Question 1

All things being equal, if investors expect earnings to increase substantially from current levels, the price/earnings ratio will:

Accepted Answer

A higher expectation of earnings in the future increases investor demand for the stock, leading to an increase in the stock price. This, in turn, increases the P/E ratio, which measures the current stock price relative to earnings. As a result, if investors expect earnings to increase substantially, the P/E ratio will be quite high.

Question 2

Execucomp Corporation's financial statements in the current year show a loss from discontinued operations, a prior period adjustment, and an extraordinary gain. If Execucomp's income statement is prepared according to generally accepted accounting principles (as illustrated in your text), which of the following four items would appear second in sequence in the income statement?

Accepted Answer

The answer of Execucomp Corporation's financial statements in the current...

Question 3

The purpose of developing the subtotals "Income before Extraordinary Items" and "Income from Continuing Operations" in an income statement is to:

Accepted Answer

The answer of The purpose of developing the subtotals "Income...

Question 4

In computing earnings per share, the number of shares used is:

Accepted Answer

The weighted average of shares outstanding for the year is the best choice because it takes into account any changes in the number of shares outstanding that may have occurred during the year, such as stock issuances or buybacks. This method provides a more accurate representation of the company's earnings per share.

Question 5

Doogle Corporation sold a segment of its operations in 2009 and suffered an extraordinary loss in 2010. Which of the following would be the most useful in attempting to predict Doogle's performance for 2011?

Accepted Answer

Income from continuing operations is a better measure of Doogle's performance than net income because it excludes the impact of the extraordinary loss. Total assets and retained earnings are not as useful in predicting performance for the upcoming year.

Question 6

An example of an extraordinary gain or loss is:

Accepted Answer

The answer of An example of an extraordinary gain or...

Question 7

Large stock dividends tend to:

Accepted Answer

Large stock dividends tend to keep stock prices down because it reduces the retained earnings of the company, which are seen as a sign of future growth potential. Investors may perceive the dividend payment as a signal that the company does not have better investment opportunities and may be struggling to grow. Therefore, the demand for the stock decreases, resulting in lower prices.

Question 8

To qualify as an extraordinary item, a gain or loss must:

Accepted Answer

According to accounting principles, a gain or loss may be considered as an extraordinary item if it is unusual in nature (not typical of the entity's regular activities), material in amount (significant enough to impact the financial statements), and not expected to recur in the future.

Question 9

The common stock of Securetech Corporation consistently sells at a market price of 20 times earnings . What would be the most likely effect of a 10 cent increase in Securetech's basic EPS?

Accepted Answer

If the basic EPS increases by 10 cents, then the price-to-earnings (P/E) ratio would increase from 20 to 21 (given that the market price remains the same). Using the formula P/E ratio = Market price per share / EPS, if P/E ratio increases while the market price per share remains constant, then EPS must have increased. Thus, the new EPS would be $2 which is a 5% increase from the old EPS of $1.90. Assuming the market price still reflects 20 times earnings, the new market price per share would be approximately $40 (20 x $2). Therefore, the most likely effect of a 10 cent increase in Securetech's basic EPS would be an increase in market price of approximately $2 per share.

Question 10

Which of the following statistics is generally computed for both common and preferred stock?

Accepted Answer

The answer of Which of the following statistics is generally...

Question 11

On January 31, 2009, Village Bank had 500,000 shares of $2 par value common stock outstanding. On that date, the company declared a 14% stock dividend when the market price of the stock was $37 per share. The immediate effect of this dividend upon Village Bank was:

Accepted Answer

A stock dividend is a distribution of additional shares of stock to existing shareholders. It does not involve any cash outflow. Instead, the company transfers a portion of its retained earnings to its common stock account. In this case, the company would issue an additional 70,000 shares of common stock (14% of 500,000), increasing the total number of shares outstanding to 570,000. The par value of the stock remains the same at $2 per share, so the common stock account would increase by $140,000 (70,000 shares x $2 par value per share). However, this transfer of earnings to the common stock account reduces retained earnings by the same amount. Therefore, the immediate effect of this dividend would be a reduction in retained earnings of $2,590,000 ($140,000 increase in common stock and $2,750,000 decrease in retained earnings).

Question 12

A prior period adjustment is a correction made to:

Accepted Answer

A prior period adjustment is a correction made to the opening balance of retained earnings in a financial statement. It is made when an error is discovered that relates to a prior period, but it was not discovered in time to be corrected in that period's financial statements.

Question 13

The numerator in calculating earnings per share is reduced for:

Accepted Answer

The numerator in calculating earnings per share is reduced for preferred dividends because preferred shareholders have a prior claim on earnings before common shareholders.

Question 14

Of the items listed, which would appear closest to the bottom of the income statement?

Accepted Answer

The answer of Of the items listed, which would appear...

Question 15

Which of the following has no effect on the computation of earnings per share for the current period?

Accepted Answer

The answer of Which of the following has no effect...

Question 16

Which of the following would have no effect on Retained Earnings?

Accepted Answer

Declaration of a stock split does not affect retained earnings because it simply increases the number of shares outstanding while proportionally adjusting the share price, without altering the company's equity or the individual's proportionate share of that equity.

Question 17

Earnings per share figures are shown in the income statement:

Accepted Answer

Earnings per share figures are typically only shown in the income statement for income before extraordinary items and income from continuing operations, as well as for net income. These are the most important figures for investors to use in determining the profitability of a company. Additionally, it is not necessary to show separate earnings per share figures for different classes of stock, and there is no requirement to disclose earnings per share figures for privately held companies. While it is technically optional to disclose earnings per share figures, most publicly traded companies do choose to include this information in their financial statements.

Question 18

The price-earnings ratio is the:

Accepted Answer

Price-earnings ratio (P/E ratio) is the market price of a share of common stock divided by its earnings per share (EPS). It is used to evaluate the relative value of a stock and helps investors determine whether a stock is overvalued or undervalued.

Question 19

Which of the following would be classified as an extraordinary item?

Accepted Answer

The answer of Which of the following would be classified...

Question 20

The amount of earnings per share is usually computed:

Accepted Answer

Earnings per share is usually calculated for common stock only, and the calculation involves subtracting the dividends paid to preferred stockholders from net income and then dividing by the average number of common shares outstanding. Choice A is incorrect because earnings per share is not usually calculated for preferred stock. Choice C is incorrect because the calculation should only include common shares, not preferred shares. Choice D is incorrect because the calculation should use the weighted average number of shares outstanding, not just the number of shares at the end of the year.

Quiz 12: Income and Changes in Retained Earnings