Financial Accounting, 11e (Harrison/Horngren/Thomas)
Chapter 1 The Financial Statements
1 Learning Objective 1-1
1) Accounting is an information system that measures business activities.
2) Bookkeeping is a mechanical part of accounting.
3) Accounting is often called the language of business.
4) Accounting produces financial statements, which report information about a business.
5) The accounting process begins and ends with people making decisions.
6) Accounting information is used by investors and creditors, but not by regulatory bodies.
7) Since Habitat for Humanity is not concerned about making a profit, the entity does not need to use
accounting information.
8) The business records of a sole proprietorship should include the proprietor‘s personal finances.
9) A partnership is a taxpaying entity.
10) Stockholders have no personal obligation for the corporation’s debts.
11) Accounting:
A) measures business activities.
B) processes data into reports and communicates the data to decision makers.
C) is often called the language of business.
D) is all of the above.
12) A disadvantage of general partnerships is:
A) double taxation of distributed profits.
B) the partnership’s assets are commingled with each partner’s personal assets.
C) only individuals can be partners.
D) each partner may conduct business in the name of the entity and make agreements that legally bind
all partners.
13) Which of the following statements is TRUE for a limited liability company?
A) Members have unlimited liability for the debts of the business.
B) Members are not personally liable for the debts of the business.
C) Only the limited partners have limited liability for the debts of the business.
D) Members are not taxed like members of a partnership.
14) Which of the following statements is TRUE for a limited liability partnership?
A) The partners all have limited liability for the debts of the partnership.
B) The partners all have limited liability for the acts of the other partners.
C) The general partner has unlimited liability for the debts of the partnership.
D) The limited partners have unlimited liability for the debts of the partnership.
15) Which of the following statements is TRUE for a proprietorship?
A) Legally, a proprietorship is separate from the proprietor.
B) For accounting purposes, a proprietorship is separate from the proprietor.
C) The business records include the proprietor’s personal finances.
D) All statements are correct.
16) Federal income taxes are paid by ________ in a limited liability company.
A) the company
B) limited partners only
C) general partners only
D) members
17) Which of the following statements is TRUE for a limited liability partnership?
A) The partnership pays no federal income taxes.
B) Only the limited partners pay federal income taxes on their shares of the partnership’s profits.
C) Only the general partner pays federal income taxes on his or her share of the partnership’s profits.
D) Only the members pay federal income taxes on their shares of the partnership’s profits.
18) Which statement is TRUE about partnerships?
A) A partnership is a taxpaying entity.
B) General partnerships have mutual agency and limited liability.
C) Individuals, corporations, partnerships, or other types of entities can be partners.
D) A written partnership contract must exist.
19) Which of the following have unlimited liability for a company’s debts?
A) owners of a corporation
B) members of a limited liability company
C) limited partners in a limited liability partnership
D) general partner in a limited liability partnership
20) Which of the following entities pays federal income taxes?
A) limited liability partnership
B) general partnership
C) limited liability company
D) corporation
21) The two types of accounting are:
A) profit and nonprofit.
B) financial and management.
C) internal and external.
D) bookkeeping and decision-oriented.
22) Decision makers who use accounting information include:
A) creditors.
B) the Internal Revenue Service.
C) the Securities and Exchange Commission.
D) all of the above.
23) The ________ is elected by the stockholders and is responsible for setting policy and appointing
officers.
A) board of directors
B) chief executive officer (CEO)
C) chief financial officer (CFO)
D) advisory council
24) Which type of business organization transacts much more business and is larger in terms of assets,
income, and number of employees?
A) proprietorship
B) partnership
C) limited-liability company
D) corporation
25) The owner of a ________ is personally liable for all the business debts.
A) proprietorship
B) corporation
C) limited-liability company
D) All of the above are correct.
26) Which of the following is a TRUE statement about the characteristics of partnerships?
A) In a limited liability partnership, all partners have limited liability for the partnership’s debts.
B) General partnerships have mutual agency and limited liability for the partnership’s debts.
C) Income and losses of the partnership “flow through” to the partners.
D) The partnership agreement must be in writing.
27) Owners of an LLC are called:
A) partners.
B) proprietors.
C) members.
D) stockholders.
28) Advantages of a corporation include:
A) difficulty in raising large sums of capital.
B) double taxation of distributed profits.
C) limited liability of the stockholders for the corporation’s debts.
D) each stockholder can conduct business in the name of the corporation.
29) Shareholders of a corporation:
A) have limited liability for the corporation’s debts.
B) do not have ultimate control of the corporation.
C) have unlimited liability for the actions of other stockholders.
D) receive dividends from the corporation without having to pay tax on the distribution.
30) An important factor to consider when determining how to organize a business is that:
A) members of an LLC have unlimited liability and are taxed like members of a partnership.
B) for accounting purposes, a proprietorship is a distinct entity, separate from the proprietor.
C) partnerships are subject to double taxation.
D) a corporation is not legally distinct from its owners.
31) Define accounting.
2 Learning Objective 1-2
1) Generally accepted accounting principles (GAAP) are the accounting guidelines formulated by the
Securities and Exchange Commission.
2) The SEC establishes International Financial Reporting Standards.
3) The fundamental qualitative characteristics of accounting information are relevance and reliability.
4) Another name for the continuity assumption is the going-concern assumption.
5) Following current U.S. GAAP, the carrying value of a building can be increased to its fair value.
6) Accounting is moving in the direction of reporting more and more assets and liabilities at their fair
values.
7) The process of verifying accounting information is undertaken exclusively by external auditors.
8) To make a faithful representation, which of the following characteristics does not apply to the
information?
A) completeness
B) neutrality
C) accuracy
D) relevance
9) Enhancing qualitative characteristics of accounting information do NOT include:
A) comparability.
B) verifiability.
C) timeliness.
D) materiality.
10) The process of verifying accounting information in financial statements is undertaken by:
A) the Securities and Exchange Commission.
B) internal auditors only.
C) external auditors only.
D) internal and external auditors.
11) Information must be sufficiently transparent so that it makes sense to reasonably informed users of
the financial statements, such as creditors. This qualitative characteristic of information is called:
A) verifiability.
B) faithful representative.
C) relevant.
D) understandability.
12) The fair value of a plant asset is equal to:
A) the amount the business could sell the asset for.
B) the amount of cash paid plus the dollar value of noncash consideration given in exchange for the
plant asset at acquisition.
C) the amount of cash paid plus the loan taken out to finance the purchase of the plant asset.
D) the amount a company can receive for the asset when sold in order to go out of business.
13) In 1990, Johnson Company purchased a building for $200,000. In 2017, a real estate professional says
the building has a fair value of $1,000,000. In 2017, a similar building down the street recently sold for
$900,000. What value, before consideration of accumulated depreciation, is reported for the building on
the balance sheet at December 31, 2017?
A) $200,000
B) $600,000
C) $900,000
D) $1,000,000
14) Which statement is FALSE?
A) International Financial Reporting Standards are used by most countries around the world.
B) U.S. Generally Accepted Accounting Principles are used by many countries around the world.
C) The most commonly used accounting practices are essentially the same under both U.S. Generally
Accepted Accounting Principles and International Financial Reporting Standards.
D) For many years, U.S. Generally Accepted Accounting Principles were considered to be the strongest
single set of accounting standards in the world.
15) In order to compare the financial statements of Toyota Corporation to the financial statements of
General Motors, it would be preferable to use:
A) U.S. Generally Accepted Accounting Principles for General Motors and International Financial
Reporting Standards for Toyota.
B) U.S. Generally Accepted Accounting Principles for both companies.
C) International Financial Reporting Standards for both companies.
D) U.S. Generally Accepted Accounting Principles for Toyota Corporation and International Financial
Reporting Standards for General Motors.
16) The International Accounting Standards Board is responsible for establishing:
A) the code of professional conduct for accountants.
B) an international Securities and Exchange Commission.
C) U. S. Generally Accepted Accounting Principles.
D) International Financial Reporting Standards.
17) Which of the following statements is FALSE?
A) The Securities and Exchange Commission is studying whether and how to require all U.S. public
companies to adopt some version of International Financial Reporting Standards within the next
decade.
B) The advantage of a uniform set of global accounting standards is that financial statements from a U.S.
company will be comparable to those of a foreign company.
C) In the long run, a uniform set of global accounting standards should significantly reduce the costs of
doing business globally.
D) With a uniform set of global accounting standards, companies will have to prepare multiple versions
of their financial statements.
18) Which of the following is a CORRECT statement about U.S. GAAP and IFRS?
A) IFRS prefers valuing assets at historical cost while U.S. GAAP prefers using fair value.
B) IFRS is more “rules-based” than U.S. GAAP.
C) The FASB and the IASB are working towards convergence of standards.
D) In the area of convergence of standards, there are far more areas of disagreement than common
ground.
19) To be useful, accounting information must have the fundamental qualitative characteristics of:
A) comparability and relevance.
B) relevance and faithful representation.
C) materiality and understandability.
D) faithful representation and timeliness.
20) All of the following are true statements about the entity assumption EXCEPT for:
A) a sharp boundary is drawn around each entity.
B) the transactions of the business cannot be combined with the transactions of the owner.
C) business operations cannot be divided into segments.
D) the entity is any organization that stands apart as a separate economic unit.
21) Verifiability means that the accounting information:
A) is timely and understandable.
B) is understandable.
C) must be capable of being checked for accuracy, completeness and reliability.
D) is material and relevant.
22) The accounting assumption that states that the business, rather than its owners, is the reporting unit
is the:
A) entity assumption.
B) going concern assumption.
C) stable-monetary-unit assumption.
D) historical cost assumption.
23) The stable-monetary-unit assumption:
A) ensures that accounting records and statements are based on the most reliable data available.
B) requires all entities to record transactions in U.S. dollars.
C) maintains that each organization or section of an organization stands apart from other organizations
and individuals.
D) enables accountants to ignore the effect of inflation on the accounting records.
24) Historical cost:
A) is used in the U.S. to value all business assets.
B) is equal to the amount of cash paid minus the dollar value of all noncash considerations also given in
the exchange.
C) is a verifiable measure that is relatively free from bias.
D) is the amount that the business could sell an asset for.
25) The principle stating that assets acquired by the business should be recorded at their actual cost on
the date of purchase is:
A) historical cost.
B) objectivity.
C) reliability.
D) stable-monetary-unit.
26) The relevant measure of the value of the assets of a company that is going out of business is the:
A) liquidating value.
B) inflation-adjusted book value.
C) historical cost.
D) carrying value.
27) The CEO of Clarkson Company owns a vacation home in Hawaii. Clarkson Company owns a
factory in Detroit where it is headquartered. Which of these properties is considered to be asset(s) of the
business?
A) Only the vacation home in Hawaii.
B) Only the factory in Detroit.
C) Both the vacation home in Hawaii and the factory in Detroit.
D) Neither the vacation home in Hawaii nor the factory in Detroit.
28) A construction company paid $80,000 cash for land used in the business. At the time of purchase,
the land had a list price of $89,000. When the balance sheet was prepared, the fair value of the land was
$82,000. At what amount should the land be reported on the balance sheet of the company?
A) $80,000
B) $82,000
C) $84,500
D) $89,000
29) If a company prepares its financial statements three years after the end of its accounting period, it
has violated the qualitative characteristic of:
A) understandability.
B) timeliness.
C) verifiability.
D) materiality.
30) Below is a list of qualitative characteristics of accounting. Following the list is a series of descriptive
phrases.
A) faithful representation
B) timeliness
C) relevance
D) comparability
E) verifiability
F) understandability
________ 1. Information must be sufficiently transparent so it makes sense to reasonably informed
users.
________ 2. Accounting information must be complete, neutral, and accurate.
________ 3. The information must be capable of being checked for accuracy and completeness.
________ 4. Information must be made available early enough to users to help them make decisions.
________ 5. Accounting information must be prepared in such a way that it can be compared with
information from other companies in the same period.
________ 6. Information must be capable of making a difference in a decision.
Required: Match each characteristic with the appropriate phrase.
31) Provide an explanation of each of the following:
Entity Assumption
Historical Cost Principle
Continuity Assumption
Stable-Monetary-Unit Assumption
3 Learning Objective 1-3
1) The word “payable” always signifies a liability.
2) The accounting equation must always be in balance.
3) Owners’ equity is called stockholders’ equity for a corporation.
4) Stockholders’ equity is the stockholders‘ interest in the assets of the corporation.
5) The accounting equation shows the relationship among assets, liabilities and net income.
6) Revenues are cash distributions to the stockholders.
7) Expenses are decreases in retained earnings that result from operations.
8) The basic component of paid-in capital is common stock.
9) The calculation of ending retained earnings considers the beginning retained earnings, current period
net income or net loss, and stockholders’ equity.
10) The two main components of stockholders’ equity are paid-in capital and dividends.
11) Long-term debt is a liability that is payable beyond one year from the date of the financial
statements.
12) David Company has total assets of $500,000 and total liabilities of $180,000. David Company’s
stockholders’ equity must therefore be $680,000.
13) The Clarke Company had beginning retained earnings of $20,000 and net income of $5,000. Clarke
declared and paid dividends of $1,000. Therefore, the ending retained earnings is $25,000.
14) All of the following are expenses EXCEPT for:
A) Cost of Goods Sold.
B) Depreciation Expense.
C) Salary Expense.
D) Dividends.
15) Which of the following statements is TRUE?
A) Dividends are expenses of a business.
B) Dividends reduce retained earnings.
C) Dividends increase retained earnings.
D) Dividends reduce net income.
16) The accounting equation can be stated as:
A) Assets + Stockholders’ Equity = Liabilities.
B) Assets -Liabilities = Stockholders’ Equity.
C) Assets = Liabilities – Stockholders’ Equity.
D) Assets – Stockholders‘ Equity + Liabilities = Zero.
17) The accounting equation can be stated as:
A) Assets = Liabilities + Paid-in Capital – Common Stock.
B) Assets + Liabilities = Stockholders’ Equity.
C) Assets = Liabilities + Paid-in Capital + Retained Earnings.
D) Assets = Liabilities – Paid-in Capital – Dividends.
18) Liabilities are:
A) a form of paid-in capital.
B) future economic benefits to which a company is entitled.
C) debts payable to outsiders called creditors.
D) the outflow of resources that decrease common stock.
19) Examples of liabilities include:
A) accounts payable and dividends.
B) accounts payable and common stock.
C) investments and note payable.
D) accounts payable and note payable.
20) What is an accounts payable?
A) It is a liability for goods or services purchased on credit and supported by a written agreement.
B) It is a liability for goods or services purchased on credit and supported by the credit standing of the
purchaser.
C) It is an amount of money to be received from a supplier.
D) It is an asset arising from the sale of goods or services on credit.