A firm with a simple capital structure had a net income of 7,700 last year. It had 1,000 common shares outstanding and its reported EPS was 6.6. What was the firm's payment to its preferred stock holders?
Answer(s): C
For a simple capital structure, EPS = (Net Income - Preferred stock dividends)/weighted # of common shares This gives 6.6 = (7700- Preferred stock dividends)/1000. Hence, payment to preferred equity holders = 1,100.
A firm's accountant has mistakenly overstated depreciation by 50 and understated accounts receivables by 35. The firm's tax rate is 40%. Then, which of the following is/are true?
If depreciation is overstated by 50, the income is actually understated by 50*(1-tax rate) = 30. The understatement of accounts receivables does not affect the income statement; it understates the reported current assets. It also affects the operating cash flow. Note that operating cash flow = net income + noncash expenses - non-cash revenues - cash reductions in operating accounts Since income is understated by 30, non-cash expense (depreciation) is overstated by 50 and noncash revenue (accounts receivable) is understated by 35, operating cash flow is overstated by -30 + 50 - (-35) = 55.
Prepaid expenses are:
Answer(s): B
Prepaid expenses occur when you pay for a service before you actually receive the benefits of the service.
When prices are rising, which of the following inventory valuation methods produces a lower ending inventory value?
Answer(s): A
When prices are rising, LIFO will produce the lowest ending inventory value because the last in (highest cost) inventory is the first out. This leaves the oldest inventory on hand and since it was purchased at lower prices, it has the lowest cost and ending inventory will have the lowest value.
Under the current US GAAP, the treatment of R&D expenses:
Difficulties in measuring the current value of assets being generated by R&D prevent a reliable application of the accrual principles, which require allocation of expenses in proportion to the current benefits generated.Hence, US GAAP takes the easiest solution of expensing all the R&D costs (unless they generate tangible or intangible assets which have alternative future uses which are measurable). Since R&D does generate future benefits on an expected basis, the full expensing of the costs when incurred tends to under-estimate current income and leads to lower taxes. Further, when the R&D activities do lead to profitable results, income gets overstated because of non-recognition of a portion of it in previous periods. Thus, R&D expensing adds volatility to income. On the other hand, expensing leads to a more conservative balance sheet since no assets or equity is recognized until the benefits actually materialize. Thus, by assuming that current R&D has no current benefits, the GAAP accounting tries to prevent "bad" surprises.
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