ADVANCED FINANCIAL ACCOUNTING
EXAM QUESTIONS AND ANSWERS
GRADED A+ 2025/2026
Which of the following procedures are followed in applying the cost method of accounting for
an investment in another firm's equity securities? - ANS The investor's share of the investee's
dividend declarations is recorded as income.
In limited circumstances, a cost method investment may be increased when similar securities
experience price increases.
The investment must periodically assessed for impairment.
What are some common economic consequences of financial reporting on the reporting firm? -
ANS Failure to maintain certain financial statement ratios may cause a firm to violate debt
covenants.
Certain financial statement performance metrics may affect the ability of a firm to raise capital
in debt or equity markets.
Managerial compensation may depend on reported net income.
When is an investor firm required to prepare consolidated financial statements? - ANS When
the investor firm controls an investee's operations.
True or False: When firms are affiliated through a common set of owners, measurements that
recognize the relationships among the firms help provide subjectivity that can be used to create
the footnotes for financial reporting. - ANS False
It helps provide OBJECTIVITY
1 @COPYRIGHT 2025/2026 ALLRIGHTS RESERVED.
,An investor that accounts for an equity investment under the cost method records income from
the investment based on its share of ___________ declared from the investee. -
ANS Dividends
An investor originally purchased 5% of an investee and appropriately applied the fair-value
method to account for its investment. Later, the investor purchased sufficient additional shares
to qualify the investment for the equity method. How should the investor account for the newly
qualified equity investment? - ANS Add the cost of the shares to the current basis of its
previous 5% investment.
True or false: Because reported income can affect market perceptions of the underlying value of
publicly traded shares, managers will often assess prospective effects of equity method income
prior to making an equity-method investment in another firm's shares. - ANS True
Equity method income directly affects the reported net income of the investor firm.
When one firm controls the entire decision making process of another firm, - ANS such
control may result from majority voting stock ownership or contracts with a variable interest
entity.
one set of financial statements are created for the combined assets, liabilities, revenues and
expenses of both firms.
for reporting purposes the two companies are considered to be a single economic entity.
When one firm can significantly influence the decisions of another firm through its ownership of
voting shares, transactions between the two firms - ANS do not provide an objective basis for
financial reporting.
Transactions with outside parties must be used to provide a basis for accounting valuation.
Under the equity method for investments with significant influence, the direction of the sale
between the investor and investee (upstream or downstream) can only increase but cannot
decrease the final amounts reported in the financial statements. - ANS False
2 @COPYRIGHT 2025/2026 ALLRIGHTS RESERVED.
, Under the equity method for investments with significant influence, the direction of the sale
between the investor and investee (upstream and downstream) has no effect on the final
amounts reported in the financial statements.
What factors indicate if the equity method should be used for an investment in another firm's
equity securities? - ANS Technological dependency between the investor and investee.
Investor representation on the investee's board of directors.
Investor participation in the policy-making process of the investee.
Which of the following accounting approaches is used when an investment share is increased
and the investment now qualifies for the equity method? - ANS Prospective approach
As opposed to the cash basis of accounting, the equity method follows the ________ basis for
recognizing investment income. - ANS Accrual
Goodwill is: - ANS An intangible asset.
What are the two main reasons that firms purchase equity shares in other firms? - ANS To
earn a return on idle cash and to achieve voting privileges in the other firm.
When does a company like Coca-Cola account for its investment using the equity method? -
ANS When the investment provides the company with the ability to exercise significant
influence over the decisions of the investee.
Which of the following represent potential conditions where one firm has the ability to control
the operations of another? - ANS One firms owns more than 50% of the voting stock of
another firm.
One firm has contractual arrangements that provide decision-making power over another firm.
Key word: Control (of ownership)
3 @COPYRIGHT 2025/2026 ALLRIGHTS RESERVED.
EXAM QUESTIONS AND ANSWERS
GRADED A+ 2025/2026
Which of the following procedures are followed in applying the cost method of accounting for
an investment in another firm's equity securities? - ANS The investor's share of the investee's
dividend declarations is recorded as income.
In limited circumstances, a cost method investment may be increased when similar securities
experience price increases.
The investment must periodically assessed for impairment.
What are some common economic consequences of financial reporting on the reporting firm? -
ANS Failure to maintain certain financial statement ratios may cause a firm to violate debt
covenants.
Certain financial statement performance metrics may affect the ability of a firm to raise capital
in debt or equity markets.
Managerial compensation may depend on reported net income.
When is an investor firm required to prepare consolidated financial statements? - ANS When
the investor firm controls an investee's operations.
True or False: When firms are affiliated through a common set of owners, measurements that
recognize the relationships among the firms help provide subjectivity that can be used to create
the footnotes for financial reporting. - ANS False
It helps provide OBJECTIVITY
1 @COPYRIGHT 2025/2026 ALLRIGHTS RESERVED.
,An investor that accounts for an equity investment under the cost method records income from
the investment based on its share of ___________ declared from the investee. -
ANS Dividends
An investor originally purchased 5% of an investee and appropriately applied the fair-value
method to account for its investment. Later, the investor purchased sufficient additional shares
to qualify the investment for the equity method. How should the investor account for the newly
qualified equity investment? - ANS Add the cost of the shares to the current basis of its
previous 5% investment.
True or false: Because reported income can affect market perceptions of the underlying value of
publicly traded shares, managers will often assess prospective effects of equity method income
prior to making an equity-method investment in another firm's shares. - ANS True
Equity method income directly affects the reported net income of the investor firm.
When one firm controls the entire decision making process of another firm, - ANS such
control may result from majority voting stock ownership or contracts with a variable interest
entity.
one set of financial statements are created for the combined assets, liabilities, revenues and
expenses of both firms.
for reporting purposes the two companies are considered to be a single economic entity.
When one firm can significantly influence the decisions of another firm through its ownership of
voting shares, transactions between the two firms - ANS do not provide an objective basis for
financial reporting.
Transactions with outside parties must be used to provide a basis for accounting valuation.
Under the equity method for investments with significant influence, the direction of the sale
between the investor and investee (upstream or downstream) can only increase but cannot
decrease the final amounts reported in the financial statements. - ANS False
2 @COPYRIGHT 2025/2026 ALLRIGHTS RESERVED.
, Under the equity method for investments with significant influence, the direction of the sale
between the investor and investee (upstream and downstream) has no effect on the final
amounts reported in the financial statements.
What factors indicate if the equity method should be used for an investment in another firm's
equity securities? - ANS Technological dependency between the investor and investee.
Investor representation on the investee's board of directors.
Investor participation in the policy-making process of the investee.
Which of the following accounting approaches is used when an investment share is increased
and the investment now qualifies for the equity method? - ANS Prospective approach
As opposed to the cash basis of accounting, the equity method follows the ________ basis for
recognizing investment income. - ANS Accrual
Goodwill is: - ANS An intangible asset.
What are the two main reasons that firms purchase equity shares in other firms? - ANS To
earn a return on idle cash and to achieve voting privileges in the other firm.
When does a company like Coca-Cola account for its investment using the equity method? -
ANS When the investment provides the company with the ability to exercise significant
influence over the decisions of the investee.
Which of the following represent potential conditions where one firm has the ability to control
the operations of another? - ANS One firms owns more than 50% of the voting stock of
another firm.
One firm has contractual arrangements that provide decision-making power over another firm.
Key word: Control (of ownership)
3 @COPYRIGHT 2025/2026 ALLRIGHTS RESERVED.
