Question 1

IFRS rules for revenue recognition and measurement are much more voluminous and detailed than those contained in U.S.GAAP.

Accepted Answer

U.S. GAAP has historically been considered more detailed and prescriptive in the area of revenue recognition compared to IFRS, which tends to be more principle-based and less voluminous.

Question 2

Research indicates that few managers would engage in real transaction management (e.g.,delaying research and development or advertising)in order to meet earnings targets.

Accepted Answer

Research has shown that some managers do engage in real transaction management, such as delaying research and development or advertising expenses, to meet earnings targets. This practice is part of earnings management strategies to manipulate financial reports in the short term, often at the expense of long-term company health.

Question 3

SAB 104,"Revenue Recognition," was not meant to change GAAP,but rather to close some loopholes and eliminate gray areas in how GAAP was being applied in practice.

Accepted Answer

SAB 104 was issued by the SEC to provide guidance on the application of GAAP for revenue recognition. It aimed to provide clarity and eliminate inconsistencies in how GAAP was being applied in practice, but did not change the underlying principles of GAAP.

Question 4

"Cookie jar reserves" refers to the practice of overreserving estimated obligations during good times and underestimating,or reversing previous charges,in bad times.

Accepted Answer

Cookie jar reserves are created by companies to smooth out their earnings over time. During good times, they may overreserve estimated obligations to create a "cookie jar" of excess reserves. Then, during bad times, they can use these reserves to offset losses or reverse previous charges. This practice can be seen as a form of earnings management, as it can make a company's earnings appear more stable than they actually are.

Question 5

A prior period adjustment results in an adjustment to the company's beginning retained earnings balance.

Accepted Answer

A prior period adjustment is a correction of an error in a company's financial statements from a previous period. As such, it affects the company's beginning retained earnings balance in the current period.

Question 6

The audit committee and the company's internal audit staff provide the first-line defense against accounting errors/irregularities.

Accepted Answer

The audit committee and internal audit staff are responsible for ensuring the company's financial statements are accurate and free from material misstatements or fraud. They are the first line of defense against accounting errors and irregularities.

Question 7

The SEC through its review of companies' filings sometimes identifies accounting irregularities that require correction.

Accepted Answer

The SEC is responsible for ensuring that companies comply with accounting standards and regulations. As part of this responsibility, the SEC reviews companies' filings to identify any accounting irregularities that need to be corrected.

Question 8

A seller may recognize revenue when the production of the goods is complete if the buyer requests that the transaction be on a "bill and hold" basis and has a substantial business purpose for such a request.

Accepted Answer

According to the revenue recognition principle, revenue can be recognized when the seller has performed its obligations under the contract and the buyer has accepted the goods or services. In the case of a bill and hold transaction, the buyer requests that the goods be produced and invoiced but held by the seller until a later date for delivery. If the buyer has a substantial business purpose for such a request, revenue can be recognized when the production is complete as the seller has performed its obligations and the buyer has accepted the goods on a constructive basis. However, there are certain criteria that need to be met for revenue recognition in a bill and hold transaction, as outlined in ASC 606-10-55-70.

Question 9

In the context of revenue recognition,an "arrangement" means there is a final understanding between the parties as to the specific nature and terms of the agreed-upon transaction.

Accepted Answer

An "arrangement" in the context of revenue recognition refers to a final understanding between the parties as to the specific nature and terms of the agreed-upon transaction.

Question 10

With respect to revenue generated by selling goods,IFRS prescribes that revenue should be recognized using the percentage-of-completion method.

Accepted Answer

IFRS does not prescribe a specific revenue recognition method for selling goods. However, it does provide guidance on when revenue should be recognized and how to measure it, which may involve the use of methods such as the point of sale or delivery. The percentage-of-completion method is generally used for revenue recognition in long-term contracts for services or construction.

Question 11

"Cookie jar reserves" are required under GAAP.

Accepted Answer

"Cookie jar reserves" are not required under GAAP. In fact, they are not recognized under GAAP as a legitimate accounting practice. "Cookie jar reserves" refers to a practice where a company intentionally understates its income in one period and creates a "reserve" that it can draw from in a future period when it wants to boost its reported income. This practice is considered fraudulent and violates GAAP principles of accuracy and transparency in financial reporting.

Question 12

As per the SEC,nonrefundable up-front initiation fees to activate services contracts (e.g.,telecommunications services)may be immediately recognized as revenue as long as the fees are greater than the costs to activate the contracted services.

Accepted Answer

According to the SEC and accounting principles generally accepted in the United States (GAAP), nonrefundable up-front fees, such as initiation fees for activating service contracts, should not be recognized as revenue immediately upon receipt. Instead, they should be deferred and recognized over the period during which the service is provided, ensuring the revenue recognition principle of matching revenues with the services or goods provided is adhered to.

Question 13

Errors discovered after the year in which they occur are corrected through disclosure in notes to the financial statements.

Accepted Answer

Errors discovered after the year in which they occur are corrected through retrospective adjustment of prior period financial statements, rather than disclosure in notes to the financial statements.

Question 14

IFRS and U.S.GAAP rules for revenue recognition and measurement largely overlap.

Accepted Answer

While there are some differences between IFRS and U.S.GAAP in terms of revenue recognition and measurement, the two frameworks largely overlap. Both frameworks require revenue to be recognized when it is earned and when collectibility is reasonably assured, and both use similar criteria to determine whether revenue should be recognized over time or at a point in time. However, there are some differences in specific areas, such as the treatment of variable consideration and contract costs, which should be carefully considered when applying the standards.

Question 15

"Big bath" restructuring charges are believed to not adversely affect stock prices.

Accepted Answer

"Big bath" restructuring charges are non-recurring expenses that are taken in one quarter to improve future financial performance. These charges are often used to write off bad debts, obsolete inventory, or other non-performing assets. While these charges can reduce earnings in the short term, they can improve the company's long-term financial health and make it more attractive to investors. As a result, "big bath" restructuring charges are generally not seen as a negative sign by investors and do not typically adversely affect stock prices.

Question 16

The correction of an error causes previous year financial statements to be retroactively restated for comparative purposes.

Accepted Answer

When an error is corrected, previous year financial statements must be restated to reflect accurate information for comparative purposes. This is known as retrospective restatement.

Question 17

The SEC permits Internet resellers (i.e.,those that act as agents or brokers in a transaction)to report revenue on either a "gross" or "net" basis.

Accepted Answer

The SEC requires Internet resellers acting as agents or brokers to report revenue on a "net" basis, not "gross," as they do not take ownership of the goods or services.

Question 18

Revenue recognition irregularities constitute the most frequently cited reason for restating financial statements during the past few years.

Accepted Answer

Revenue recognition irregularities have been the most common reason for restating financial statements in recent years.

Question 19

Research indicates that fewer firms report slightly negative earnings than slightly positive earnings,suggesting that managers of firms that would otherwise report a slight loss are finding ways to prop up earnings.

Accepted Answer

This is true according to research studies. Managers may use strategies such as manipulating accounting practices or cutting costs in order to avoid reporting a slight loss.

Question 20

"Capacity swaps" have been used by telecommunications companies as a means to prematurely recognize revenue.

Accepted Answer

Capacity swaps involve swapping or exchanging parts of a company's network capacity with another company. By doing so, the first company can recognize revenue from the unused capacity, which may not actually exist. This practice has been used by some telecommunications companies to prematurely recognize revenue, and has led to regulatory scrutiny and legal cases.

Quiz 3: Additional Topics in Income Determination