Deck 13: Financial Instrumentspresentation

Question 1

You purchase an option from AerOmega, a European airplane manufacturer. The option is in relation to stock that you own in AerOmega and states that, at your option, you may sell your shares back to AerOmega for €250 per share. The option expires at the end of the year. What kind of option is this?

A) Cash flow option
B) Callable option
C) Puttable option
D) Fair value option
E) None of the above

Answer 1

Puttable option

Question 2

Which of the following do not illustrate the importance of correctly classifying a financial instrument as either equity or liability.

A) Accounting for dividends
B) Effects on debt-to-equity ratio
C) Treatment of transaction costs
D) Leverage ratios
E) All of the above are important

Answer 2

All of the above are important

Question 3

Which of the following is not a financial instrument classified as equity?

A) Non-redeemable preference shares
B) Ordinary shares
C) Settlement using a fixed number of shares
D) Convertible preference shares

Answer 3

Convertible preference shares

Question 4

Which of the following is a financial instrument classified as a liability?

A) Convertible bonds
B) Contractual obligations to be settled in cash
C) Contractual obligations to be settled with a fixed number of shares
D) None of the above
E) More than one of the above

Question 5

Which qualifies as an equity instrument?

A) Contains no contractual obligation to deliver assets to the holder
B) Meets the fixed test for derivatives
C) Meets the fixed-for-fixed test for non-derivatives
D) Fixed amount to be settled with common shares
E) More than one of the above

Question 6

Which does not illustrate the effects of reacquiring shares (treasury shares)?

A) Decrease to equity
B) Gains and losses recognized in profit or loss
C) Decrease to cash
D) Decrease in number of shares outstanding

Question 7

Compound financial instruments have the characteristics of

A) assets.
B) liabilities.
C) equity.
D) assets and liabilities.
E) both liability and equity classification.

Question 8

Any consideration paid or received from treasury shares is

A) recognized as income.
B) recognized directly in equity.
C) recognized in the common stock account.
D) recognized in other comprehensive income.

Question 9

Financial assets and financial liabilities are offset only when

A) the entity currently has a legally enforceable right of set-off.
B) intends either to settle on a net basis.
C) intends to realize the asset and settle the liability simultaneously.
D) all of the above.

Question 10

Delaney Entity has an equity investment that it has been holding for ten years that no longer meets the requirements to be classified as such. Delaney must reclassify the instrument as a liability at current book value.

Question 11

Dalton Entity, a manufacturer of firearms, made an agreement with Caster Steel in which Dalton must deliver 10,000 common equity shares for delivery of 5,000 tons of Caster's proprietary high-carbon steel. This qualifies for the equity classification for Dalton.

Question 12

Substance (economic reality) is more important than legal form when it comes to classification of financial instruments.

Question 13

Classifying financial instruments as either liabilities or equity is important because an instrument's classification has a direct effect on an entity's financial performance and financial position.

Question 14

The fundamental principle in accounting for financial instruments is that a financial instrument is classified as a financial liability or equity based on the legal form rather than the substance of the contract.

Question 15

Determining whether an instrument is classified as equity is dependent on whether it meets the definition of a financial liability.

Question 16

In general, an instrument is classified as a financial liability when the issuer has a contractual obligation to deliver cash or another financial asset to the instrument holder.

Question 17

Treasury shares are presented as a deduction from equity.

Question 18

Gain or loss is recognized on the purchase, sale, issue or cancellation of treasury shares.

Question 19

Interest, dividends, losses and gains that relate to a financial instrument classified as liability are recognized in profit or loss.

Question 20

Bratislava Entity issued 5,000 convertible debentures at a par value of €1,000 each. The bonds have a 10 year term and have an interest rate of 3.5 percent. The bonds are convertible at the option of the holder, at any time until maturity, into 50 common equity shares. For similar bonds without the conversion option, the prevailing interest rate is 6 percent. Determine the value of the liability and equity components of this convertible security.

Question 21

What is a financial asset?

Question 22

What is a financial liability? XE "Financial liabilities:Defined"

Question 23

What is a puttable instrument?

Question 24

Graybok Entity (GE) issues 7,000 mandatorily redeemable preference shares with a par value $100 to Stanbeck Entity (SE). SE has the option to require GE to redeem the shares at par at any given time.
-How are the preference shares classified for GE?

Question 25

Graybok Entity (GE) issues 7,000 mandatorily redeemable preference shares with a par value $100 to Stanbeck Entity (SE). SE has the option to require GE to redeem the shares at par at any given time.
-How are the preference shares classified for SE?

Question 26

Alliance Entity (AE) issued the following instruments to raise funds for plant expansion: (a) debt instrument that does not charge interest but gives the holder the contractual right to receive 2,000 ordinary shares of AE, rather than cash, on maturity of the debt in four years; and (b) preference shares that pay no interest but will be settled in four years by AE delivering a number of its own ordinary shares equal to the value of $200,000. How should AE classify this these instruments?

Question 27

On September 1, 20X7, Polaris Entity (PE) enters into a forward contract with Aries Entity (AE) that gives AE the right to receive and PE the obligation to deliver 3,000 of PE's ordinary shares in exchange for $75,000 (i.e., $25 per share) on February 14, 20X8.
-How should PE classify this contract?

Question 28

On September 1, 20X7, Polaris Entity (PE) enters into a forward contract with Aries Entity (AE) that gives AE the right to receive and PE the obligation to deliver 3,000 of PE's ordinary shares in exchange for $75,000 (i.e., $25 per share) on February 14, 20X8.

-What are PE's journal entries?