Chap001 The Economic and Institutional Setting for Financial Reporting
True/False
[QUESTION]
1. The role of financial accounting information is to facilitate economic transactions and to
foster efficient allocation of resources among businesses and individuals.
2. Financial reports provide information that can reduce investors’ uncertainty about the
company’s opportunities and risks, thereby raising the company’s cost of capital.
3. Comparability across companies allows analysts to identify real economic similarities in and
differences between underlying economic events because those similarities or differences are not
obscured by accounting methods or disclosure practices.
4. Executive compensation contracts seldom contain annual bonus and longer term pay
components tied to financial statement results, but instead usually rely on stock options as a
means to reward managers in a manner that is less subject to manipulation by management.
5. The public and private sector regulatory agencies establish and enforce financial reporting
requirements designed to ensure that companies meet certain minimum levels of financial
disclosure.
6. Although the SEC has the ultimate legal authority to set accounting principles in the U.S., it
has looked to private-sector organizations (e.g., the FASB) to establish and enforce these
principles.
7. Management has considerable discretion over the particular accounting procedures used in the
financial statements and over the details contained in related note disclosures.
8. Accounting standard-setting in the U.S. is a technical process and thus little affected by
political considerations.
9. The IASB and FASB have worked together to develop a single set of high-quality,
understandable, enforceable and globally accepted international financial reporting standards.
10. Foreign companies registered with the SEC that use IFRS no longer have to reconcile their
financial statements to U.S. GAAP.
11. U.S. GAAP has been criticized as being too “rules–based” thus allowing managers to invent
“loopholes” that conform to the letter of a standard but simultaneously violate its spirit.
12. The goal of the movement toward international convergence of accounting standards is a
single set of accounting standards accepted worldwide and superior to the choices presently
available.
13. Regulators of industries granted monopoly privileges use financial statement data in setting
the rates companies are permitted to charge for the services these industries provide.
14. Owners and managers have an economic incentive to supply the amount and type of
financial information that will enable the company to raise capital at the lowest cost.
15. Financial statement information can help customers monitor a supplier’s manufacturing
processes and thus evaluate the quality of its products.
16. The conceptual framework for financial reporting includes the standards of GAAP.
Multiple Choice
[QUESTION]
17. A company’s financial statements reflect information about
a. future projections of sales, expenses, and other future economic events.
b. product information and competitive positions.
c. the general economy of the industry in which the company operates.
d. economic events that affect a company that can be translated into accounting numbers.
18. All financial statements:
a. provide a picture of the company at a moment in time.
b. describe changes that took place over a period of time.
c. help to evaluate what happened in the past.
d. contain the most up to date information about the company.
19. A firm’s financial statements contain trends that give users insight into the firm’s
a. future market share.
b. position within its industry.
c. profitability, productivity, and liquidity.
d. current market price for common and preferred stock.
20. The ability to raise additional cash by selling assets, issuing stock, or borrowing more is
a. financial flexibility.
b. a credit risk indicator.
c. a stock price predictor.
d. one way to project earnings.
21. Creditors assess credit risk by comparing a firm’s required principal and interest payments to
estimates of the firm’s current and future
a. net assets.
b. gross income.
c. net income.
d. cash flows.
22. Professional analysts need information on a company’s future earnings and cash flow to
evaluate audit vulnerabilities, to assess debt repayment prospects and to
a. certify good values in the stock market.
b. indemnify creditors against losses.
c. certify that no fraud exists in the company.
d. value its equity securities.
23. The costs of providing financial information is ultimately borne by
a. management.
b. shareholders.
c. auditors.
d. professional analysts.
24. Which of the following statements is not correct regarding a company’s
financial statements?
a. They may present a picture of the company at a moment in time.
b. They may describe changes that took place over a period of time .
c. They reflect economic events that affect the company.
d. They are comparable to the statements of other companies as all publicly held
companies follow the very precise science of accounting.
25. Which of the following are correct with respect to information contained in
financial statements?
a. Information asymmetry occurs when management has access to more and better
information than do people outside the company.
b. Financial statements cannot solve the issue of information asymmetry.
c. Financial statements help solve the issue of information asymmetry.
d. Financial statements help solve the issue of information asymmetry which is
when management has access to more and better information than do people
outside the company.
26. Which is not correct regarding Regulation Fair Disclosure (Reg FD) ?
a. It helps level the playing field between individual and insitutional investors.
b. It does not limit what management can say in private conversations with
analysts or investors.
c. It was passed by the SEC.
d. It limits what management can say in private conversations with analysts and
investors .
27. Companies that have projected operating cash flows that are more than sufficient to meet
debt payments are
a. financially flexible.
b. good credit risk companies.
c. undervalued.
d. overvalued.
28. Investors who compare a firm’s discounted future cash flows to the current market price of a
stock are using the
a. efficient market hypothesis.
b. market-to-market approach.
c. fundamental analysis approach.
d. technical analysis approach.
29. A company’s financial statements can be used for all of the following purposes except
a. as a scorecard on the company’s social responsibility.
b. as a management report card.
c. as an early warning signal.
d. as a measure of accountability.
30. The market analysis known as fundamental analysis
a. predicts future trends in the financial drivers of a company’s economic success or failure.
b. relies on price and volume movement of stock.
c. has no insights about company value beyond current market price.
d. uses microeconomic data to forecast stock values.
31. Investors who follow a fundamental analysis approach
a. determine the value the company’s assets would yield if sold individually.
b. estimate the value of a stock by assessing the amount, timing, and uncertainty of future cash
flows that will accrue to the issuing company.
c. assess the company’s ability to meet its debt-related financial obligations.
d. assess the company’s ability to raise additional cash by selling assets, issuing stock, or
borrowing more.
32. In designing audit procedures the auditor will include all of the following
except:
a. Industry conditions.
b. Global economic trends.
c. Assessing the reasonableness of the numbers in relation to the company’s
activities.
d. Fraud risk factors that may be present.
33. Analytical review procedures include all of the following except
a. simple ratio and trend analysis.
b. complex statistical techniques.
c. general reasonableness tests.
d. comparison of the company’s reported financial results to benchmarks established by the
SEC.
34. Relevant financial information
a. is free from bias and error.
b. is measured in a similar manner among different companies.
c. can be independently verified.
d. is capable of making a difference in a decision.
35. To achieve faithful representation, the financial information must be
a. consistent, unbiased, and relevant.
b. relevant, comparable, and timely.
c. relevant, consistent, and timely.
d. complete, neutral, and free from material error.
36. Financial information that is provided to decision makers before it loses its capacity to
influence their decisions is
a. neutral.
b. verifiable.
c. timely.
d. consistent.
37. Financial information which does not favor one set of interested parties over another is
a. relevant.
b. verifiable.
c. neutral.
d. faithfully represented.
38. Employees demand financial information for all of the following except:
a. Monitoring profit sharing and stock ownership plans.
b. Monitoring how much the senior executives earn.
c. Monitoring the health of company pension plans.
d. Monitoring union contracts that link negotiated wage increases to company
financial performance.
39. Which of the following statements is correct with respect to economic
incentives to release financial information?
a. Because companies have an economic incentive to supply information
investors want, regulatory groups have little influence over the amount and
type of financial information that companies disclose.
b. Because financial disclosures are regulated, owners and managers have little
economic incentive to supply the amount and type of financial information
that will enable them to raise capital most cheaply.
c. Companies have an economic incentive to supply the information investors
want in order to raise capital at the lowest possible cost.
d. Owners and managers do not have an economic incentive to supply the
amount and type of financial information because it has no effect on the
company’s ability to raise capital at the lowest cost.
40. Which statement below describes efficient market investors?
a. They presume they have no insight beyond the share price.
b. They believe that any new development is quickly and correctly reflected in the
stock price.
c. They use financial statements to assess risk and dividend yields to make
portfolio decisions.
d. All of these answer choices are correct.
41. Which of the following create a competitive disadvantage according to the full
disclosure principle?
a. Details about the company’s strategies, plans and tactics.
b. Information about the company’s technological and managerial innovations.
c. Detailed information about the company’s operations.
d. All of these answer choices are correct.
42. When independent measurers get similar results when using the same accounting
measurement methods, the financial information is
a. relevant.
b. verifiable.
c. timely.
d. faithfully represented.
43. Being verifiable and neutral is part of what makes financial information
a. useful.
b. consistent.
c. comparable.
d. relevant.
44. If a company fails to disclose information about a lawsuit because it might be embarrassing
to the company, it is violating
a. relevance.
b. verifiability.
c. neutrality.
d. timeliness.
45. Which of the following is not an accurate statement related to the demand for
financial reporting?
a. Economically realistic reporting standards are low when there are few important
capital providers.
b. Cross-country differences have no impact on capital funding opportunities and
financial reporting practices.
c. External investors who provide capital demand a reporting system that
accurately depicts a company past economic performance and its future
prospects.
d. Comprehensive financial data is demanded when there is a broad base of
external investors.
46. Financial information capable of making a difference in a decision is
a. relevant.
b. verifiable.
c. consistent.
d. neutral.
47. Business enterprises enter into many different types of contracts. Examples of such
contracts that often contain language that refers to verifiable financial statement numbers include
all of the following except
a. royalty contracts with inventors.
b. sales contracts with customers.
c. compensation contracts with managers.
d. debt contracts with bankers.
48. What type of trends and relationships can be gleaned from a company’s
financial statements?
a. Rates of sales and accounts receivable growth.
b. Rates of expense growth and expenses as a percentage of sales.
c. How the company’s growth rates compare to their competitors.
d. All of these answer choices are correct.
49. The type of analysis that uses financial statements to assess a company’s current market
price is
a. valuation analysis.
b. efficient market analysis.
c. fundamental analysis.
d. technical analysis.
50. When financial statements are used by shareholders and investors to evaluate the
performance of a company’s top executives it is referred to as the _____________ function of
financial reports.
a. proxy.
b. fundamental.
c. technical.
d. stewardship.
51. Which statement is not true regarding the conservatism convention in
accounting?
a. Conservatism guides us to choose the approach that leads to lower assets or
higher liabilities.
b. Conservatism means we only record that of which we are 100% certain.
c. Conservatism is sometimes used to defend poor accounting judgments.
d. Conservatism strives to ensure that business risks and uncertainties are
adequately reflected in the financial statements.
52. Investors who presume that they have no insights about company value beyond the current
market price and use financial statement data to assess firm-specific attributes believe in the
a. market-to-market hypothesis.
b. efficient market hypothesis.
c. fundamental market hypothesis.
d. technical market hypothesis.