Deck 2: Conceptual Framework Underlying Financial Reporting

Question 1

Which of the following does NOT relate to the concept of relevance?

A) The information must be capable of making a difference in a decision.
B) Both material and immaterial information is important.
C) The information has predictive value.
D) The information has feedback/confirmatory value.

Answer 1

Both material and immaterial information is important.

Question 2

Accounting information is considered to be relevant when it

A) can be depended on to represent the economic conditions and events that it is intended to represent.
B) is capable of making a difference in a decision.
C) is understandable by reasonably informed users of accounting information.
D) is verifiable and neutral.

Answer 2

is capable of making a difference in a decision.

Question 3

Which of the following is true about understandability as a qualitative characteristic of financial statements?

A) The onus to prepare understandable statements and to be able to understand them lies with the preparer.
B) Where the underlying transactions or economic events are more complex, the user is expected to understand them without the assistance of an advisor.
C) The onus to prepare understandable statements and to be able to understand them lies with the preparer and the user.
D) Users with no knowledge of business and financial accounting matters are expected to understand the financial statements.

Answer 3

The onus to prepare understandable statements and to be able to understand them lies with the preparer and the user.

Question 4

The common characteristic of both assets and liabilities is that they both

A) provide an economic resource.
B) result from a past transaction or event.
C) represent a present responsibility.
D) represent contractual or other rights.

Question 5

You want to improve the qualitative characteristics of your firm's financial statements. Which of the following options would most likely improve the timeliness of your company's financial statements?

A) increasing the number of disclosures
B) changing the timing of when revenues are recognized
C) increasing the frequency of statements from annually to quarterly
D) decreasing the useful life of property, plant, and equipment from ten years to five

Question 6

Harlow Ltd. operates in both Canada and the United States. The company wants to improve the qualitative characteristics of its financial statements. Which of the following would most likely improve the comparability of Harlow's financial statements?

A) the restatement of its financial statements from Canadian GAAP to US GAAP for its American investors
B) the preparation of monthly financial statements
C) the introduction of a policy that specifies how Harlow's capital assets should be depreciated
D) the use of U.S.-trained accountants

Question 7

Which of the following is NOT a component of a conceptual framework for financial reporting?

A) accounting's goals and purposes
B) qualitative characteristics of accounting information
C) foundational principles
D) All of the above are components of a conceptual framework.

Question 8

The costs of providing useful information do NOT include

A) collecting, processing, and distributing information.
B) auditing financial statements.
C) disclosure to competitors.
D) users' allocation of resources.

Question 9

Which of the following is NOT part of the conceptual framework for financial reporting?

A) elements of financial statements
B) qualitative characteristics of accounting information
C) notes to financial statements
D) foundational principles

Question 10

Which of the following does NOT represent an essential characteristic of an asset?

A) They represent a present economic resource.
B) The entity is able to transfer the economic benefit if it so chooses.
C) The entity has control over the resource.
D) The resource results from a past transaction or event.

Question 11

Timeliness is increased by

A) quarterly reporting.
B) comparative financial statements.
C) representational faithfulness.
D) annual reporting.

Question 12

The overriding criterion by which accounting information can be judged is that of

A) usefulness for decision making.
B) freedom from bias.
C) timeliness.
D) comparability.

Question 13

Which of the following statements regarding liabilities is true?

A) They must arise through a contractual obligation.
B) They may be attributable to a future transaction or event.
C) The duty or responsibility obligates the entity.
D) The entity often has reasonable discretion to avoid the obligation.

Question 14

Materiality refers to

A) the tangible nature of an item.
B) representational faithfulness.
C) the decision-making relevance of a piece of information.
D) None of these describe materiality.

Question 15

Which of the following best describes why a conceptual framework is necessary?

A) to build all standards and rules upon a common foundation and increase financial statement users' understanding and confidence
B) to make financial statement preparation an automated process requiring no human intervention
C) to completely eliminate the potential for companies to exercise professional judgement in preparation of financial information
D) to decrease the comparability of different companies' financial statements

Question 16

Comparability allows any financial statement user to

A) make timely decisions.
B) understand all the information presented.
C) verify all the data provided.
D) identify the real similarities and differences in economic phenomena.

Question 17

Fundamental qualitative characteristics include

A) relevance and comparability.
B) representational faithfulness and timeliness.
C) relevance and representational faithfulness.
D) verifiability and relevance.

Question 18

Representational faithfulness includes

A) completeness, neutrality, and comparability.
B) neutrality, completeness, and understandability.
C) relevance, completeness, and freedom from material error.
D) neutrality, completeness, and freedom from material error.

Question 19

Which statement is correct regarding enhancing qualitative characteristics?

A) Full discussion of the information presented is a substitute for comparable information.
B) Numbers that are easily verifiable with a reasonable degree of accuracy are called soft numbers.
C) Information must be available before it loses its ability to influence users' decisions.
D) Financial information must be of sufficient quality and clarity that even uninformed readers can understand it.

Question 20

Which of the following is NOT an objective of financial reporting?

A) to provide information about an entity's economic resources, obligations, and equity/net assets
B) to provide information that is useful to investors and creditors and other users in making resource allocation decisions and/or assessing management stewardship
C) to provide information that is useful in assessing the economic performance of the entity
D) to provide the most useful information possible even if the costs exceed the benefits

Question 21

Under IFRS, equity does NOT include

A) long-term leases.
B) common and/or preferred shares.
C) accumulated other comprehensive income.
D) retained earnings.

Question 22

Preparation of consolidated financial statements when a parent-subsidiary relationship exists is an example of

A) the economic entity assumption.
B) the matching principle.
C) comparability.
D) reliability.

Question 23

Equitable obligations arise due to

A) statutory requirements.
B) contractual obligations.
C) moral or ethical considerations.
D) union agreements.

Question 24

During a major renovation project of its head office, a worker was seriously injured. While the company believes that it was not at fault, it does include the incident in the notes to its financial statements. This is consistent with the

A) full disclosure principle.
B) periodicity assumption.
C) going concern assumption.
D) economic entity assumption.

Question 25

Which of the following statements does NOT apply to the historical cost principle?

A) Historical cost represents a value at a point in time.
B) The principle does not apply to financial instruments.
C) Historical cost results from a reciprocal or two-way exchange.
D) Over time, historical cost becomes irrelevant in terms of predictive value.

Question 26

Under ASPE, when deciding whether to recognize a financial statement element (or not), and how to measure it, the accountant should

A) always use estimates.
B) record "hard" numbers and ignore "soft" numbers.
C) determine an acceptable level of uncertainty.
D) recognize a financial statement element even if it cannot be measured.

Question 27

The matching principle is best demonstrated by

A) not recognizing any expense unless some revenue is realized.
B) associating effort (expense) with accomplishment (revenue).
C) recognizing prepaid rent received as revenue.
D) measuring expenses correctly.

Question 28

Which of the following elements of financial statements is NOT a component of comprehensive income?

A) Revenues
B) Distributions to owners
C) Losses
D) Expenses

Question 29

Use of an allowance for doubtful accounts is an application of the

A) matching principle.
B) revenue recognition principle.
C) historical cost principle.
D) full disclosure principle.

Question 30

Gains are defined as

A) increases in economic resources resulting from an entity's ordinary activities.
B) decreases in economic resources resulting from an entity's ordinary activities.
C) the residual interest remaining after liabilities are deducted from assets.
D) increases in equity resulting from an entity's peripheral or incidental transactions.

Question 31

Which of the following serves as the justification for the periodic recording of depreciation expense?

A) association of efforts (expense) with accomplishments (revenue)
B) minimization of income tax liability
C) immediate recognition of an expense
D) systematic and rational allocation of cost over the periods benefited

Question 32

The economic entity assumption

A) is inapplicable to unincorporated businesses.
B) recognizes the legal aspects of business organizations.
C) requires periodic income measurement.
D) is applicable to all forms of business organizations.

Question 33

Under IFRS, "other comprehensive income" does NOT include

A) unrealized holding gains and losses on certain securities.
B) gains and losses on disposal of property, plant, and equipment.
C) gains and losses related to certain types of hedges.
D) certain gains and losses related to foreign exchange transactions.

Question 34

A local businessman owns several different companies. His accountant prepares separate financial statements for each of these businesses. This is an application of the

A) full disclosure principle.
B) periodicity assumption.
C) going concern assumption.
D) economic entity assumption.

Question 35

Valuing assets at their liquidation values rather than their cost is inconsistent with the

A) periodicity assumption.
B) historical cost principle.
C) matching principle.
D) economic entity assumption.

Question 36

Generally, under ASPE, revenue from sales should be recognized at a point when

A) management decides it is appropriate to do so.
B) the product is available for sale.
C) an exchange has taken place and the earnings process is substantially complete.
D) the entire amount receivable has been collected from the customer and there remains no further warranty liability.

Question 37

The assumption that a business enterprise will NOT be sold or liquidated in the near future is known as the

A) economic entity assumption.
B) monetary unit assumption.
C) fair value principle.
D) going concern assumption.

Question 38

During the lifetime of an entity, accountants produce financial statements at arbitrary points in time in accordance with the

A) full disclosure principle.
B) periodicity assumption.
C) going concern assumption.
D) economic entity assumption.

Question 39

Which of the following is NOT a good example of the matching principle?

A) A machine that produces certain goods is depreciated over its useful life. The depreciation expense is matched with the proceeds from the sale of those goods.
B) The entire amount of a two-year insurance premium is expensed in the first year.
C) An uncollectible receivable is written off in the year that the sale was made.
D) Recognition of revenue for which associated expenses cannot yet be determined is delayed until such determination can be made.

Question 40

Financial statements prepared under ASPE include a

A) statement of comprehensive income.
B) statement of cash flows and a statement of changes in shareholders' equity.
C) balance sheet and a statement of retained earnings.
D) statement of retained earnings and a statement of comprehensive income.

Question 41

2-56 Levels of the conceptual framework
Provide a brief overview of the levels of a conceptual framework.

Question 42

Under ASPE, where there is a significant uncertainty with respect to the measurement of an item,

A) do not record anything in the financial statements.
B) recognize the item in the financial statements and disclose the measurement uncertainty in the notes to the financial statements.
C) do not record anything in the financial statements but disclose the measurement uncertainty in the notes to the financial statements.
D) record the maximum amount in the financial statements.

Question 43

Fraudulent financial reporting is a business reality. While it cannot be eliminated, the risk of fraudulent reporting can be decreased. Which of the following considerations is least likely to lessen that risk?

A) an independent audit committee
B) an internal audit function
C) vigilant management
D) an increased focus on tying bonuses to short-term company performance

Question 44

Moral hazard
In Chapter 1, the issue of information asymmetry, and the concept of moral hazard were introduced. Explain why the moral hazard issue is worse where some users (such as accountants and bankers) have expert knowledge.

Question 45

Conceptual framework
Briefly describe the objectives of a soundly developed conceptual framework.

Question 46

Financial reporting is

A) independent of the environment in which it operates.
B) the result of carefully applied professional judgement.
C) influenced by the decisions of individuals who act in the interest of stakeholders at the expense of themselves.
D) completely free of bias.

Question 47

Principles-based GAAP is sometimes criticized for being

A) too inflexible.
B) too flexible.
C) too inconsistent.
D) too difficult for the reader to understand.

Question 48

Management Discussion and Analysis (MD&A) is

A) notes on meetings between management and auditors.
B) an internal document not released to shareholders.
C) supplementary information included in the annual report.
D) supplementary information included in the notes to the financial statements.

Question 49

The practice of matching

A) dictates that efforts (expenditures) be matched with associated cash flow.
B) requires arbitrary allocation of an asset's contribution to a revenue stream.
C) illustrates the cause and effect relationship between money spent to earn revenues and the revenues themselves.
D) is required by GAAP to approximate an asset's contribution to an entity's periodic cash flow.

Question 50

Management Discussion and Analysis (MD&A) does NOT include

A) notes to the financial statements.
B) key performance drivers.
C) the company's vision and strategy.
D) the company's capabilities (capital and other resources).

Question 51

The concept of materiality is extremely important to the process of financial statement preparation and audit. Briefly explain the benchmarking approach to arriving at a materiality figure. What other factors might be considered in deciding whether an item is material?

Question 52

Which of the following situations does NOT demonstrate an attempt at financial engineering?

A) creating complex legal arrangements and financial instruments
B) structuring debt financing so that it meets the GAAP definition of equity rather than debt
C) accounting for bona fide business transactions in a transparent manner
D) aggressively interpreting GAAP so that the impact on critical ratios is minimized

Question 53

Fair value (of an asset) is

A) an entry price.
B) an entity-specific measure.
C) an exit price.
D) not used when following IFRS.

Question 54

In the absence of specific GAAP guidance, an entity should adopt accounting policies that are i. consistent with specific GAAP guidance.
Ii) consistent with the most conservative reporting choices.
Iii) collaboratively developed with the assistance of all business units.
Iv) developed through exercising professional judgement and applying the conceptual framework.

A) i, ii, and iii
B) i and iii
C) i and iv
D) ii and iv

Question 55

Fundemental characteristics of useful information
What steps should be taken to ensure that both fundamental characteristics of useful information, relevance and representational faithfulness, are present?

Question 56

Under GAAP, inflation has been historically ignored due to the

A) economic entity assumption.
B) going concern assumption.
C) monetary unit assumption.
D) periodicity assumption.

Question 57

Which basic assumption may NOT be followed when a firm in bankruptcy reports financial results?

A) economic entity assumption
B) going concern assumption
C) periodicity assumption
D) monetary unit assumption

Question 58

The operations of a resource company's oil sands operations results in environmental damage. While the extent of the damage cannot be determined at this time, the situation is disclosed in its financial statements. This best demonstrates

A) the application of professional judgement.
B) the full disclosure principle.
C) representational faithfulness.
D) good management stewardship.

Question 59

Accounting terminology - fill in the blanks
Fill in the blanks below with the accounting term(s) that best completes each sentence.
1. A soundly developed conceptual framework is a ______ set of standards and rules. ______ and ______ are the fundamental qualitative characteristics that make accounting information useful for decision making.
2. Enhancing qualitative characteristics are ______, ______, ______ and ______.
3. Liabilities have three essential characteristics:

4. While consolidated financial statements are prepared from the perspective of the ______, taxes are paid from the perspective of the ______.
5. Collectibility is one of the three conditions of the revenue recognition principle. Assuming the other two conditions are met, revenue should only be recognized if collectibility is ______.
6. The ______ stipulates that anything that is relevant to decisions should be included in the financial statements.
7. A company's Management Discussion and Analysis (MD&A) is an example of ______.
8. A ______- based approach, as used in Canadian GAAP and IFRS, is sometimes criticized for being too ______.
9. Under the ______ principle, ______ incurred during a particular period are matched with ______ earned during that same period.
10. The ______ is based on the assumption that a business enterprise will continue to operate for the foreseeable future.
11. One of the assumptions of the ______ is valuation at a particular point in time.
12. ______ is defined as "the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date."
13. Standard setters have given companies the option to use ______ instead of historical costs.

Question 60

Application of the full disclosure principle

A) is theoretically desirable but not practical because the costs of complete disclosure exceed the benefits.
B) is violated when important financial information is buried in the notes to the financial statements.
C) is demonstrated by the inclusion of information such as contingencies.
D) requires that the financial statements be consistent and comparable.

Question 61

Current value measurement bases
Identify three current value measurement bases in the IFRS conceptual framework.

Question 62

New 1 Uncertainty trade-off
Explain the trade-off related to uncertainty.

Question 63

Matching concept
A concept is a group of related ideas. Matching could be considered a concept because it includes ideas related to both revenue recognition and expense recognition. Briefly explain the theory behind
a) revenue recognition and
b) expense recognition.

Question 64

Financial engineering
Explain the practice of financial engineering and how it relates to fraudulent financial reporting.

Question 65

Measurement, existence, and outcome uncertainties
Explain the difference between measurement uncertainty, existence uncertainty, and outcome uncertainty.

Question 66

Control and the economic entity assumption
Consolidated financial statements are prepared from the perspective of the economic entity. Determination of which business units, or subsidiaries, are to be included in the entity is rooted in the definition of control. Describe how this concept is interpreted under IFRS and ASPE, respectively. Discuss the significance of this difference in interpretation.

Question 67

Principles- vs. rules-based GAAP
There has been much discussion about principles-based standards versus rules-based standards. Discuss the advantages and disadvantages of a principles-based approach.

Question 68

Forms of business organization
Identify at least two (2) common forms of business organization. For each business structure name an associated pro and con.

Question 69

Fraudulent financial reporting
Identify several factors that contribute to fraudulent financial reporting.

Question 70

Foundational principles
Briefly explain the foundational principles of recognition, measurement, and presentation and disclosure that underlie financial accounting.

Question 71

Fraudulent financial reporting and the accountant's role
Explain what the accountant's responsibility is in preparation of a company's financial records.

Question 72

Equitable obligations
Due to the current poor economic conditions, Inferno Corp., a medium-size manufacturer in Burnaby, is downsizing its shipping department and has to let go two of the employees, Chevron and Shell. Both are excellent workers and have been with the company for several years. The department's supervisor, Jo-Ann Roberts, goes to the company CEO to see if there is another alternative for these employees (other than termination of their employment). Jo-Ann suggests that Chevron could be retrained to learn how to operate a forklift and Shell would like to learn how to be a first aid attendant. Since Inferno always needs employees with these skills, the CEO agrees to try this. Inferno's workforce is not unionized. What type of obligation is this? Discuss.

Question 73

Identification of foundational accounting principles and qualitative characteristics
Presented below are a number of accounting procedures and practices followed by January Corp. For each of these items, list the assumption, principle, or qualitative characteristic that is NOT being followed.
1. Because the company's income is low this year, January switched from accelerated depreciation to straight-line depreciation.
2. The president of January believes it is foolish to report financial information on a yearly basis. She believes that financial information should be disclosed only when significant new information is available related to the company's operations.
3. January decides to establish a large loss and related liability this year because of the possibility that it may lose a pending lawsuit. The possibility of loss is considered remote by the corporation's lawyers.
4. One of the corporation's executives purchased a new home computer for personal use with company money, charging Miscellaneous Expense.
5. The corporation has not established an Allowance for Doubtful Accounts, even though there are a significant number of their accounts that are either slow paying or may not pay their debts in full.

Question 74

Constructive obligations
It was recently found that a fleet of vehicles produced by Agrarium Automotive Corp. possess a manufacturing defect relating to emissions compliance. In the past, Agrarium has issued recalls to owners of such vehicles, and paid for the associated repair cost. Agrarium has announced that they will continue to stand behind their products. Owners of the vehicle thus expect that Agrarium with replace or repair their vehicles. What type of obligation is this? Discuss.

Question 75

Market-based measure versus entity-specific measure
Fair value is a market-based measure, as opposed to an entity-specific measure. Explain the difference between an entity-specific value and a market-based value.

Question 76

Comprehensive income
Describe the income concept of comprehensive income and what is included in this notion of income under IFRS? What is included in it under ASPE?

Question 77

Fair value measurement
The ongoing trend toward using fair value has both its supporters and its critics. Briefly explain arguments in favour of and against the use of fair value.

Question 78

Financial reporting pressures caused by budgets
Explain why budgets might exert negative influence into accounting decisions. Offer some examples to illustrate where this might be the case.

Question 79

Going concern assumption
The going concern assumption applies in most, but not all, business situations. When would it not apply?

Question 80

2-66 Identification of foundational accounting principles
State the accounting principle or assumption that is most applicable in the following situations:
1. A company prepares consolidated financial statements for a subsidiary that it owns.
2. The decision to remove an asset from the balance sheet
3. A large sale on account is not recognized as revenue because collectibility is an issue.
4. Disclosure of the liability from a lawsuit in the financial statements
5. Preparation of monthly financial statements
6. Using the Canadian dollar in financial statements
7. An energy company includes detailed information about its reserves in its notes to the financial statements.