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CHAPTER 2: FINANCIAL STATEMENTS AND THE ANNUAL REPORT
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
1. What is the primary objective of financial reporting?
a. To help investors make credit decisions.
b. To help management assess cash flows.
c. To protect users from fraudulent financial information.
d. To provide useful information for decision making
ANSWER: d
2. “Claims to economic resources” are known as
a. Assets and liabilities
b. Liabilities and stockholders’ equity
c. Owners’ equity and stockholders’ equity
d. Retained earnings and revenues
ANSWER: b
3. Which of the following is not an objective of financial reporting?
a. To reflect prospective cash receipts to investors and creditors.
b. To reflect prospective cash flows to an enterprise.
c. To reflect resources and claim to resources.
d. To reflect current stock prices and information concerning stock markets.
ANSWER: d
4. Which of the following statements is true concerning external users of financial information?
a. External users need detailed records of the business to make informed decisions.
b. External users are primarily responsible for the preparation of financial statements.
c. External users rely on the financial statements to help make informed decisions.
d. External users rely on management to tell them whether the company is a good investment
ANSWER: c
5. Relevant information can be quantitative or qualitative. In deciding whether to go to college part-time or full-
time, which of the following is a qualitative factor for a student?
a. The cost of tuition
b. The opportunity to make friends
c. The price of football tickets
d. “Good Student” discounts on auto insurance rates.
ANSWER: b
Chapter 2: Financial Statements and the Annual Report
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
6. The preparation of financial statements requires that the information be understandable
a. Only to CPAs.
b. To those willing to spend the time to understand it.
c. Only to those who take an accounting course.
d. Only to financial analysts and brokers.
ANSWER: b
7. Cook, Inc., a manufacturer of tires, has given you its most recent annual report in an effort to obtain a sizable
loan. The company is very profitable and appears to have a sound financial position. Based on a report
presented on prime-time television last night, you are aware that Cook is a defendant in several lawsuits
related to its defective tires that cause vehicles to overturn. The information presented on television is an
example of financial information that is
a. Relevant
b. Consistent
c. Predictable
d. Comparable
ANSWER: a
8. If an investor can use accounting information for two different companies to evaluate the types and
amounts of expenses, the information is said to have the quality of
a. Comparability
b. Consistency
c. Neutrality
d. Understandability
ANSWER: a
9. Button Transportation purchases many pieces of office furniture with an individual cost below $200 each.
Button chooses to account for these expenditures as expenses when acquired rather than reporting them as
property, plant, and equipment on its balance sheet. The company's accountant and independent CPA agree
that no accounting principle has been violated. What accounting justification allows Button to expense the
furniture?
a. Conservatism
b. Matching
c. Materiality
d. Verifiability
ANSWER: c
10. Madden Company applies the consistency convention. What does this mean?
a. Madden Co. uses the same names for all its expenses as its competitors.
b. Madden Co. has selected certain accounting principles that can never be changed.
c. Madden Co. applies the same accounting principles each accounting period.
d. Madden Co. applies the same accounting principles as it competitors.
ANSWER: c
Chapter 2: Financial Statements and the Annual Report
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
11. Information that is material means that an error or alternative method of handling a transaction
a. Would possibly affect the judgment of someone relying on the financial statements
b. Would not affect the decisions of users
c. Might cause a company to understate its earnings for the accounting period
d. Could increase the profitability of a company
ANSWER: a
12. An accountant is uncertain about the best estimate of an amount for a business transaction. If two amounts are
about equally likely, the amount least likely to overstate assets and income is selected. Which of the following
qualities is characterized by this action?
a. Comparability
b. Conservatism
c. Materiality
d. Neutrality
ANSWER: b
13. The qualitative characteristics of accounting data include
a. Assets reported on the balance sheet
b. All accounting information
c. Cash flows
d. Reliability
ANSWER: d
14. Which of the following is a noncurrent asset?
a. Inventories
b. Office supplies
c. Land
d. Accounts receivable
ANSWER: c
15. Which of the following is a current asset?
a. Land
b. Buildings
c. Store fixtures
d. Prepaid insurance
ANSWER: d
Chapter 2: Financial Statements and the Annual Report
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
16. Which of the following include only current assets?
a. Accounts receivable, cash, inventory, office supplies
b. Cash, accounts payable, inventory, office supplies
c. Cash, land, accounts receivable, inventory
d. Accounts receivable, cash, furniture, office supplies
ANSWER: a
17. To determine the source of a company's assets, on which financial statement will you look?
a. Balance sheet only
b. Income statement only
c. Both the balance sheet and the income statement
d. Both the income statement and the statement of retained earnings
ANSWER: a
Moss Company
Moss Company has provided the following information from its accounting records for the current year:
Cash
$ 55,000
Accounts receivable
$ 45,000
Inventory
65,000
Land
75,000
Accounts payable
50,000
Notes payable (due 2020)
150,000
Retained earnings
?
Capital stock
20,000
18. Read the information for Moss Corporation. What are Moss’ current assets?
a. $ 100,000
b. $ 165,000
c. $ 210,000
d. $ 240,000
ANSWER: b
RATIONALE: ($55,000 Cash + $45,000 Accounts Receivable + $65,000 Inventory = $165,000)
19. Read the information for Moss Company. What are Moss’ current liabilities?
a. $ 50,000
b. $ 125,000
c. $ 200,000
d. $ 230,000
ANSWER: a
RATIONALE: ($50,000 Accounts Payable)
Chapter 2: Financial Statements and the Annual Report
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
20. Which one of the following items is reported as a current asset on a classified balance sheet?
a. Inventory
b. Accounts payable
c. Land
d. Common stock
ANSWER: a
21. The following information is given for Sego Company:
Cash
$ 50,000
Inventory
$ 45,000
Land
75,000
Accumulated Depreciation
40,000
Plant & Equipment
150,000
Accounts Payable
60,000
What are the company’s current assets?
a. $220,000
b. $155,000
c. $130,000
d. $95,000
ANSWER: d
RATIONALE: ($50,000 Cash + $45,000 Inventory = $95,000)
22. Which of the following accounts are normally reported as current liabilities on a classified balance sheet?
a. Accounts payable and bonds payable
b. Interest payable and mortgage payable
c. Income taxes payable and salaries payable
d. Capital stock and accounts payable
ANSWER: c
23. Which one of the following is not a major category for long-term assets?
a. Intangibles
b. Property, plant, and equipment
c. Receivables
d. Goodwill
ANSWER: c
24. Which of the following would not be considered to be an intangible asset?
a. Franchises
b. Copyrights
c. Investments
d. Goodwill
ANSWER: c
Chapter 2: Financial Statements and the Annual Report
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
25. Which of the following statements is true concerning intangible assets?
a. Intangible assets have no economic substance.
b. Intangible assets lack physical existence.
c. Intangible assets are listed in the stockholders’ equity section of the balance sheet.
d. Intangible assets appear in the current assets section of the balance sheet.
ANSWER: b
26. How are assets which are expected to be realized in cash, sold, or consumed within the normal operating cycle
of a business or within one year (if the operating cycle is shorter than one year) reported on a classified
balance sheet?
a. Property, plant, and equipment
b. Current assets
c. Intangible assets
d. Current liabilities
ANSWER: b
27. Which of the following terms characterizes the time period between the investment of cash in merchandise
and the collection of cash from the sale of that merchandise?
a. Operating cycle
b. Natural business year
c. Accounting period
d. Fiscal period
ANSWER: a
28. Which set of items below are current assets?
a. Accounts receivable, net income, inventory, and dividends
b. Cash, accounts receivable, capital stock, and sales
c. Net income, cash, office supplies, and inventory
d. Cash, accounts receivable, inventory, and office supplies
ANSWER: d
29. One significant difference between a classified and a non-classified balance sheet is the distinction between
which of the following items?
a. Assets and liabilities
b. Current and noncurrent items
c. Liabilities and owners’ equity
d. Resources invested by the owners and amounts borrowed from creditors
ANSWER: b
Chapter 2: Financial Statements and the Annual Report
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
30. For several years, Flame Corporation has had a current ratio that was consistent with other companies in its
industry. For the most recent year, Flame’s current ratio was significantly higher than that for the industry.
What is the best possible explanation for this situation?
a. The other companies in the industry were not as profitable.
b. Flame’s liquidity has improved or is not leveraging financial resources effectively.
c. Flame has less property, plant and equipment than other companies.
d. Flame has too much debt.
ANSWER: b
Guinther & Sons, Inc.
Guinther & Sons, Inc. a retailer of men’s clothing, earned a net profit of $77,000 for 2014. The balance sheet for
Guinther & Sons includes the following items:
Cash
$29,000
Accounts receivable
$39,000
Inventory
79,000
Prepaid insurance
3,000
Land
90,000
Accounts payable
21,000
Taxes payable
29,000
Capital stock
50,000
Retained earnings
97,000
Long-term notes payable
43,000
31. Read the information for Guinther & Sons. Calculate the total amount of current assets for Guinther & Sons.
a. $ 100,000
b. $ 147,000
c. $ 150,000
d. $ 249,000
ANSWER: c
RATIONALE: ($29,000 Cash + $39,000 Accounts Receivable + $79,000 Inventory + $3,000 Prepaid
Insurance = $150,000)
32. Read the information for Guinther & Sons, Inc. Calculate the current ratio for Guinther &
Sons.
a. 2.58 to 1
b. 2.75 to 1
c. 3.00 to 1
d. 2.00 to 1
ANSWER: c
RATIONALE: ($29,000 Cash + $39,000 Accounts Receivable + $79,000 Inventory + $3,000 Prepaid
Insurance) / ($21,000 Accounts Payable + $29,000 Taxes Payable) = 3.00 to 1
Chapter 2: Financial Statements and the Annual Report
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
33. Read the information for Guinther & Sons, Inc. The average current ratio for stores such as Guinther & Sons
is 2.4 to 1. What does this comparison tell you about its liquidity?
a. It is more liquid than its competitors.
b. It has more long-term assets than its competitors.
c. Since a rule of thumb for current ratios is 2 to 1, neither Guinther & Sons, Inc. nor its competitors is liquid.
d. Guinther & Sons, Inc. is more profitable than its competitors.
ANSWER: a
34. Lamar Company has total current assets of $122,000 and total current liabilities of $57,000. What is the
amount of working capital for Lamar Company?
a. $ 57,000
b. $ 65,000
c. $ 122,000
d. $ 179,000
ANSWER: b
35. What is the correct method for calculating working capital?
a. Total Assets minus Total Liabilities
b. Current Assets minus Total Liabilities
c. Current Assets minus Current Liabilities
d. Current Assets plus Current Liabilities
ANSWER: c
36. Oreo Company has current assets of $20,000, current liabilities of $8,000, and long-term liabilities of $3,000.
Oreo wants to buy new equipment. How much of its existing cash can Oreo use to acquire equipment
without allowing its current ratio to decline below 2.0 to 1?
a. $ 4,000
b. $ 8,000
c. $ 10,000
d. $ 12,000
ANSWER: a
RATIONALE: ($16,000 / $8,000 = 2.0 to 1; $20,000 - $16,000 = $4,000)
37. Excursion Corp. increased its dollar amount of working capital over the past several years. To further evaluate
the company's short-run liquidity, which one of the following measures should be used?
a. The current ratio
b. An analysis of the company’s long-term debt
c. An analysis of the return on stockholders’ equity
d. An analysis of retained earnings
ANSWER: a
Chapter 2: Financial Statements and the Annual Report
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
38. Which financial statement reports information helpful in assessing working capital?
a. Income statement
b. Balance sheet
c. Statement of retained earnings
d. Statement of cash flows
ANSWER: b
39. Use Rizwi Corporation’s list of accounts at December 31, 2015 to answer the following question.
Rizwi Corporation
List of Accounts at December 31, 2015
Cash
$30,000
Accumulated depreciation
$ 12,000
Merchandise inventory
21,000
Notes payable—Due 12/31/2022
120,000
Land
40,000
Accounts payable
14,000
Buildings
80,000
Equipment
33,000
Accounts receivable
25,000
Notes Payable—Due 07/01/2016
24,000
What is Rizwi Corp.’s current ratio?
a. 0.48 to 1
b. 2.00 to 1
c. 2.55 to 1
d. 2.86 to 1
ANSWER: b
RATIONALE: ($30,000 Cash + $21,000 Merchandise Inventory + $25,000 Accounts Receivable) / ($14,000
Accounts Payable + $24,000 Notes Payable--Due 07/01/2015) = 2.00 to 1
40. If the current ratio is 2.5 to 1, net income is $6,000, and current liabilities are $18,000, how much is working
capital? a. $ 6,000
b. $ 24,000
c. $ 27,000
d. $ 45,000
ANSWER: c
RATIONALE: ($18,000 Current Liabilities X 2.5 = $45,000 Current Assets; $45,000 - $18,000 = $27,000)
41. For which of the following is the current ratio most useful?
a. In evaluating a company’s liquidity
b. In evaluating a company’s solvency
c. In evaluating a company’s profitability
d. In evaluating a company’s probability
ANSWER: a
Chapter 2: Financial Statements and the Annual Report
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
42. Which of the following events will cause a company’s current ratio to decrease?
a. The sale of inventory for cash
b. The sale of inventory for credit (accounts receivable)
c. Issuing stock for cash
d. Paying off long-term debt with cash
ANSWER: d
43. Which of the following events will cause a company’s current ratio to increase?
a. The collection of an account receivable
b. Selling land for cash at a loss
c. The discharge of an account payable by signing a short-term note payable
d. Paying off a long-term loan
ANSWER: b
44. Liquidity relates to a company's ability to do which of the following?
a. The ability to pay its financial obligations as they become due
b. The ability to stay in business over the long run
c. The ability to pay dividends to its stockholders
d. The ability to collect the amount their customers owe the company
ANSWER: a
Skyline, Inc.
The balance sheet of Skyline Inc. includes the following items:
Cash
$ 22,400
Accounts receivable
11,700
Inventory
23,300
Prepaid insurance
1,040
Land
80,000
Accounts payable
47,500
Salaries payable
1,200
Capital stock
84,040
Retained earnings
5,700
Chapter 2: Financial Statements and the Annual Report
© 2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
45. Read the information about Skyline, Inc. What is Skyline’s current ratio?
a. 0.8 to 1
b. 1.6 to 1
c. 1.2 to 1
d. 2.5 to 1
ANSWER: c
RATIONALE: Current Ratio = Current Assets/Current Liabilities = ($22,400 + $11,700 + $23,300 +
$1,040)/($47,500 + $1,200) = $58,440/48,700 = 1.2 to 1
46. Read the information about Skyline, Inc. What is Skyline’s working capital?
a. $58,440
b. $89,740
c. $84,040
d. $9,740
ANSWER: d
RATIONALE: Current Ratio = Current Assets/Current Liabilities = ($22,400 + $11,700 + $23,300 +
$1,040)/($47,500 + $1,200) = $58,440/48,700 = 1.2 to 1 Working Capital = Current Assets –
Current Liabilities = $58,440 – $48,700 = $9,740
47. Which of the following would appear on a multiple-step income statement but not on a single-step
income statement?
a. Net income
b. Total expenses
c. Total revenues
d. Income before income taxes
ANSWER: d
48. Which of the following would not appear on an income statement?
a. Sales revenue
b. Cost of goods sold
c. Accounts receivable
d. Insurance expense
ANSWER: c
49. Which statement is true concerning an income statement?
a. The income statement shows how much profit the company has earned since it began operations.
b. Net income on the income statement should be equal to the amount of cash on the balance sheet.
c. The income statement summarizes the results of operations for a period of time.
d. The income statement indicates the liquidity of the company on an annual basis.
ANSWER: c
Chapter 2: Financial Statements and the Annual Report
50. Which statement is true concerning gains and losses?
a. Gains and losses are reported on the balance sheet in the Assets and Liabilities sections, respectively.
b. Gains and losses are special types of revenues and expenses that are reported on the income statement.
c. The amounts of gains and losses are included in the calculation of the current ratio, in the numerator
and denominator, respectively.
d. Gains and losses are reported only on a multi-step income statement.
ANSWER: b
51. Which one of the following subtotals or totals would appear in a multiple-step, but not a single-step
income statement?
a. Income tax expense
b. Income from operations
c. Cost of goods sold
d. Net income
ANSWER: b
52. What are the two subtotals that distinguish the multi-step income statement from the single-step income
statement?
a. Income before taxes and income taxes
