Common account titles
Learning Objective: 02-02 Identify what constitutes a business transaction and recognize common balance sheet account titles used in business.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
14) A transaction may be an exchange of assets or services by one business for assets, services, or promises to pay from a different business.
Answer: TRUE
Explanation: A transaction is an exchange of assets or services for assets, services, or promises to pay between a business and one or more external parties to that business.
Difficulty: 2 Medium
Topic: Business transactions—General information
Learning Objective: 02-02 Identify what constitutes a business transaction and recognize common balance sheet account titles used in business.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
15) The dual effects concept implies that every transaction has at least two effects on the accounting equation.
Answer: TRUE
Explanation: Every accounting transaction has at least two effects on the accounting equation; this concept is known as dual effects.
Difficulty: 2 Medium
Topic: Transaction analysis—Principles
Learning Objective: 02-03 Apply transaction analysis to simple business transactions in terms of the accounting model: Assets = Liabilities plus Stockholders’ Equity.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
16) The accounting equation does not have to be in balance after the recording of each transaction.
Answer: FALSE
Explanation: One of the underlying principles of an accounting transaction is that the accounting equation must remain in balance after recording every transaction.
Difficulty: 1 Easy
Topic: Transaction analysis—Principles
Learning Objective: 02-03 Apply transaction analysis to simple business transactions in terms of the accounting model: Assets = Liabilities plus Stockholders’ Equity.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
17) Additional paid-in capital is reported on the balance sheet as a component of shareholders’ equity.
Answer: TRUE
Explanation: Shareholders’ equity includes common stock, additional paid-in capital, and retained earnings.
Difficulty: 1 Easy
Topic: Balance sheet—Common account titles
Learning Objective: 02-02 Identify what constitutes a business transaction and recognize common balance sheet account titles used in business.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
18) Common stock and additional paid-in capital are both reported on the balance sheet as components of shareholders’ equity.
Answer: TRUE
Explanation: Shareholders’ equity includes common stock, additional paid-in capital, and retained earnings.
Difficulty: 1 Easy
Topic: Balance sheet—Common account titles
Learning Objective: 02-02 Identify what constitutes a business transaction and recognize common balance sheet account titles used in business.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
19) A company’s assets and stockholders’ equity both increase when the company sells additional shares of stock in exchange for cash.
Answer: TRUE
Explanation: Receiving cash increases assets; selling stock increases stockholders’ equity. Both sides of the balance sheet equation are increased with this transaction.
Difficulty: 1 Easy
Topic: Transaction analysis-Effect on equation
Learning Objective: 02-03 Apply transaction analysis to simple business transactions in terms of the accounting model: Assets = Liabilities plus Stockholders’ Equity.
Bloom’s: Analyze
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
20) Purchasing supplies for cash results in an increase in total assets for the purchasing company.
Answer: FALSE
Explanation: This transaction has zero effect on the total asset amount. The asset Supplies is increased and the asset Cash is decreased by the same amount.
Difficulty: 2 Medium
Topic: Transaction analysis-Effect on equation
Learning Objective: 02-03 Apply transaction analysis to simple business transactions in terms of the accounting model: Assets = Liabilities plus Stockholders’ Equity.
Bloom’s: Analyze
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
21) The normal balance for an asset account is a debit and the normal balance for a liability account is a credit.
Answer: TRUE
Explanation: The normal balance refers to what is usual or what increases an account. Assets have debit balances and liabilities have credit balances.
Difficulty: 1 Easy
Topic: Transaction analysis-Direction of effects
Learning Objective: 02-04 Determine the impact of business transactions on the balance sheet using two basic tools: Journal entries and T-accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
22) The recording of a journal entry precedes the posting to the general ledger.
Answer: TRUE
Explanation: The accounting cycle during the period starts with analyzing a transaction, recording journal entries in the general journal, and finally posting the amounts to the general ledger.
Difficulty: 1 Easy
Topic: Transaction analysis—Journal entries
Learning Objective: 02-04 Determine the impact of business transactions on the balance sheet using two basic tools: Journal entries and T-accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
23) An asset account normally has a debit balance and is increased by debiting the account.
Answer: TRUE
Explanation: The normal account balance for an asset is a debit balance; accounts are increased on the same side as their position in the accounting equation. Assets are on the left side of the accounting equation and therefore assets are increased on the left. A left-side entry is a debit.
Difficulty: 1 Easy
Topic: Transaction analysis-Direction of effects
Learning Objective: 02-04 Determine the impact of business transactions on the balance sheet using two basic tools: Journal entries and T-accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
24) Liability and stockholders’ equity accounts normally have credit balances and are decreased by debiting the accounts.
Answer: TRUE
Explanation: The normal balance for liabilities and stockholders’ equity is a credit balance; accounts are increased on the same side as their position in the accounting equation. Liability and stockholders’ equity accounts are on the right side of the accounting equation and therefore they are increased on the right. A right-side entry is a credit. Therefore they are decreased with a left-side entry, which is a debit.
Difficulty: 1 Easy
Topic: Transaction analysis-Direction of effects
Learning Objective: 02-04 Determine the impact of business transactions on the balance sheet using two basic tools: Journal entries and T-accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
25) A journal entry is a written expression of the effects of a transaction on accounts and has equal debits and credits.
Answer: TRUE
Explanation: A journal entry is an accounting method for expressing the effects of a transaction on separate accounts. The journal entry must have equal debit and credit amounts.
Difficulty: 1 Easy
Topic: Transaction analysis—Journal entries
Learning Objective: 02-04 Determine the impact of business transactions on the balance sheet using two basic tools: Journal entries and T-accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
26) The general ledger is a chronological listing of each transaction and its effects on the accounting equation.
Answer: FALSE
Explanation: Transactions are first recorded in the general journal, which is a chronological listing of each transaction. Accounts in the general ledger are updated by posting the effects listed in the general journal. The general ledger is a record of effects to and balances of each account.
Difficulty: 1 Easy
Topic: Transaction analysis—T-accounts
Learning Objective: 02-04 Determine the impact of business transactions on the balance sheet using two basic tools: Journal entries and T-accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
27) The T-account is very useful for accumulating the effects of transactions on account balances and for determining individual account balances.
Answer: TRUE
Explanation: The T-account is a very useful tool for summarizing the transaction effects, determining the balances for individual accounts, and drawing inferences about a company’s activities.
Difficulty: 1 Easy
Topic: Transaction analysis—T-accounts
Learning Objective: 02-04 Determine the impact of business transactions on the balance sheet using two basic tools: Journal entries and T-accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
28) The trial balance is similar to the balance sheet in that it is a listing of assets, liabilities, and stockholders’ equity and is provided to external decision makers.
Answer: FALSE
Explanation: A trial balance is a list of all accounts with their balances to provide a check on the equality of the debits and credits and is not provided to external users.
Difficulty: 1 Easy
Topic: Trial balance
Learning Objective: 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
29) The trial balance is a listing of account balances that are found in the general ledger.
Answer: TRUE
Explanation: A trial balance is a list of all accounts with their balances to provide a check on the equality of the debits and credits.
Difficulty: 1 Easy
Topic: Trial balance
Learning Objective: 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
30) An objective of preparing the trial balance is to test the equality of debits and credits.
Answer: TRUE
Explanation: A trial balance is a list of all accounts with their balances to provide a check on the equality of the debits and credits.
Difficulty: 1 Easy
Topic: Trial balance
Learning Objective: 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
31) Current assets include accounts receivable and prepaid expenses.
Answer: TRUE
Explanation: Current assets are those to be used or turned into cash within the upcoming year.
Difficulty: 1 Easy
Topic: Balance sheet—Elements; Preparing a classified balance sheet
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.; 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
32) The current ratio is current assets divided by current liabilities.
Answer: TRUE
Explanation: The current ratio shows an entity’s ability to cover its short-term liabilities. It is equal to current assets divided by current liabilities.
Difficulty: 1 Easy
Topic: Ratio analysis
Learning Objective: 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
33) Current liabilities are defined as obligations to be paid within six months.
Answer: FALSE
Explanation: Current liabilities are those obligations to be paid within the next twelve months.
Difficulty: 1 Easy
Topic: Balance sheet—Elements; Preparing a classified balance sheet
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.; 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
34) The current ratio measures the ability of a company to pay its short-term obligations with short-term assets.
Answer: TRUE
Explanation: The current ratio is current assets divided by current liabilities. This measures a company’s ability to pay its current liabilities with current assets.
Difficulty: 1 Easy
Topic: Ratio analysis
Learning Objective: 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
35) A company with a high current ratio should never have liquidity problems.
Answer: FALSE
Explanation: A company with its current assets tied up in slow-moving inventory may have a high current ratio but still have liquidity problems.
Difficulty: 2 Medium
Topic: Ratio analysis
Learning Objective: 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
36) When a company borrows money from a bank, the statement of cash flows will report a cash increase from an investing activity.
Answer: FALSE
Explanation: Borrowing cash from a bank leads to a cash inflow from a financing activity.
Difficulty: 1 Easy
Topic: Investing and financing-Cash flow
Learning Objective: 02-06 Identify investing and financing transactions and demonstrate how they impact cash flows.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
37) Issuing stock in exchange for cash creates an increase in cash from a financing activity.
Answer: TRUE
Explanation: Stock issuance for cash is a financing activity.
Difficulty: 1 Easy
Topic: Investing and financing-Cash flow
Learning Objective: 02-06 Identify investing and financing transactions and demonstrate how they impact cash flows.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
38) Which of the following statements about stockholders’ equity is false?
- A) Stockholders’ equity is the shareholders’ residual interest in the company resulting from the difference in assets and liabilities.
- B) Stockholders’ equity accounts are increased with credits.
- C) Stockholders’ equity results only from contributions of the owners.
- D) The purchase of land for cash has no effect on stockholders’ equity.
Answer: C
Explanation: Retained earnings from business operations are also a component of stockholders’ equity.
Difficulty: 2 Medium
Topic: Balance sheet—Elements; Transaction analysis—Direction of effects
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.; 02-03 Apply transaction analysis to simple business transactions in terms of the accounting model: Assets = Liabilities plus Stockholders’ Equity.
Bloom’s: Analyze
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
39) Assets, liabilities, and stockholders’ equity are all found within which of the following financial statements?
- A) Balance sheet.
- B) Income statement.
- C) The investing activities section of the Statement of Cash Flows.
- D) Statement of stockholders’ equity.
Answer: A
Explanation: The balance sheet contains three parts: 1) Assets, 2) Liabilities, and 3) Stockholders’ Equity.
Difficulty: 1 Easy
Topic: Balance sheet—Elements
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
40) Accounts payable would be reported within which of the following financial statements?
- A) Statement of cash flows.
- B) Income statement.
- C) Balance sheet.
- D) Statement of stockholders’ equity.
Answer: C
Explanation: An accounts payable is a liability reported on the balance sheet.
Difficulty: 1 Easy
Topic: Balance sheet—Elements
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
41) Which of the following assumptions implies that a business can continue to remain in operation into the foreseeable future?
- A) Historical cost principle.
- B) Monetary unit assumption.
- C) Continuity assumption.
- D) Separate-entity assumption.
Answer: C
Explanation: The continuity assumption, also known as the going-concern assumption, states that a business will continue operating long enough to meet its contractual commitments and plans.
Difficulty: 1 Easy
Topic: Accounting concepts
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
42) Which of the following best describes assets?
- A) Resources with possible future economic benefits owed by an entity as a result of past transactions.
- B) Resources with probable future economic benefits owned by an entity as a result of past transactions.
- C) Resources with probable future economic benefits owned by an entity as a result of future transactions.
- D) Resources with possible future economic benefits owed by an entity as a result of future transactions.
Answer: B
Explanation: Assets are economic resources with probable future benefits owned or controlled by an entity as a result of past transactions.
Difficulty: 2 Medium
Topic: Balance sheet—Elements
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
43) Which of the following assumptions implies that the assets and liabilities of the business are accounted for separately from the assets and liabilities of the owners?
- A) Monetary unit assumption.
- B) Continuity assumption.
- C) Historical cost principle.
- D) Separate entity assumption.
Answer: D
Explanation: The separate entity assumption states that each business’s activities must be accounted for separately from the activities of its owners, all other persons, and other entities.
Difficulty: 1 Easy
Topic: Accounting concepts
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
44) Which of the following is being applied when, under certain conditions, the value recorded for an asset is adjusted to a different amount?
- A) Comparability
- B) Timeliness
- C) Mixed-attribute
- D) Understandability
Answer: C
Explanation: Accountants measure the elements of the balance sheet using the mixed-attribute measurement model. Most balance sheet elements are recorded at historical cost, but under certain conditions these values are adjusted to other amounts. Comparability, timeliness, and understandability are attributes that enhance the quality of financial information.
Difficulty: 1 Easy
Topic: Accounting concepts
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
45) Which of the following best describes liabilities?
- A) Possible debts or obligations of an entity as a result of future transactions, which will be paid with assets or services.
- B) Possible debts or obligations of an entity as a result of past transactions, which will be paid with assets or services.
- C) Probable debts or obligations of an entity as a result of future transactions, which will be paid with assets or services.
- D) Probable debts or obligations of an entity as a result of past transactions, which will be paid with assets or services.
Answer: D
Explanation: Liabilities are probable debts or obligations that result from a company’s past transactions and will be paid with assets or services.
Difficulty: 2 Medium
Topic: Balance sheet—Elements
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
46) Which of the following statements is incorrect concerning balance sheets prepared under IFRS and GAAP?
- A) The same elements are used in preparing balance sheets under both GAAP and IFRS.
- B) Under IFRS stockholders’ equity is listed before liabilities, while under GAAP liabilities are listed before stockholders’ equity.
- C) Under GAAP assets are usually listed in increasing order of liquidity, while under IFRS assets are usually listed in decreasing order of liquidity.
- D) Under GAAP current items are presented first, while under IFRS noncurrent items are presented first.
Answer: C
Explanation: Under IFRS assets are usually listed in increasing order of liquidity, while under GAAP assets are usually listed in decreasing order of liquidity.
Difficulty: 2 Medium
Topic: Preparing a classified balance sheet
Learning Objective: 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
47) Chad Jones is the sole owner and manager of Jones Glass Repair Shop. Jones purchased a truck, to be used in the business, for its market value of $35,000. Which of the following fundamentals requires Jones to record the truck at the price paid to buy it?
- A) Separate-entity assumption.
- B) Revenue principle.
- C) Monetary unit assumption.
- D) Historical cost principle.
Answer: D
Explanation: The historical cost principle requires assets to be recorded at cost equal to cash paid plus the dollar value of all noncash considerations received in the exchange.
Difficulty: 1 Easy
Topic: Accounting concepts
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
48) In what order are current assets listed on a balance sheet?
- A) By dollar amount (largest first).
- B) By date of acquisition (earliest first).
- C) By liquidity.
- D) By relevance to the operation of the business.
Answer: C
Explanation: Assets are listed on the balance sheet in order of liquidity with the most liquid assets listed first.
Difficulty: 1 Easy
Topic: Balance sheet—Elements; Preparing a classified balance sheet
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.; 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
49) In what order would the following assets be listed on a balance sheet?
- A) Cash, Short-term Investments, Accounts Receivable, Inventory.
- B) Cash, Intangible Assets, Accounts Receivable, Property and Equipment.
- C) Cash, Accounts Receivable, Property and Equipment, Inventory.
- D) Cash, Inventory, Intangible Assets, Accounts Receivable.
Answer: A
Explanation: Assets are listed in order of liquidity. Cash is always first, and Property and Equipment is listed as a non-current asset. Accounts Receivable is more liquid than Inventory.
Difficulty: 2 Medium
Topic: Balance sheet—Elements; Preparing a classified balance sheet
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.; 02-05 Prepare a trial balance and simple classified balance sheet and analyze the company using the current ratio.
Bloom’s: Analyze
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
50) Where would changes in stockholders’ equity resulting from financing provided by operations be reported?
- A) Within a long-term asset account.
- B) Within the additional paid-in capital account.
- C) Within a liability account.
- D) Within the retained earnings account.
Answer: D
Explanation: Stockholders’ equity has two parts; financing from contributed capital and business operations. Retained earnings are the result of business operations, and therefore changes in stockholders’ equity from operations are reported in retained earnings.
Difficulty: 2 Medium
Topic: Balance sheet—Elements
Learning Objective: 02-01 Define the objective of financial reporting, the elements of the balance sheet, and the related key accounting assumptions and principles.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
ing, 10e (Libby)
Chapter 4 Adjustments, Financial Statements, and the Quality of Earnings
1) At the time of the initial cash flow, deferred expenses are recorded as assets, and when used in the future, expenses will increase, and liabilities will increase.
Answer: FALSE
Explanation: Deferred expenses are initially recorded as prepaid assets. When they are used in the future, expenses increase and assets decrease. Liabilities are not affected.
Difficulty: 2 Medium
Topic: Adjustments – Deferred expenses – Prepaid
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
2) Deferred expenses are initially recorded as assets and when they are later used, expenses will increase and assets will decrease.
Answer: TRUE
Explanation: Deferred expenses are initially recorded as prepaid assets. When they are used in the future, expenses increase and assets decrease.
Difficulty: 1 Easy
Topic: Adjustments – Deferred expenses – Prepaid
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
3) Income taxes incurred but not yet paid at the end of the accounting period is an example of an accrued expense.
Answer: TRUE
Explanation: Accrued expenses are previously unrecorded expenses that need to be adjusted at the end of the accounting period to reflect the amount incurred and the related payable.
Difficulty: 1 Easy
Topic: Adjustments – Accrued expenses
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
4) Cash collected from customers in advance of providing the goods or services creates a liability, which is later reduced when the goods or services are provided.
Answer: TRUE
Explanation: Cash collected in advance of goods or services to be provided creates deferred revenue, which is recorded in an unearned revenue account. Unearned revenue is classified as a liability account that is only reduced once the goods or services have been provided.
Difficulty: 2 Medium
Topic: Adjustments – Deferred revenue – Unearned
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
5) Accrued revenues are revenues that have been earned, but the customer has not yet paid for the goods or services.
Answer: TRUE
Explanation: Accrued revenues are revenues that have been earned but the customer has not been billed and has not paid for the goods or services. This revenue needs to be recorded, because it has been earned.
Difficulty: 1 Easy
Topic: Adjustments – Accrued revenue – Receivable
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
6) An accrued expense is incurred and paid for in the current period.
Answer: FALSE
Explanation: Accrued expenses are previously unrecorded expenses that have been incurred but not yet paid for.
Difficulty: 1 Easy
Topic: Adjustments – Accrued expenses
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
7) A deferred expense such as prepaid insurance is created when cash is paid in advance of the expense being incurred, and is reduced when the expense is actually incurred.
Answer: TRUE
Explanation: Deferred expenses are assets previously acquired that need to be adjusted to reflect the amount of expense incurred.
Difficulty: 2 Medium
Topic: Adjustments – Deferred expenses – Prepaid
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
8) The adjusting entry to record an accrued expense increases liabilities.
Answer: TRUE
Explanation: Accrued expenses have yet to be paid; therefore, when the adjusting entry is recorded, a payable is created.
Difficulty: 1 Easy
Topic: Adjustments – Accrued expenses
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
9) The journal entry to adjust the unearned revenue account when revenues are earned results in an increase in assets and a decrease in liabilities.
Answer: FALSE
Explanation: The adjusting entry to recognize revenue previously recorded as unearned revenue results in a decrease in liabilities and an increase in stockholders’ equity (revenue).
Difficulty: 2 Medium
Topic: Adjustments – Deferred revenue – Unearned
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
10) The journal entry to adjust the prepaid rent account for rent used during the period results in an increase in expenses and a decrease in stockholders’ equity.
Answer: TRUE
Explanation: The adjusting entry to recognize an expense previously recorded as prepaid results in assets decreasing, expenses increasing, and as a result of expenses increasing, stockholders’ equity also decreases.
Difficulty: 2 Medium
Topic: Adjustments – Deferred expenses – Prepaid
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
11) The adjusting entry to record accrued revenues results in an increase in assets and an increase in stockholders’ equity.
Answer: TRUE
Explanation: The adjusting entry to record accrued revenues recognizes revenues that are earned but for which cash has not yet been received. The result is an increase in assets (accounts receivable) and an increase in revenue; the increase in revenue results in an increase to stockholders’ equity.
Difficulty: 2 Medium
Topic: Adjustments – Accrued revenue – Receivable
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
12) The adjusting entry to record an accrued expense results in a decrease in both assets and stockholders’ equity.
Answer: FALSE
Explanation: The adjusting entry to record an accrued expense results in a decrease in stockholders’ equity and an increase in liabilities.
Difficulty: 2 Medium
Topic: Adjustments – Accrued expenses
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
13) Rent of $4,000 collected in advance was recorded as unearned rent revenue. At the end of the accounting period, half the rent was earned. The related adjusting entry should be a credit to rent revenue for $2,000 and a debit to unearned rent revenue for $2,000.
Answer: TRUE
Explanation: The adjusting entry to recognize unearned rent revenue results in revenue being recognized and the resulting liability being decreased. The entry is prepared with a debit to unearned rent revenue for $2,000 and a credit to rent revenue for $2,000.
Difficulty: 2 Medium
Topic: Adjustments – Deferred revenue – Unearned
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
14) Depreciation expense is an estimated allocation of the cost of long-term assets and is recorded in a contra-asset called accumulated depreciation.
Answer: TRUE
Explanation: Using the expense recognition principle, depreciation expense is the allocation of an asset’s cost over its estimated useful life. Depreciation expense is recorded in accumulated depreciation, a contra-asset account.
Difficulty: 2 Medium
Topic: Adjustments – Depreciation
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
15) Earnings per share is calculated by dividing net income minus preferred dividends by the average number of shares of common stock outstanding.
Answer: TRUE
Explanation: Earnings per share = (Net Income – Preferred Dividends) ÷ Average number of shares of common stock outstanding during the period. A more complex calculation of the denominator would use the weighted average number of shares rather than simply the average number of shares outstanding during the period.
Difficulty: 2 Medium
Topic: Preparing financial statements
Learning Objective: 04-02 Present an income statement with earnings per share, a statement of stockholders’ equity, and a balance sheet.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
16) Earnings per share is calculated by dividing net income by the average number of shares of common stock outstanding.
Answer: TRUE
Explanation: The simple calculation of earnings per share is:
Earnings per share = Net Income ÷ Average number of shares of common stock outstanding during the period.
If there are preferred dividends, they would be subtracted from net income in the numerator. If more shares of stock are issued during the period, a more complex calculation would be prepared for the denominator using the weighted average number of shares outstanding during the period. (This is an alternate question for number 15 as both ratios are provided in the text.)
Difficulty: 1 Easy
Topic: Preparing financial statements
Learning Objective: 04-02 Present an income statement with earnings per share, a statement of stockholders’ equity, and a balance sheet.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
17) Adjusting entries do not involve cash and therefore do not impact the cash flow statement.
Answer: TRUE
Explanation: The statement of cash flows is unaffected by adjusting entries because the adjusting entries do not involve the cash account.
Difficulty: 1 Easy
Topic: Adjustments – Purpose and process
Learning Objective: 04-02 Present an income statement with earnings per share, a statement of stockholders’ equity, and a balance sheet.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
18) Under accrual accounting, interest expense would be recognized on the income statement when the interest has accrued with the passage of time even though cash has not been paid.
Answer: TRUE
Explanation: In accrual accounting, expenses are recognized in the period they are incurred in generating revenue.
Difficulty: 2 Medium
Topic: Preparing financial statements; Adjustments – Interest Expense
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.; 04-02 Present an income statement with earnings per share, statement of stockholders’ equity, and balance sheet.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
19) The total asset turnover ratio is computed by dividing sales revenue by average total assets.
Answer: TRUE
Explanation: Total Asset Turnover = Sales (or Operating) Revenue ÷ Average Total Assets.
Difficulty: 1 Easy
Topic: Ratio analysis
Learning Objective: 04-03 Compute and interpret the total asset turnover ratio.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
20) The total asset turnover ratio measures sales dollars generated per dollar of assets and is a measure of efficient management of assets to generate sales.
Answer: TRUE
Explanation: Total Asset Turnover = Sales (or Operating) Revenues ÷ Average Total Assets. This ratio is often used to assess managers’ use of all the company’s assets to generate sales.
Difficulty: 1 Easy
Topic: Ratio analysis
Learning Objective: 04-03 Compute and interpret the total asset turnover ratio.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
21) Accounts that retain their balance from one period to the next are referred to as permanent accounts and include balance sheet accounts.
Answer: TRUE
Explanation: Balance sheet accounts retain their balances from one accounting period to the next, and are considered permanent accounts.
Difficulty: 1 Easy
Topic: Process of closing the books
Learning Objective: 04-04 Explain the closing process.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
22) Accounts that start a new accounting period with zero balances are referred to as temporary accounts and include both balance sheet and income statement accounts.
Answer: FALSE
Explanation: Temporary accounts accumulate their balance for the current period, but begin new accounting periods with a zero balance. These types of accounts are found on the income statement.
Difficulty: 2 Medium
Topic: Process of closing the books
Learning Objective: 04-04 Explain the closing process.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
23) Income statement accounts are temporary accounts because their balances are closed out at the end of the accounting year.
Answer: TRUE
Explanation: Revenue, expense, gain, and loss accounts are used to accumulate data for the current accounting period only; these accounts are closed at the end of the accounting period and transferred to retained earnings which is a permanent account.
Difficulty: 1 Easy
Topic: Process of closing the books
Learning Objective: 04-04 Explain the closing process.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
24) At the end of the accounting period, the balances in the nominal accounts are closed while the balances in the real accounts are carried forward to the next accounting period.
Answer: TRUE
Explanation: Nominal (temporary) accounts, found on the income statement, are closed at the end of accounting periods. Real (permanent) accounts, found on the balance sheet, are carried forward to the next accounting period.
Difficulty: 2 Medium
Topic: Process of closing the books
Learning Objective: 04-04 Explain the closing process.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
25) At the end of the accounting period, the balances in the temporary accounts are closed while the balances in the permanent accounts are carried forward to the next accounting period.
Answer: TRUE
Explanation: Temporary (nominal) accounts, found on the income statement, are closed at the end of accounting periods. Permanent (real) accounts, found on the balance sheet, are carried forward to the next accounting period.
Difficulty: 2 Medium
Topic: Process of closing the books
Learning Objective: 04-04 Explain the closing process.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
26) Closing the revenue and gain accounts at year-end requires that these accounts be debited.
Answer: TRUE
Explanation: Revenue and gain accounts have credit balances; closing an account with a credit balance at year-end requires a debit.
Difficulty: 1 Easy
Topic: Process of closing the books
Learning Objective: 04-04 Explain the closing process.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
27) The year-end closing process transfers net income to retained earnings.
Answer: TRUE
Explanation: The balances in temporary (income statement) accounts sum to net income. Net income closes to retained earnings. Therefore the closing of temporary accounts transfers the net income to retained earnings at the end of the period.
Difficulty: 1 Easy
Topic: Process of closing the books
Learning Objective: 04-04 Explain the closing process.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
28) Closing the expense and loss accounts at year-end requires that these accounts be debited.
Answer: FALSE
Explanation: Expense and loss accounts have debit balances; closing an account with a debit balance at year-end requires a crediting the account.
Difficulty: 1 Easy
Topic: Process of closing the books
Learning Objective: 04-04 Explain the closing process.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
29) Due to the relationship of financial statements, the statement of stockholders’ equity links the income statement to the balance sheet.
Answer: TRUE
Explanation: Net income increases retained earnings. The calculation of the retained earnings balance is shown on the statement of stockholders’ equity. The retained earnings balance is reported on the balance sheet.
Difficulty: 1 Easy
Topic: Preparing financial statements
Learning Objective: 04-02 Present an income statement with earnings per share, a statement of stockholders’ equity, and a balance sheet.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
30) Which of the following is a false statement about the unadjusted trial balance?
- A) It is not a financial statement for external reporting purposes.
- B) It provides data in a convenient form for preparing the adjusting entries and financial statements.
- C) It provides a check of the equality of the debits and credits of the ledger accounts after transactions have been journalized and posted.
- D) It provides a listing of balance sheet accounts only.
Answer: D
Explanation: An unadjusted trial balance is a list of all accounts with their balances, including income statement accounts, to provide a check on the equality of the debits and credits and determine what adjusting entries need to be made.
Difficulty: 1 Easy
Topic: Adjustments – Purpose and process
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
31) Morgan Company used supplies in the amount of $2,000. Due to an error in posting to the general ledger, the supplies account was credited for only $200 while supplies expense was debited for $2,000. During which phase of the accounting cycle would this error be first discovered?
- A) Analysis of the supplies purchase transaction.
- B) Closing the books.
- C) Preparation of the adjusted trial balance.
- D) Preparation of the income statement.
Answer: C
Explanation: The adjusted trial balance is a list of all accounts with their balances to provide a check on the equality of the debit and credits.
Difficulty: 2 Medium
Topic: Preparing adjusted trial balance
Learning Objective: 04-02 Present an income statement with earnings per share, a statement of stockholders’ equity, and a balance sheet.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
32) Which is the correct sequence of the following steps in the accounting cycle?
- A) Prepare journal entries, analyze transactions, prepare adjusted trial balance.
- B) Prepare adjusted trial balance, prepare closing entries, and prepare financial statements.
- C) Post adjusting journal entries, prepare adjusted trial balance, prepare financial statements.
- D) Post closing entries, prepare financial statements, prepare adjusted trial balance.
Answer: C
Explanation: The accounting cycle includes analyzing transactions, recording journal entries, posting entries to the general ledger, recording and posting adjusting journal entries, preparing an adjusted trial balance, preparing financial statements, and closing the books.
Difficulty: 1 Easy
Topic: Preparing financial statements; Process of closing the books; The accounting cycle
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.; 04-02 Present an income statement with earnings per share, a statement of stockholders’ equity, and a balance sheet.; 04-04 Explain the closing process.
Bloom’s: Remember
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
33) Which is the correct order of the following steps in the accounting cycle?
- A) Prepare financial statements, journalize and post adjusting entries, journalize and post the closing entries, and prepare a post-closing trial balance.
- B) Prepare an unadjusted trial balance, journalize and post adjusting entries, journalize and post the closing entries, and prepare financial statements.
- C) Journalize and post adjusting entries, journalize and post the closing entries, prepare financial statements, and prepare an adjusted trial balance.
- D) Prepare an unadjusted trial balance, journalize and post adjusting entries, prepare financial statements, and journalize and post the closing entries.
Answer: D
Explanation: At the end of the accounting period, the accounting cycle begins with preparing an unadjusted trial balance. The next step is to journalize and post adjusting entries for balance sheet and income statement accounts. The next step is to prepare financial statements, and finally to journalize and post the closing entries for the income statement accounts.
Difficulty: 2 Medium
Topic: Preparing financial statements; Process of closing the books; The accounting cycle
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.; 04-02 Present an income statement with earnings per share, a statement of stockholders’ equity, and a balance sheet.; 04-04 Explain the closing process.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
34) On October 1, 2019, Adams Company paid $4,800 for a two-year insurance policy with the insurance coverage beginning on that date. As of December 31, 2019, which of the following account balances are correct after adjusting entries have been made?
- A) Prepaid insurance $4,800, and Insurance expense $0.
- B) Prepaid insurance $0, and Insurance expense $4,800.
- C) Prepaid insurance $2,400, and Insurance expense $2,400.
- D) Prepaid insurance $4,200, and Insurance expense $600.
Answer: D
Explanation: $4,800 ÷ 24 = $200 per month. Three months have been used (Oct, Nov, and Dec), so $200 × 3 = $600. This $600 needs to be recorded as the expense. The balance in prepaid insurance is $4,800 − $600 = $4,200.
Difficulty: 3 Hard
Topic: Adjustments – Deferred expenses – Prepaid
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Apply
AACSB: Knowledge Application
Accessibility: Keyboard Navigation
35) On April 1, 2019, the premium on a one-year insurance policy was purchased for $3,000 cash with the insurance coverage beginning on that date. The books are adjusted only at year-end. Which of the following correctly describes the effect on the financial statements of the December 31, 2019 adjusting entry?
- A) Prepaid insurance will decrease $750.
- B) Insurance expense will increase $750.
- C) Insurance expense will increase $2,250.
- D) Prepaid insurance will increase $2,250.
Answer: C
Explanation: $3,000 ÷ 12 = $250 per month and 9 months of coverage has been used. The insurance expense and reduction in prepaid insurance is $250 × 9 = $2,250.
Difficulty: 2 Medium
Topic: Adjustments – Deferred expenses – Prepaid
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
36) The CHS Company paid $30,000 cash to its landlord on November 1, 2019 for rent covering the six-month period from November 1, 2019 through April 30, 2020. The books are adjusted only at year-end. Which of the following does not correctly describe the effect on CHS Company’s financial statements of the December 31, 2019 adjusting entry?
- A) Net income decreases $10,000.
- B) Prepaid rent decreases $10,000.
- C) Rent expense increases $10,000.
- D) Stockholders’ equity increases $10,000.
Answer: D
Explanation: The time period from November 1, 2019 to December 31, 2019 consumes two months of rent expense ($10,000), which results in a decrease to stockholders’ equity.
Difficulty: 2 Medium
Topic: Adjustments – Deferred expenses – Prepaid
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
37) Which of the following journal entries is created as the result of an accrual?
A)
| Deferred revenue | xxx | |
| Revenue | xxx |
B)
| Interest expense | xxx | |
| Interest payable | xxx |
C)
| Cash | xxx | |
| Deferred revenue | xxx |
D)
| Revenue receivable | xxx | |
| Unearned revenue | xxx |
Answer: B
Explanation: Accruals recognize the expense (or revenue) and the resulting payable (or receivable).
Difficulty: 2 Medium
Topic: Adjustments – Determine type of adjustment
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
38) Which of the following journal entries is created as the result of a deferral?
A)
| Wages expense | xxx | |
| Wages payable | xxx |
B)
| Interest expense | xxx | |
| Interest payable | xxx |
C)
| Cash | xxx | |
| Unearned revenue | xxx |
D)
| Accounts receivable | xxx | |
| Deferred revenue | xxx |
Answer: C
Explanation: Unearned (deferred) revenue or prepaid expense accounts are created with deferrals. Debiting cash and crediting unearned revenue is a result of receiving cash for goods or services to be provided in the future.
Difficulty: 2 Medium
Topic: Adjustments – Determine type of adjustment
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
39) Which of the following journal entries is created to adjust for a previously recorded deferral?
A)
| Unearned revenue | xxx | |
| Revenue | xxx |
B)
| Interest expense | xxx | |
| Interest payable | xxx |
C)
| Cash | xxx | |
| Revenue | xxx |
D)
| Accounts receivable | xxx | |
| Unearned revenue | xxx |
Answer: A
Explanation: Unearned revenue or prepaid expense accounts are created with deferrals. Debiting unearned revenue and crediting revenue recognizes that revenue has now been earned although the cash had been received in the past.
Difficulty: 2 Medium
Topic: Adjustments – Determine type of adjustment
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
40) Which of the following journal entries is created to record an accrual?
A)
| Accounts receivable | xxx | |
| Revenues | xxx |
B)
| Interest expense | xxx | |
| Cash | xxx |
C)
| Accounts receivable | xxx | |
| Deferred revenue | xxx |
D)
| Rent expense | xxx | |
| Prepaid rent | xxx |
Answer: A
Explanation: By recording a receivable or payable, accruals recognize revenue that has not yet been collected in cash or expenses that are not yet paid for in cash.
Difficulty: 2 Medium
Topic: Adjustments – Determine type of adjustment
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Reflective Thinking
Accessibility: Keyboard Navigation
41) On July 1, 2019, Allen Company signed a $100,000, one-year, 6 percent note payable. The principal and interest will be paid on June 30, 2020. How much interest expense should be reported on the income statement for the year ended December 31, 2019?
- A) $6,000.
- B) $3,000.
- C) $1,500.
- D) $0.
Answer: B
Explanation: Interest expense = $3,000 = $100,000 × .06 × 6/12.
Difficulty: 2 Medium
Topic: Adjustments – Interest Expense
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Apply
AACSB: Knowledge Application
Accessibility: Keyboard Navigation
42) Which of the following does not correctly describe an adjusting journal entry that debits interest expense and credits interest payable?
- A) The entry increases expenses and decreases retained earnings.
- B) The entry decreases net income and decreases stockholders’ equity.
- C) The entry increases expenses and increases liabilities.
- D) The entry decreases assets and decreases stockholders’ equity.
Answer: D
Explanation: This adjusting journal entry decreases stockholders’ equity by increasing expenses; it also increases liabilities; therefore, no impact on assets occurs.
Difficulty: 2 Medium
Topic: Adjustments – Interest Expense
Learning Objective: 04-01 Explain the purpose of adjustments and analyze the adjustments necessary at the end of the period to update revenues and expenses and related balance sheet accounts.
Bloom’s: Understand
AACSB: Analytical Thinking
Accessibility: Keyboard Navigation
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