CFA Institute CFA Institute Certifications CFA-LEVEL-1 Questions & Answers

• Question 2031:

  Which of the following is/are true?

  I. A simple capital structure is one that does not include any common stock equivalents or dilutive contingent securities.

  II. A firm with common stock, preferred equity and debt can be considered to have a simple capital structure.

  III.

  Any security that is dilutive must be included in the calculation of Diluted EPS.

  A.

  I and II

  B.

  II and III

  C.

  I, II and III

  D.

  I only

  Correct Answer: C

  A simple capital structure consists of only common stock and non-convertible senior securities while a complex structure is one which contains potentially dilutive securities. Since there is no contingent conversion associated with straight, preferred equity, it is considered to be a part of a simple capital structure. Finally, only dilutive securities i.e. securities that do not increase earnings or decrease losses are included in the calculation of DEPS. Anti-dilutive securities are ignored in the calculations.

• Question 2032:

  The current economic environment is one of steady inflation. A firm uses historical cost accounting. Which of the following is/are true?

  I. The firm's book value is overstated.

  II. The firm's depreciation expense is understated.

  III. The firm's tax expense is overstated.

  IV.

  The firm's net income is understated.

  A.

  II and IIIs tax expense is overstated.

  IV. The firm's net income is understated.

  B.

  I and IV

  C.

  I and III

  D.

  I, II and IV

  Correct Answer: A

  Since the assets are carried at historical values which are lower than the current asset values due to inflation, the depreciation expense is understated. Therefore, income is overstated, leading to an overstatement of taxes. Historical cost accounting in inflationary environment implies that the asset values are understated.

• Question 2033:

  In a period of rising prices, the inventory method that gives the lowest possible value for ending inventory is:

  A. gross profit

  B. LIFO

  C. FIFO

  D. weighted average

  Correct Answer: B

  The ending inventory under LIFO is priced at the earliest, and thus the lowest prices (in a period of rising prices) than any of the other methods.

• Question 2034:

  The cash spent on replacing operating capacity used up in the normal course of business is classified as:

  A. investing cash flow.

  B. operating cash flow.

  C. either operating cash flow and investing cash flow.

  D. financing cash flow.

  Correct Answer: A

  Operating cash flow does not include cash outlays for replacement of depreciation of capacity. The cash used for this purpose is classified as an investment cash flow.

• Question 2035:

  Typical features attached to preferred stock include all of the following except:

  A. Demand redemption rights.

  B. Dividend distribution preferences.

  C. Liquidation priorities.

  D. Non-voting rights.

  Correct Answer: A

  Preferred shareholders hold a security that looks very similar to a bond, but they are very rarely allowed to demand redemption of their shares. On the other hand, many bonds are callable.

• Question 2036:

  Which of the following types of receivables is generally the most liquid?

  A. Trade receivables

  B. Receivables due from affiliated companies

  C. None of these answers

  D. Notes receivable

  E. Receivables due from corporate officers

  Correct Answer: A

  Trade receivables are generally the most liquid type of receivable because they are generated from the sale of the firm's goods or services. Other forms of receivables are less liquid because the terms of repayment may vary such as the case with those due from corporate officers and/or affiliated companies. Of particular interest is notes receivable. The analyst should take care to understand the terms of these arrangements.

• Question 2037:

  Morgan Inc. was organized on January 2, 1997 with the following capital structure: 10% cumulative preferred stock, par value $100 and liquidation value $105; authorized, issued and outstanding 1,000shares, $100,000 Common stock, par value $25; authorized 100,000 shares; Issued and outstanding 10,000 shares, $250,000 Morgan had net income of $450,000 for its first year, but no dividends were declared. How much was Morgan's book value per preferred share at December 31, 1997?

  A. $100

  B. $145

  C. $110

  D. $115

  E. $105

  Correct Answer: D

  The book value per share of cumulative preferred stock is its liquidation value plus any dividends in arrears. Thus, the book value per preferred share is the $105 liquidation value plus $10 ($100 X 10%) of dividends in arrears, or $115.

• Question 2038:

  Which of the following is not a current liability?

  A. Notes Payable

  B. Wages Payable

  C. Allowance for Uncollectible Accounts

  D. Unearned Revenue

  Correct Answer: C

  Allowance for Uncollectible Accounts is a contra account to Accounts Receivable, both of which are reported in the current asset section of the balance sheet.

• Question 2039:

  Stock dividends have the greatest impact on which section of the balance sheet?

  A. the components of stockholders' equity

  B. total stockholders' equity

  C. total assets

  D. total assets and total stockholders' equity

  E. retained earnings

  Correct Answer: A

  The effect of stock dividends is recorded by transferring part of the retained earnings to the contributed capital accounts. Because of the increase in contributed, it is often described as capitalizing retained earnings.

• Question 2040:

  A common-size balance sheet consists of which of the following?

  A. Expressing all items on the balance sheet as a percentage of total capital.

  B. Expressing all items on the balance sheet as a percentage of total sales.

  C. Expressing all items on the balance sheet as a percentage of total assets.

  D. None of these answers.

  E. Expressing all items on the balance sheet as a percentage of total liabilities.

  Correct Answer: C

  Expressing all items on the balance sheet as a percentage of total assets allows the analyst to review several years of balance sheets at a glance and to determine the relative changes that have taken place within balance sheet accounts.