Certified Management Accountant Financial Reporting 3 — Questions and Answers
Question 1: A company has a deferred tax asset of $80,000 and determines it is more likely than not that only $60,000 will be realized. What should the company record?
- Write off the entire deferred tax asset
- Record a valuation allowance of $20,000 (Correct answer)
- Record a valuation allowance of $60,000
- No adjustment is needed
Correct answer: Record a valuation allowance of $20,000
A valuation allowance is required for the portion of a deferred tax asset that is more likely than not to be unrealizable, which is $80,000 − $60,000 = $20,000.
Question 2: Under ASC 606, revenue is recognized when or as a performance obligation is satisfied. Which of the following indicates a performance obligation satisfied OVER TIME?
- Delivery of a product at a point in time
- Customer simultaneously receives and consumes the benefits (Correct answer)
- Transfer of title upon shipment
- Customer acceptance of a finished good
Correct answer: Customer simultaneously receives and consumes the benefits
A performance obligation is satisfied over time if the customer simultaneously receives and consumes the benefits as the entity performs.
Question 3: Which financial statement reconciles net income to cash flows from operating activities under the indirect method?
- Balance sheet
- Statement of cash flows (Correct answer)
- Statement of stockholders' equity
- Income statement
Correct answer: Statement of cash flows
The statement of cash flows, operating section under the indirect method, starts with net income and adjusts for non-cash items and working capital changes.
Question 4: A construction company uses the percentage-of-completion method. If total estimated costs increase during the project, what is the most likely effect on revenue recognized in the current period?
- Revenue increases proportionally
- Revenue decreases because the completion percentage falls (Correct answer)
- Revenue is unaffected until project completion
- Revenue is reversed to prior periods
Correct answer: Revenue decreases because the completion percentage falls
A higher total estimated cost reduces the percentage of completion (costs incurred ÷ total estimated costs), which decreases the cumulative revenue recognized and current period revenue.
Question 5: In computing earnings per share, which securities are included in the weighted-average shares for diluted EPS but NOT basic EPS?
- Common shares outstanding at year-end
- Stock dividends issued during the year
- Convertible bonds assumed converted to common shares (Correct answer)
- Treasury shares repurchased during the year
Correct answer: Convertible bonds assumed converted to common shares
Diluted EPS includes the potential dilutive effect of convertible securities such as convertible bonds, while basic EPS uses only actual common shares outstanding.
Question 6: Which of the following events occurring after the balance sheet date but before the financial statements are issued requires disclosure but NOT adjustment of the financial statements?
- Discovery that a customer went bankrupt before year-end, making a receivable uncollectible
- A major flood that destroyed the company's warehouse after year-end (Correct answer)
- Settlement of a lawsuit for an amount different from the accrued liability at year-end
- Inventory found to be obsolete before year-end
Correct answer: A major flood that destroyed the company's warehouse after year-end
A flood after year-end is a non-recognized subsequent event requiring disclosure only, as it arose after the balance sheet date and does not reflect conditions existing at year-end.
Question 7: Under the indirect method of preparing the cash flow statement, an increase in accounts payable is treated as:
- A use of cash and subtracted from net income
- A source of cash and added to net income (Correct answer)
- A financing activity
- An investing activity
Correct answer: A source of cash and added to net income
An increase in accounts payable means the company paid less cash than its expense accruals, so it is added back to net income in the operating section.
Certified Management Accountant Financial Reporting 3
A company has a deferred tax asset of $80,000 and determines it is more likely than not that only $60,000 will be realized.
What should the company record?