Question 1

One way companies deal with uncertainty is by using flexible budgets.

Accepted Answer

Flexible budgets allow companies to adjust their budgeted amounts based on actual circumstances and changes in the business environment, providing them with some level of flexibility and adaptability in response to uncertainty.

Question 2

One way that managers deal with uncertainty about future events when they prepare budgets is to include some amounts for "miscellaneous expenses" or "contingencies."

Accepted Answer

Including amounts for miscellaneous expenses or contingencies is a common way for managers to deal with uncertainty when preparing budgets. These amounts provide a buffer for unexpected expenses that may arise during the budget period.

Question 3

The rules that the FASB sets for recognizing gain contingencies and loss contingencies are an example of neutral, rather than conservative, accounting.

Accepted Answer

The rules set by the FASB for recognizing gain contingencies and loss contingencies are an example of conservative accounting. This is because gain contingencies are not recognized until they are realized, while loss contingencies are recognized once they are probable and can be estimated, reflecting a conservative approach to ensure that financial statements do not overstate the financial position of a company.

Question 4

For a company like General Motors, the reported warranty expense in any given year will usually include both the impact of the current year's sales and some revision of previous years' estimated warranty liabilities.

Accepted Answer

This is because warranty expenses are typically calculated based on estimates of the costs the company will incur to repair or replace its products under warranty. These estimates may be revised as new information becomes available, such as actual repair costs or changes in product design. As such, the reported warranty expense in any given year will usually include a combination of the costs associated with current-year sales as well as adjustments to previous years' estimates of warranty liabilities.

Question 5

Under GAAP, manufacturing and retail inventories are normally carried at the "lower of cost or market."

Accepted Answer

This statement is true. Under GAAP (Generally Accepted Accounting Principles), the cost of inventory is compared to its market value, and the lower of the two is used to determine the value at which the inventory should be carried on the balance sheet.

Question 6

Under U.S. rules, once a company "writes down" an inventory item to a "market" value, it cannot later increase the carrying value of the inventory item.

Accepted Answer

This is known as the "lower of cost or market" rule and is set by the Generally Accepted Accounting Principles (GAAP) in the United States. It ensures that companies do not overstate the value of their inventory by requiring them to write down the value to the lower of its original cost or its current market value. Once an inventory item has been written down, it cannot later be increased in value, as this would violate the rule.

Question 7

Under U.S. rules, after a company "writes down" an inventory item to a "market" value, it should later increase the carrying value of the inventory item if the market for the item improves.

Accepted Answer

Under U.S. Generally Accepted Accounting Principles (GAAP), once inventory has been written down, any subsequent increase in the value of the inventory cannot be recognized until the inventory is actually sold.

Question 8

If a company is too conservative, and records too large an adjustment for a "lower of cost or market" adjustment in one period, then its income in later periods will be reduced when the estimation error is corrected.

Accepted Answer

If a company records too large an adjustment for a "lower of cost or market" in one period, it will actually increase income in later periods when the estimation error is corrected, because the reversal of the excessive write-down would result in recognizing higher income than if the adjustment had been accurately estimated initially.

Question 9

If a company estimates wrongly, and records too small an adjustment for a "lower of cost or market" adjustment in one period, then its income in later periods will be reduced when the estimation error is corrected.

Accepted Answer

If a company underestimates the adjustment needed for "lower of cost or market" in one period, it means that the value of inventory is overstated, which leads to higher income. However, when the estimation error is corrected in later periods, the adjustment will reduce the income.

Question 10

The effects of some changes in a company's estimates of its pension obligation are shown in other comprehensive income rather than in net income.

Accepted Answer

Changes in a company's estimates of its pension obligation are recognized in other comprehensive income and not in net income, unless they result in a recognizing a gain or loss in net income.

Question 11

The type of pension plan where a company promises to pay employees a pension for the rest of the employees' lives, with a value that depends on how much the employees earn until they retire, is called a "defined benefit" plan.

Accepted Answer

This statement accurately describes a defined benefit pension plan.

Question 12

Under GAAP, companies do not have to accrue any liabilities for such "other post-employment benefits" as medical insurance, until employees actually retire.

Accepted Answer

Under GAAP, companies are required to accrue liabilities for "other post-employment benefits" such as medical insurance over the employees' working period, and not just when they retire. This accrual is based on actuarial estimates and assumptions to determine the amount that needs to be set aside to fund these benefits.

Question 13

Under GAAP, companies that have "defined benefit" pension plans for their employees are required to record expenses for these plans while the employees are working, and are not allowed to wait to record the expenses until the employees retire.

Accepted Answer

This is true under GAAP (Generally Accepted Accounting Principles). Companies are required to record the expenses for defined benefit pension plans while the employees are working, through what is called the "service cost component" of the net periodic pension cost. Waiting to record the expenses until the employees retire could significantly understate the retirement costs and skew the company's financial statements.

Question 14

The accounting for depreciation of equipment is affected by uncertainty over the assets' lives and their salvage value.

Accepted Answer

Depreciation is calculated based on the estimated useful life and salvage value of an asset, which can be uncertain and subject to change over time. Therefore, the accounting for depreciation of equipment is affected by uncertainty over the assets' lives and their salvage value.

Question 15

The accounting for depreciation of equipment is affected by uncertainty over the assets' lives, but not by any uncertainty over their salvage value.

Accepted Answer

The accounting for depreciation of equipment is affected by uncertainty over both the assets' lives and their salvage value. Uncertainty over salvage value can impact the amount of depreciation expense recognized in each accounting period.

Question 16

The FASB sets the same rules for recognizing gain contingencies as assets as it does for recognizing loss contingencies as liabilities.

Accepted Answer

The FASB generally requires more stringent criteria for recognizing gain contingencies as assets compared to the criteria for recognizing loss contingencies as liabilities. Gain contingencies are not recognized in financial statements until they are realized, whereas loss contingencies can be recognized when they are probable and can be reasonably estimated.

Quiz 8: Reconciling Bank and Credit Card Statements