Certified Public Accountant (CPA) Exam 1 with Answers

Explanation: The statement of shareholders' equity includes a section showing the changes in retained earnings over a reporting period.

Explanation: The current ratio measures a company's ability to pay off its short-term liabilities with its short-term assets. It is a key indicator of liquidity.

Explanation: Marketable securities are short-term investments that can easily be converted to cash, typically within one year.

Explanation: Depreciation allocates the cost of a tangible fixed asset over its useful life. It does not represent market value changes

Explanation: Under FIFO, the oldest costs are assigned to the cost of goods sold, and the most recent costs are assigned to ending inventory. During periods of rising prices, the most recent costs are higher, resulting in a higher ending inventory value.

Explanation: A contingent liability is a potential liability that may occur depending on the outcome of a future event, such as litigation or warranty claims.

Explanation: Under the allowance method, the company estimates uncollectible accounts and records an expense with a corresponding credit to Allowance for Doubtful Accounts.

Explanation: Cash equivalents are short-term, highly liquid investments that can be converted to cash quickly, such as treasury bills and commercial paper. Accounts receivable are not considered cash equivalents.

Explanation: Revenue is recognized when it is earned (the performance obligation has been satisfied) and realizable (the company has the right to receive payment).

Explanation: Period costs are not directly tied to production. They are expensed in the period they are incurred and include selling, general, and administrative expenses.

Explanation: The matching principle dictates that expenses should be recorded in the same period as the revenues they are associated with, ensuring an accurate representation of financial performance.

Explanation: Goodwill is an intangible asset recognized when one company acquires another for more than the fair value of its net identifiable assets.

Explanation: Cost of goods sold includes direct costs attributable to the production of goods, such as direct materials, direct labor, and manufacturing overhead.

Explanation: Financial accounting aims to provide financial information that is useful to external users, such as investors and creditors, for decision-making purposes.

Explanation: A stock dividend reclassifies part of retained earnings to common stock and additional paid-in capital. It does not change the total stockholders' equity, just the composition.

Explanation: Preferred stockholders receive fixed dividends and have a higher claim on assets than common stockholders in liquidation, but usually do not have voting rights.

Explanation: Closing entries are used to transfer the balances of temporary accounts (revenues, expenses, and dividends) to permanent accounts (retained earnings) at the end of an accounting period.

Explanation: GAAP allows multiple methods for calculating depreciation, including double-declining balance, straight-line, and units of production methods.

Explanation: Internal control consists of five components: control environment, risk assessment, control activities, information and communication, and monitoring. External audit is not a component but rather an external evaluation of these controls.

Explanation: Adjusting entries are made at the end of an accounting period to ensure that revenues and expenses are recognized in the period in which they occur, thus complying with the matching principle.

Explanation: A classified balance sheet organizes assets and liabilities into current and long-term categories, shows the financial position at the period's end, and separates operating from non-operating items.

Explanation: Cash paid for dividends is reported in the financing activities section of the statement of cash flows.

Explanation: The debt-to-equity ratio measures a company's financial leverage by comparing its total liabilities to its total equity, indicating its ability to meet long-term obligations.

Explanation: The revenue recognition principle dictates that revenue should be recognized when it is earned and realizable, regardless of when cash is received.

Explanation: The matching principle dictates that expenses should be recorded in the same period as the revenues they are associated with, ensuring an accurate representation of financial performance.

Explanation: A contra asset account, like accumulated depreciation, reduces the value of the asset to which it relates, providing a net book value.

Explanation: The accrual basis of accounting recognizes revenues and expenses when they are earned or incurred, not necessarily when cash is exchanged, providing a more accurate picture of financial performance and position.

Explanation: Intangible assets are non-physical assets with value, such as patents, trademarks, and goodwill. Inventory is a physical asset and thus not intangible.

Explanation: Principles of internal control include establishment of responsibility, segregation of duties, physical controls, independent internal verification, and documentation procedures. External audits evaluate the effectiveness of these controls but are not an internal control principle.

Explanation: Financing activities include transactions that affect a company’s equity and long-term liabilities. Payment of dividends is a financing activity because it involves distribution of earnings to shareholders.

Explanation: Net income is calculated by subtracting expenses and losses from revenues and gains. Dividends are distributions to shareholders and do not affect net income.

Explanation: A contingent asset is a potential asset that depends on the occurrence of a future event, such as a favorable lawsuit outcome.

Explanation: Liquidity refers to a company's ability to meet its short-term liabilities with its short-term assets.

Explanation: The main objective of an audit is to provide an independent opinion on whether the financial statements are presented fairly, in all material respects, in accordance with the applicable financial reporting framework.

Explanation: Issuing common stock is a financing activity because it involves raising capital from shareholders.

Explanation: Consistency is an enhancing qualitative characteristic. The primary qualitative characteristics are relevance and faithful representation.

Explanation: A trial balance lists all ledger accounts and their balances to ensure that debits equal credits, serving as a check before preparing financial statements.

Explanation: LIFO matches the most recent inventory costs with current revenues, reflecting current cost levels in the cost of goods sold.

Explanation: The Sarbanes-Oxley Act was enacted to protect investors by improving the accuracy and reliability of corporate disclosures and to prevent accounting fraud.

Explanation: Capital expenditures are costs incurred to acquire or improve long-term assets, such as purchasing a new machine, which will benefit the company for more than one accounting period.