Question

Which of the following is a true statement?

Multiple Choice

• Expenses increase owners’ equity and decrease liabilities.

• Revenue decreases owners’ equity and expenses increase owners’ equity.

• Revenue increases owners’ equity and expenses decrease owners’ equity.

• Revenue decreases owners’ equity and increases liabilities.

Which of the following statements is not true regarding the adoption of ASC Topic 606 guidance for revenue recognition?

Multiple Choice

• When using the cumulative approach, the prior three years of financial statements need to be restated.

• Under the retrospective approach, each period presented is restated to what the financial statements would have been had the new standard always been in place.

• Under the cumulative effect, the firm determines how the balance sheet would differ as of the first day of the year of adoption.

• Upon adoption, entities can choose between the retrospective approach or the cumulative effect approach.

The Retained Earnings account is comprised of:

Multiple Choice

• cash reinvested in the business by shareholders.

• cash retained in the business.

• the cumulative earnings less dividends since the inception of the corporation.

• the earnings of the corporation for the current year.

In a common-size balance sheet, each balance sheet account is expressed as a percentage of total:

Multiple Choice

• shareholders’ equity.

• assets plus shareholders’ equity.

• assets.

• liabilities.

Answer 1

For Question no 1, expense is a part of cost that has been used up for consumption or production. The expense is paid out of the earnings of the company. Expense will directly decrease the retained earnings which is a part of the owner's equity. In short an expense will directly decrease the owner's equity. However, Revenues on the other hand bring in capital to the company and help in increasing the owner's equity. Hence the correct option is the third one.

For question no 2...Under Cumulative approach, the entity shall adjust the comparative information to apply the new accounting policy prospectively from the earliest date practicable. It does not specify any specific number of years like three of five years. Hence option 1 is Not true and hence the right answer.

For question no 3, Retained earnings by definition is the cumulative earnings that the company has earned and retained till date in the balance sheet after paying all the dividends to the stakeholders. This is the actual surplus that the company has with them for reinvesting in the business at a later date. hence the correct answer is third option - the cumulative earnings less dividends since the inception of the corporation.

For question no 4, a common size balance sheet is the one where all the line items are expressed as a percentage of a common base. This helps in analyzing the performance between companies or between different time periods of the same company. Further, in a balance sheet the golden rule is that Assets = Liabilities + Shareholder's capital/equity. Accordingly, a common size balance sheet is always expressed as a percentage of the total assets. The correct answer s option C.