Gleim CMA Test Prep: Part 2: Financial Decision Making

841 Pages·2014·3.94 MB·English

[1]
The Foreign Corrupt Practices Act prohibits

Bribes to all foreigners.
A.
Small bribes to foreign officials that serve as facilitating or grease payments.
B.
Bribery only by corporations and their representatives.
C.
Bribes to foreign officials to influence official acts.
D.

Answer (A) is incorrect because Bribes to all foreigners is not covered by the provisions in the FCPA.
Answer (B) is incorrect because Small bribes to foreign officials that serve as facilitating or grease payments is not
covered by the provisions in the FCPA.
Answer (C) is incorrect because All U.S. firms are subject to the anti-bribery provisions.
Answer (D) is correct. The Foreign Corrupt Practices Act (FCPA) prohibits any U.S. firm from making bribes to
foreign officials to influence official acts. The businesses subject to the FCPA include corporations, partnerships,
limited partnerships, business trusts, and unincorporated organizations. Violations of the FCPA are federal
felonies. The penalties are up to 5 years in prison or up to a $100,000 fine or both for an officer, director, or
shareholder who helps make the bribe.

[2]
A major impact of the Foreign Corrupt Practices Act of 1977 is that registrants subject to the Securities Exchange Act of
1934 are now required to

Keep records that reflect the transactions and dispositions of assets and to maintain a system of internal accounting
controls.
A.

Provide access to records by authorized agencies of the federal government.
B.
Prepare financial statements in accord with international accounting standards.
C.
Produce full, fair, and accurate periodic reports on foreign commerce and/or foreign political party affiliations.
D.

Answer (A) is correct. The main purpose of the Foreign Corrupt Practices Act of 1977 is to prevent bribery by
firms that do business in foreign countries. A major ramification is that it requires all companies that must register
with the SEC under the Securities Exchange Act of 1934 to maintain adequate accounting records and a system of
internal accounting control.
Answer (B) is incorrect because Authorized agents of the federal government already have access to records of
SEC registrants.
Answer (C) is incorrect because Although some international accounting standards have been promulgated, they
are incomplete and have not gained widespread acceptance.
Answer (D) is incorrect because There are no requirements for providing periodic reports on foreign commerce or
foreign political party affiliations.

[3]
The reporting of accounting information plays a central role in the regulation of business operations. The importance of
sound internal control practices is underscored by the Foreign Corrupt Practices Act of 1977 which requires publicly
owned U.S. corporations to maintain systems of internal control that meet certain minimum standards. Preventive
controls are an integral part of virtually all accounting processing systems, and much of the information generated by the
accounting system is used for preventive control purposes. Which one of the following is not an essential element of a
sound preventive control system?

Separation of responsibilities for the recording, custodial, and authorization functions.
A.
Sound personnel practices.
B.
Documentation of policies and procedures.
C.
Implementation of state-of-the-art software and hardware.
D.

Gleim CMA Test Prep: Part 2: Financial Decision Making
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Answer (A) is incorrect because Segregation of functions makes it more difficult for one person both to perpetrate and
conceal an irregularity.
Answer (B) is incorrect because Hiring honest and capable employees prevents many problems.
Answer (C) is incorrect because Documentation provides a guide for conduct.
Answer (D) is correct. Preventive controls are designed to prevent an error or irregularity from occurring. State-of-the-art
hardware and software would presumably incorporate the latest control features, but a less advanced system could very
well contain a sound preventive control structure. Hence, state-of-the-art components are not essential for effective
control.

[4]
What law prohibits U.S. companies from paying bribes to foreign officials for the purpose of obtaining or retaining
business?

Federal Ethical Standards Act.
A.
Robinson-Patman Act.
B.
Foreign Corrupt Practices Act.
C.
North American Free Trade Agreement.
D.

Answer (A) is incorrect because The Federal Ethical Standards Act does not deal with international payments.
Answer (B) is incorrect because The Robinson-Patman Act of 1936 prohibits price discrimination.
Answer (C) is correct. The Foreign Corrupt Practices Act of 1977 prohibits bribes to foreign officials for purposes
of obtaining or retaining business. The Act also requires companies to maintain effective systems of internal
control.
Answer (D) is incorrect because The North American Free Trade Agreement (NAFTA), passed in 1993, provides
for free trade among the nations of Canada, Mexico, and the U.S.

[5]
Which of the following is not an aspect of the Foreign Corrupt Practices Act of 1977?

It subjects management to fines and imprisonment.
A.
It prohibits bribes to foreign officials.
B.
It requires the establishment of independent audit committees.
C.
It requires an internal control system to be developed and maintained.
D.

Answer (A) is incorrect because This is a provision of the Act.
Answer (B) is incorrect because This is a provision of the Act.
Answer (C) is correct. The Foreign Corrupt Practices Act of 1977 prohibits bribes to foreign officials and requires
firms to have adequate systems of internal control. Violation of the Act subjects individual managers to fines
and/or imprisonment. The Act does not specifically require the establishment of audit committees, but many firms
have established audit committees as one means of dealing with the internal control provisions of the Act.
Answer (D) is incorrect because This is a provision of the Act.

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[6]
Firms subject to the reporting requirements of the Securities Exchange Act of 1934 are required by the Foreign Corrupt
Practices Act of 1977 to maintain satisfactory internal control. The role of the independent auditor relative to this Act is
to

Report clients with unsatisfactory internal control to the SEC.
A.
Provide assurances to users as part of the traditional audit attest function that the client is in compliance with the
present legislation.
B.

Express an opinion on the sufficiency of the client’s internal control to meet the requirements of the Act.
C.
Attest to the financial statements.
D.

Answer (A) is incorrect because The auditor is not required to report violations of the Act to the SEC, although a
duty to disclose outside the client may exist in some circumstances; e.g., the client’s failure to take remedial action
regarding an illegal act may constitute a disagreement that it must report on Form 8-K (AU 317).
Answer (B) is incorrect because The traditional attest function does not involve compliance auditing.
Answer (C) is incorrect because The FCPA contains no requirement that an auditor express an opinion on internal
control.
Answer (D) is correct. Whether a client is in conformity with the Foreign Corrupt Practices Act is a legal
question. Auditors cannot be expected to provide clients or users of the financial statements with legal advice. The
role of the auditor is to assess control risk in the course of an engagement to attest to the fair presentation of the
financial statements.

[7]
The requirement of the Foreign Corrupt Practices Act of 1977 to devise and maintain adequate internal control is
assigned in the Act to the

Chief financial officer.
A.
Board of directors.
B.
Director of internal auditing.
C.
Company as a whole with no designation of specific persons or positions.
D.

Answer (A) is incorrect because Compliance with the FCPA is not the specific responsibility of the chief financial
officer.
Answer (B) is incorrect because Compliance with the FCPA is not the specific responsibility of the board of
directors.
Answer (C) is incorrect because Compliance with the FCPA is not the specific responsibility of the director of
internal auditing.
Answer (D) is correct. The accounting requirements apply to all public companies that must register under the
Securities Exchange Act of 1934. The responsibility is thus placed on companies, not individuals.

[8]
Which of the following corporations are subject to the accounting requirements of the Foreign Corrupt Practices Act
(FCPA)?

All corporations engaged in interstate commerce.
A.
All domestic corporations engaged in international trade.
B.
All corporations that have made a public offering under the Securities Act of 1933.
C.
All corporations whose securities are registered pursuant to the Securities Exchange Act of 1934.
D.

Answer (A) is incorrect because The accounting requirements apply only to publicly held companies registered
under the 1934 act.
Answer (B) is incorrect because The accounting requirements apply only to publicly held companies registered
under the 1934 act.

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Answer (C) is incorrect because The accounting requirements apply only to publicly held companies registered under the
1934 act.
Answer (D) is correct. The accounting requirements of the FCPA apply to all companies required to register and report under
the Securities Exchange Act of 1934. These companies must maintain books, records, and accounts in reasonable detail that
accurately and fairly reflect transactions. The FCPA also requires these companies to maintain a system of internal accounting
control that provides certain reasonable assurances, including that corporate assets are not used for bribes.

[9]
The Foreign Corrupt Practices Act of 1977 prohibits bribery of foreign officials. Which of the following statements
correctly describes the act’s application to corporations engaging in such practices?

It applies only to multinational corporations.
A.
It applies to all domestic corporations engaged in interstate commerce.
B.
It applies only to corporations whose securities are registered under the Securities Exchange Act of 1934.
C.
It applies only to corporations engaged in foreign commerce.
D.

Answer (A) is incorrect because The FCPA antibribery provisions apply to all corporations engaged in interstate
commerce (and also to any form of business organization, not just to corporations).
Answer (B) is correct. Although the requirements of the FCPA relating to the maintenance of accounting records
and systems of internal accounting control apply only to companies required to register under the Securities
Exchange Act of 1934, the antibribery provisions apply to all domestic business concerns engaged in interstate
commerce.
Answer (C) is incorrect because Although the requirements of the FCPA relating to the maintenance of accounting
records and systems of internal accounting control apply only to companies required to register under the
Securities Exchange Act of 1934, the antibribery provisions apply to all domestic business concerns engaged in
interstate commerce.
Answer (D) is incorrect because The FCPA antibribery provisions apply to all corporations engaged in interstate
commerce (and also to any form of business organization, not just to corporations).

[10]
Under the Foreign Corrupt Practices Act (FCPA), an action may be brought that seeks

Treble damages by a private party.
A.
Injunctive relief by a private party.
B.
Criminal sanctions against both the corporation and its officers by the Department of Justice.
C.
Damages and injunctive relief by the Securities and Exchange Commission.
D.

Answer (A) is incorrect because Private parties may not bring an action under the FCPA.
Answer (B) is incorrect because Private parties may not bring an action under the FCPA.
Answer (C) is correct. The SEC may investigate violations of the FCPA, bring civil actions for its enforcement,
and recommend that the Justice Department prosecute criminal violations.
Answer (D) is incorrect because Although the SEC is empowered to seek injunctions, the Justice Department must
seek penalties. Damages are sought by private parties who cannot sue under this statute.

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[11]
The U.S. Foreign Corrupt Practices Act is particularly focused on the dealings of financial institutions and the
safeguarding of the global financial system. Financial institutions must implement robust controls to ensure knowledge of
their customers and the nature of their business transactions and be in a position to prove to regulators a high level of due
diligence. These safeguards are required to minimize all of the following except

Money laundering.
A.
Insider trading.
B.
Terrorist financing.
C.
Extortion and bribery.
D.

Answer (A) is incorrect because Money laundering is one focus of the safeguards of the global financial system
relating to the U.S. Foreign Corrupt Practices Act.
Answer (B) is correct. The safeguards of the global financial system relating to the U.S. Foreign Corrupt Practices
Act deal with minimizing money laundering, terrorist financing, and extortion and bribery. Insider trading is not a
focus of the safeguards.
Answer (C) is incorrect because Terrorist financing is one focus of the safeguards of the global financial system
relating to the U.S. Foreign Corrupt Practices Act.
Answer (D) is incorrect because Extortion and bribery are focuses of the safeguards of the global financial system
relating to the U.S. Foreign Corrupt Practices Act.

[12]
Corporations have the responsibility to issue financial statements that are timely, accurate, and transparent, reflecting all
the transactions of the company. Which of the following documents refer to this responsibility?

IMA’s Statement of Ethical Professional Practice
I.
SOX Section 406: Code of Ethics for Senior Financial Officers
II.
IMA’s Statement on Management Accounting “Values and Ethics: From Inception to Practice”
III.
U.S. Foreign Corrupt Practices Act
IV.

I and II only.
A.
I and III only.
B.
II and III only.
C.
II and IV only.
D.

Answer (A) is incorrect because The IMA’s Statement of Ethical Professional Practice discusses ethical principles
and standards that should be followed by members of the IMA. This does not refer to the responsibility to issue
financial statements that are timely, accurate, and transparent, reflecting all the transactions of the company.
Answer (B) is incorrect because The IMA’s Statement on Management Accounting “Values and Ethics: From
Inception to Practice” is a useful document for understanding ethical concepts in an organizational context. This
does not refer to the responsibility to issue financial statements that are timely, accurate, and transparent, reflecting
all the transactions of the company. The IMA’s Statement of Ethical Professional Practice discusses ethical
principles and standards that should be followed by members of the IMA. This does not refer to the responsibility
to issue financial statements that are timely, accurate, and transparent, reflecting all the transactions of the
company.
Answer (C) is incorrect because The IMA’s Statement on Management Accounting “Values and Ethics: From
Inception to Practice” is a useful document for understanding ethical concepts in an organizational context. This
does not refer to the responsibility to issue financial statements that are timely, accurate, and transparent, reflecting
all the transactions of the company.
Answer (D) is correct. SOX Section 406: Code of Ethics for Senior Financial Officers and the U.S. Foreign
Corrupt Practices Act both refer to the corporate responsibility to issue financial statements that are timely,
accurate, and transparent, reflecting all the transactions of the company.

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[13]
IMA’s Statement on Management Accounting, “Values and Ethics: From Inception to Practice,” recommends a defined
code of conduct and ethical behavior for all organizations. One advantage of having such a code is that it

Provides employees with guidance for handling unfamiliar situations.
A.
Ensures ethical behavior by all employees.
B.
Shields the organization from liability in cases of loss of stockholder value due to fraud.
C.
Eases the investigative process performed by police and prosecutors in cases of suspected fraud.
D.

Answer (A) is correct. “Values and Ethics: From Inception to Practice” states, in part, “... what does an employee
do when unplanned events occur? What reference does an individual look to for help in making decisions? ... This
is why it is important to have a defined set of organizational values and code of ethics – they create the
“touchstone” against which every unanticipated decision must be judged. Failure to have every individual in the
organization know and understand these values and ethical code leads to inconsistency and, in the worst cases,
unethical or fraudulent behavior.” (IV. Values, Ethics, and Accounting.)
Answer (B) is incorrect because A code of conduct cannot guarantee ethical behavior by employees.
Answer (C) is incorrect because A code of conduct cannot guarantee that an organization will be shielded from
liability in cases of fraud.
Answer (D) is incorrect because A code of conduct does not ease law enforcement’s investigative process.

[14]
Which one of the following is a true statement regarding organizational ethics?

As long as officer and employee behavior meet the requirements of the law, the organization can be considered to
have a functioning system of ethical behavior.
A.

A strong sense of ethics on the part of employees who are in the best position to appropriate cash and other assets
is the most vital part of a functioning system of ethical behavior.
B.

If an organization has a strong code of ethical conduct in place, the role of employee training can be downplayed.
C.
Paying attention to “whistleblowers” plays a significant role in maintaining an effective ethical atmosphere.
D.

Answer (A) is incorrect because A sense of ethics requires an ability to distinguish between ethical and merely
legal behavior. “Values and Ethics: From Inception to Practice” states, in part, “Many individuals at the center of
corporate scandals [of the late 20th and early 21st Century] have professed the belief that they were innocent of
any wrongdoing, including Kenneth Lay of Enron or Conrad Black of Hollinger. The problem is that these
individuals did not define their behavior by what most of society would see as ‘reasonable,’ but rather they
followed their own particular code – in some cases, limiting the definition of ethical behavior to require
compliance with the law and nothing more.” (II. Introduction.)
Answer (B) is incorrect because “Values and Ethics: From Inception to Practice” states, in part, “Ethical behavior
is not something that applies to someone else – every single individual is responsible for behaving ethically.
Nowhere is this more important than the demonstration of ethical behavior that managers and supervisors exhibit
in the way they execute their day-to-day work...” This phenomenon is referred to as the “tone at the top.”
(VI. Leadership by Example.)
Answer (C) is incorrect because Employee training is important to maintaining an ethical organizational culture.
“Values and Ethics: From Inception to Practice” states, in part, “Every existing member of staff should receive
ongoing training, starting at the board level and cascading down throughout the organization ... Ethics training for
employees should focus on covering ethical concepts, the organization’s code, and compliance. To achieve this,
training should include: ethical concepts and thinking: What is ‘behind’ the issue of ethical action?; [and] the
organization’s code of ethics and any supporting ‘rules.’” (VIII. Practical Application: Converting Intent into
Operational Reality.)
Answer (D) is correct. “Values and Ethics: From Inception to Practice” states, in part, “A whistleblowing
framework (e.g., an ethics helpline) is an important component in maintaining an ethical organizational culture.
An effective feedback system includes having a confidential framework for employees to report possible violations
of the organization’s code of ethics and to receive advice on the ethical aspects of challenging decisions. Statistics
show that a large number of occupational fraud cases are detected through an employee “hotline” or other
reporting method ... ” (IX. Measuring and Improving Ethical Compliance.)

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[15]
Which one of the following is a true statement regarding organizational ethics?

A comprehensive framework of corporate ethical behavior is a prerequisite for an effective system of internal
control.
A.

An effective system of internal control is a prerequisite for corporate ethical behavior.
B.
If a functioning system of ethical behavior is in place, an organization is able to devote fewer resources to
developing human capital.
C.

“Organizational culture” is determined mostly by the industry(ies) in which the firm operates.
D.

Answer (A) is correct. A comprehensive framework of corporate ethical behavior is a prerequisite for an effective
system of internal control. “Values and Ethics: From Inception to Practice” states, in part, “CEOs and CFOs have
to place their own integrity on the line by attesting to compliance with an adequate level of internal controls (as
well as all other certifications). Creating a thorough, integrated system for developing, implementing, sustaining,
and monitoring ethical performance within the organization will allow executives to make such declarations with
confidence that a code of ethics is the foundation of the organization’s culture and is fully integrated into the
thinking process of every employee and business partner.” (IX. Measuring and Improving Ethical Compliance.)
Answer (B) is incorrect because It is more nearly true to state the opposite.
Answer (C) is incorrect because The concept of “human capital” is important to an organization in creating a
climate where “doing the right thing” is expected. In most organizations today, labor costs constitute the majority
of operating expenses. “Values and Ethics: From Inception to Practice” states, in part, “...an organization must, to
a great degree, trust that its employees are acting in its best interests. Human ‘capital’ is a critical asset ...
Unmotivated employees can poison the atmosphere and reduce the teamwork and cooperation required for
knowledge transfer and innovation, and they can have a significant negative impact on relationships with suppliers
and customers.” (IV. Values, Ethics, and Accounting.)
Answer (D) is incorrect because “Values and Ethics: From Inception to Practice” states, in part, “Every
organization already has a culture ... Step one in establishing an ethical culture must be an assessment of the
existing organizational values and culture and the development of a set of statements that define the principles the
organization believes in and should act upon. These statements and principles can be developed by the
shareholders, the board, or a governing body within the organization.” (V. Defining and Developing the
Organization’s Behavioral Values.)

[16]
The basic financial statements include a

Balance sheet, income statement, statement of retained earnings, and statement of changes in retained earnings.
A.
Statement of financial position, income statement, statement of retained earnings, and statement of changes in
retained earnings.
B.

Balance sheet, statement of financial position, income statement, and statement of changes in retained earnings.
C.
Statement of financial position, income statement, statement of cash flows, and statement of retained earnings.
D.

Answer (A) is incorrect because The statement of changes in retained earnings is not a separate financial
statement.
Answer (B) is incorrect because The statement of changes in retained earnings is not a separate financial
statement.
Answer (C) is incorrect because The statement of changes in retained earnings is not a separate financial
statement.
Answer (D) is correct. Under GAAP, the basic required statements are the statements of financial position,
income, cash flows, and retained earnings. Changes in equity must be disclosed in the basic statements, the notes,
or a separate statement. A statement of cash flows is now a required part of a full set of financial statements of all
business entities (both publicly held and privately held). Moreover, comprehensive income must be displayed in a
financial statement given the same prominence as other statements, but no specific format is required as long as
net income is displayed as a component of comprehensive income in the statement.

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[17]
Financial statement users with a direct economic interest in a specific business include

Financial advisers.
A.
Regulatory bodies.
B.
Stock markets.
C.
Suppliers.
D.

Answer (A) is incorrect because Financial advisers have indirect interests.
Answer (B) is incorrect because Regulatory bodies have indirect interests.
Answer (C) is incorrect because Stock markets have indirect interests.
Answer (D) is correct. Users with direct interests include investors or potential investors, suppliers and creditors,
employees, and management.

[18]
A primary objective of external financial reporting is

Direct measurement of the value of a business enterprise.
A.
Provision of information that is useful to present and potential investors, creditors, and others in making rational
financial decisions regarding the enterprise.
B.

Establishment of rules for accruing liabilities.
C.
Direct measurement of the enterprise’s stock price.
D.

Answer (A) is incorrect because Financial reporting is not designed to measure directly the value of a business.
Answer (B) is correct. According to the FASB’s Conceptual Framework, the objectives of external financial
reporting are to provide information that (1) is useful to present and potential investors, creditors, and others in
making rational financial decisions regarding the enterprise; (2) helps those parties in assessing the amounts,
timing, and uncertainty of prospective cash receipts from dividends or interest and the proceeds from sale,
redemption, or maturity of securities or loans; and (3) concerns the economic resources of an enterprise, the claims
thereto, and the effects of transactions, events, and circumstances that change its resources and claims thereto.
Answer (C) is incorrect because While rules for accruing liabilities are a practical concern, the establishment of
such rules is not a primary objective of external reporting.
Answer (D) is incorrect because The objectives of financial accounting are unrelated to the measurement of stock
prices; stock prices are a product of stock market forces.

[19]
Notes to financial statements are beneficial in meeting the disclosure requirements of financial reporting. The notes
should not be used to

Describe significant accounting policies.
A.
Describe depreciation methods employed by the company.
B.
Describe principles and methods peculiar to the industry in which the company operates, when these principles
and methods are predominantly followed in that industry.
C.

Correct an improper presentation in the financial statements.
D.

Answer (A) is incorrect because It describes an appropriate and required disclosure that should appear in the notes
to the financial statements.
Answer (B) is incorrect because It describes an appropriate and required disclosure that should appear in the notes
to the financial statements.

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Answer (C) is incorrect because It describes an appropriate and required disclosure that should appear in the notes to the
financial statements.
Answer (D) is correct. Financial statement notes should not be used to correct improper presentations. The financial
statements should be presented correctly on their own. Notes should be used to explain the methods used to prepare the
financial statements and the amounts shown. The first footnote typically describes significant accounting policies.

[20]
Which of the following is not a need of financial statement users?

Financial advisers and analysts need financial statements to help investors evaluate particular investments.
A.
Stock exchanges need financial statements to set a firm’s stock price.
B.
Regulatory agencies need financial statements to evaluate price changes for regulated industries.
C.
Employees need financial information to negotiate wages and fringe benefits.
D.

Answer (A) is incorrect because Financial advisers use financial statements for evaluating investments.
Answer (B) is correct. Investors’ purchases and sales set stock prices. Stock exchanges need financial statements
to evaluate whether to accept a firm’s stock for listing or whether to suspend trading in the stock.
Answer (C) is incorrect because Regulatory agencies use financial statements for rate making.
Answer (D) is incorrect because Employees use financial statements for labor negotiations.

[21]
The management of ABC Corporation is analyzing the financial statements of XYZ Corporation because ABC is strongly
considering purchasing a block of XYZ common stock that would give ABC significant influence over XYZ. Which
financial statement should ABC primarily use to assess the amounts, timing, and uncertainty of future cash flows of XYZ
Company?

Income statement.
A.
Statement of retained earnings.
B.
Statement of cash flows.
C.
Balance sheet.
D.

Answer (A) is incorrect because The statement of income is prepared on an accrual basis and is not meant to
report cash flows.
Answer (B) is incorrect because The statement of retained earnings merely shows the reasons for changes in
retained earnings during the reporting period.
Answer (C) is correct. The primary purpose of a statement of cash flows is to provide information about the cash
receipts and cash payments of a business enterprise during a period. This information helps investors, creditors,
and other users to assess (1) the enterprise’s ability to generate net cash inflows; (2) its ability to meet its
obligations, and pay dividends; (3) its needs for external financing; (4) the reasons for the differences between net
income and net cash flow; and (5) the effects of cash and noncash financing and investing activities.
Answer (D) is incorrect because The balance sheet reports on financial position at a moment in time. It does not
provide information about future cash flows.

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[22]
The primary purpose of the statement of financial position is to reflect

The fair value of the firm’s assets at some moment in time.
A.
The status of the firm’s assets in case of forced liquidation of the firm.
B.
The success of a company’s operations for a given amount of time.
C.
Items of value, debt, and net worth.
D.

Answer (A) is incorrect because The measurement attributes of assets include but are not limited to fair value.
Answer (B) is incorrect because Financial statements reflect the going concern assumption. Hence, they usually do
not report forced liquidation values.
Answer (C) is incorrect because The income statement provides this type of information.
Answer (D) is correct. The balance sheet presents three major financial accounting elements: assets (items of
value), liabilities (debts), and equity (net worth). According to the FASB’s Conceptual Framework, assets are
probable future economic benefits resulting from past transactions or events. Liabilities are probable future
sacrifices of economic benefits arising from present obligations as a result of past transactions or events. Equity is
the residual interest in the assets after deduction of liabilities.

[23]
Prepaid expenses are valued on the statement of financial position at the

Cost to acquire the asset.
A.
Face amount collectible at maturity.
B.
Cost to acquire minus accumulated amortization.
C.
Cost less expired or used portion.
D.

Answer (A) is incorrect because The cost must be reduced by the expired or used portion of the prepaid asset.
Answer (B) is incorrect because Prepaid expenses will not be collected at maturity.
Answer (C) is incorrect because Prepaid expenses are not depreciated; they expire.
Answer (D) is correct. Prepaid expenses, such as supplies, prepaid rent, and prepaid insurance, are reported on
the balance sheet at cost minus the expired or used portion. These are typically current assets.

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[Fact Pattern #1]
A company’s pre-closing trial balance and other pertinent information at December 31 are as follows. The opening balance of
inventory was $140,000. The long-term debt pays interest at a rate of 10% per annum, payable every 12 months. The debt was
issued on July 1 of the current year and originally had 5 years to maturity. The fixed assets have a 10-year estimated useful life
and were 1 year old at the start of the current year. Straight-line depreciation is used by the company.

Dr.
Cr.

Cash
$ 80,000
Accounts receivable
100,000
Inventory
230,000
Gross fixed assets
600,000
Accumulated depreciation
60,000

Accounts payable
180,000
Long-term debt
1,000,000
Common stock
210,000
Retained earnings (Jan. 1)
500,000
Sales revenue
750,000
Purchases
530,000
Administrative expenses
200,000

[24]
(Refers to Fact Pattern #1)
The company will report year-end total assets of

$800,000
A.
$890,000
B.
$950,000
C.
$1,010,000
D.

Answer (A) is incorrect because Using the beginning balance of inventory results in $800,000.
Answer (B) is correct. The year-end total assets can be determined by summing all of the assets and deducting
accumulated depreciation (including the current year’s depreciation). Total accumulated depreciation at the end of
the second year is $120,000 [($600,000 ÷ 10 years) × 2 years]. Total assets equal $890,000 ($80,000 cash +
$100,000 A/R + $230,000 EI + $600,000 gross fixed assets – $120,000 accumulated depreciation).
Answer (C) is incorrect because Omitting second-year depreciation from the calculation results in $950,000.
Answer (D) is incorrect because Omitting total accumulated depreciation from the calculation results in
$1,010,000.

[25]
A statement of financial position allows investors to assess all of the following except the

Efficiency with which enterprise assets are used.
A.
Liquidity and financial flexibility of the enterprise.
B.
Capital structure of the enterprise.
C.
Net realizable value of enterprise assets.
D.

Answer (A) is incorrect because Efficiency of asset use is assessed by calculating liquidity, leverage, and asset
management ratios. These ratios require balance sheet data.
Answer (B) is incorrect because Liquidity and financial flexibility are assessed by calculating liquidity, leverage,
and asset management ratios. These ratios require balance sheet data.

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Answer (C) is incorrect because The capital structure of the enterprise is reported in the equity section of the statement of
financial position.
Answer (D) is correct. Assets are usually measured at original historical cost in a statement of financial position, although
some exceptions exist. For example, some short-term receivables are reported at their net realizable value. Thus, the statement
of financial position cannot be relied upon to assess NRV.

[26]
The accounting equation (assets – liabilities = equity) reflects the

Entity point of view.
A.
Fund theory.
B.
Proprietary point of view.
C.
Enterprise theory.
D.

Answer (A) is incorrect because The entity concept limits accounting information to that related to a specific
entity (possibly not the same as the legal entity).
Answer (B) is incorrect because Fund theory stresses that assets equal obligations (equity and liabilities are
sources of assets).
Answer (C) is correct. The equation is based on the proprietary theory. Equity in an enterprise is what remains
after the economic obligations of the enterprise are deducted from its economic resources.
Answer (D) is incorrect because The enterprise concept stresses ownership of the assets; that is, the emphasis is on
the credit side of the balance sheet.

[27]
Karen’s Crafts, Inc., has the following accounts included in its December 31 trial balance:

Accounts payable
$250,000
Discount on bonds payable
34,000

Wages payable
29,000

Interest payable
14,000

Bonds payable

(Issued 1/1/Year 1; due 1/1/Year 20)
500,000
Income taxes payable
26,000

What amount of current liabilities will be reported on Karen’s December 31 statement of financial position?

$285,000
A.
$319,000
B.
$353,000
C.
$819,000
D.

Answer (A) is incorrect because The discount on bonds payable is erroneously deducted from the total.
Answer (B) is correct. Current liabilities consist of those debts that will have to be paid in the coming year or the
normal operating cycle, whichever period is longer. Examples include accounts payable, wages payable, interest
payable, and income taxes payable. Bonds payable and its contra account, discount on bonds payable, would both
be shown under the long-term liability classification. The total current liabilities would be $319,000 ($250,000 +
$29,000 + $14,000 + $26,000).
Answer (C) is incorrect because The amount of $353,000 includes discount on bonds payable.
Answer (D) is incorrect because The amount of $819,000 includes bonds payable.

Gleim CMA Test Prep: Part 2: Financial Decision Making

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[28]
Perry Mansfield Corporation has the following accounts included in its December 31 trial balance:

Accounts receivable
$110,000
Inventories
250,000
Patents
90,000

Prepaid insurance
19,500

Accounts payable
72,000

Cash
28,000

What amount of current assets should Perry Mansfield include in its statement of financial position at December 31?

$335,500
A.
$388,000
B.
$407,500
C.
$479,500
D.

Answer (A) is incorrect because Deducting accounts payable from the current assets results in the amount of
working capital, rather than the total of current assets.
Answer (B) is incorrect because It fails to include prepaid insurance in the total.
Answer (C) is correct. Current assets consist of cash, certain marketable securities, receivables, inventories, and
prepaid expenses. Adding these elements together produces a total of $407,500 ($28,000 cash + $110,000
receivables + $250,000 inventories + $19,500 prepaid insurance).
Answer (D) is incorrect because It erroneously includes accounts payable.

[29]
Long-term obligations that are or will become callable by the creditor because of the debtor’s violation of a provision of
the debt agreement at the balance sheet date should be classified as

Long-term liabilities.
A.
Current liabilities unless the debtor goes bankrupt.
B.
Current liabilities unless the creditor has waived the right to demand repayment for more than 1 year from the
balance sheet date.
C.

Contingent liabilities until the violation is corrected.
D.

Answer (A) is incorrect because Such obligations must be current liabilities.
Answer (B) is incorrect because Bankruptcy is not an exception.
Answer (C) is correct. Long-term obligations that are or will become callable by the creditor because of the
debtor’s violation of a provision of the debt agreement at the balance sheet date normally are classified as current
liabilities. However, the debt need not be reclassified if the violation will be cured within a specified grace period
or if the creditor formally waives or subsequently loses the right to demand repayment for a period of more than a
year from the balance sheet date (also, reclassification is not required if the debtor expects and has the ability to
refinance the obligation on a long-term basis).
Answer (D) is incorrect because Such obligations are not contingent.

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[30]
Abernathy Corporation uses a calendar year for financial and tax reporting purposes and has $100 million of mortgage
bonds due on January 15, Year 2. By January 10, Year 2, Abernathy intends to refinance this debt with new long-term
mortgage bonds and has entered into a financing agreement that clearly demonstrates its ability to consummate the
refinancing. This debt is to be

Classified as a current liability on the statement of financial position at December 31, Year 1.
A.
Classified as a long-term liability on the statement of financial position at December 31, Year 1.
B.
Retired as of December 31, Year 1.
C.
Considered off-balance-sheet debt.
D.

Answer (A) is incorrect because The company intends to refinance the debt on a long-term basis.
Answer (B) is correct. Short-term obligations expected to be refinanced should be reported as current liabilities
unless the firm both plans to refinance and has the ability to refinance the debt on a long-term basis. The ability to
refinance on a long-term basis is evidenced by a post-balance-sheet date issuance of long-term debt or a financing
arrangement that will clearly permit long-term refinancing.
Answer (C) is incorrect because The debt has not been retired.
Answer (D) is incorrect because The debt is on the balance sheet.

[31]
Lister Company intends to refinance a portion of its short-term debt in Year 2 and is negotiating a long-term financing
agreement with a local bank. This agreement would be noncancelable and would extend for a period of 2 years. The
amount of short-term debt that Lister Company can exclude from its statement of financial position at December 31,
Year 1,

May exceed the amount available for refinancing under the agreement.
A.
Depends on the demonstrated ability to consummate the refinancing.
B.
Is reduced by the proportionate change in the working capital ratio.
C.
Is zero unless the refinancing has occurred by year end.
D.

Answer (A) is incorrect because The amount excluded cannot exceed the amount available for refinancing.
Answer (B) is correct. If an enterprise intends to refinance short-term obligations on a long-term basis and
demonstrates an ability to consummate the refinancing, the obligations should be excluded from current liabilities
and classified as noncurrent. The ability to consummate the refinancing may be demonstrated by a post-balance-
sheet-date issuance of a long-term obligation or equity securities, or by entering into a financing agreement that
meets certain criteria. These criteria are that the agreement does not expire within 1 year, it is noncancelable by the
lender, no violation of the agreement exists at the balance sheet date, and the lender is financially capable of
honoring the agreement.
Answer (C) is incorrect because The correct accounting treatment does not depend on changes in ratios.
Answer (D) is incorrect because The refinancing need not have occurred if the firm intends and demonstrates an
ability to consummate such refinancing.

[32]
When treasury stock is accounted for at cost, the cost is reported on the balance sheet as a(n)

Asset.
A.
Reduction of retained earnings.
B.
Reduction of additional paid-in-capital.
C.
Unallocated reduction of equity.
D.

Answer (A) is incorrect because Treasury stock is not an asset. A corporation cannot own itself.

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Answer (B) is incorrect because Treasury stock accounted for at cost is subtracted from the total of the other equity accounts.
Answer (C) is incorrect because Treasury stock accounted for at cost is subtracted from the total of the other equity accounts.
Answer (D) is correct. Treasury stock is a corporation’s own stock that has been reacquired but not retired. In the balance
sheet, treasury stock recorded at cost is subtracted from the total of the capital stock balances, additional paid-in capital,
retained earnings, and accumulated other comprehensive income.

[33]
When a company was in the process of closing its original store, no accounting notice of the liquidation values of the
discontinued store’s assets were considered in the accounting records. The accountant did not make any entries until the
assets were disposed of because the company was still a going concern. However, when liquidation of a business is
foreseen but not yet accomplished, a different financial statement is prepared. This statement is known as the

Statement of liquidation.
A.
Charge and discharge statement.
B.
Statement of realization.
C.
Statement of affairs.
D.

Answer (A) is incorrect because The statement prepared by the trustee in bankruptcy to reconcile the book
amounts to his/her administration of the estate is the statement of realization and liquidation.
Answer (B) is incorrect because A charge and discharge statement is prepared by the personal representative of a
decedent’s estate.
Answer (C) is incorrect because The statement prepared by the trustee in bankruptcy to reconcile the book
amounts to his/her administration of the estate is the statement of realization and liquidation.
Answer (D) is correct. A statement of affairs is prepared for a company in the process of liquidation. It reflects the
financial condition of the company on a going out of business rather than a going concern basis. Liquidation value
instead of historical cost is used to value assets.

[34]
Felicity Company has the following accounts included in its December 31 trial balance:

Treasury stock
$ 48,000
Retained earnings
141,000
Trademarks
32,000

Preferred stock
175,000
Common stock
50,000

Deferred income taxes
85,000

Additional paid-in capital
196,000
Accumulated depreciation
16,000

What amount of equity will be reported on Felicity’s December 31 statement of financial position?

$373,000
A.
$514,000
B.
$562,000
C.
$610,000
D.

Answer (A) is incorrect because Retained earnings should be included in equity.

Gleim CMA Test Prep: Part 2: Financial Decision Making

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