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

• Question 2141:

  New Gestalt, Inc., a software firm had a net income of 1.7 million last year. It has 200,000 common shares and 300,000 convertible bonds with face value of 100 outstanding. The convertible bonds carry a coupon of 4% and can be converted one-for-one. The average stock price last year was 39 and the maximum price was 57. The effective interest rate on the convertible debt is 8%. New Gestalt issued 100,000 preferred shares with face value 100 and a coupon of 5% on March 31st of last year. Assume the convertible bonds are dilutive and that New Gestalt faces a 30% tax rate. Given the above, if New Gestalt had 300,000 warrants with a strike of 36 outstanding instead of the convertible bonds, its Diluted EPS would equal ________.

  A. 5.94

  B. 5.24

  C. 6.62

  D. 4.91

  Correct Answer: A

  For Diluted EPS with warrants, numerator = net income - preferred dividends = 1.7 million - 375,000 = 1,325,000. Using the Treasury stock method, the additional shares due to warrant exercise = 300,000*(1 36/39) = 23,077. Total number of shares used in Diluted EPS = 200,000 + 23,077 = 223,077. Therefore, Diluted EPS = 1,325,000/223,077 = 5.94.

• Question 2142:

  If a firm's asset turnover were to increase by 10% and the tax rate were to increase from 35% to 40%, leaving all else constant, the resultant change in the firm's ROE equals ________.

  A. -2.3%

  B. -1.9%

  C. +1.5%

  D. -1.1%

  Correct Answer: C

  ROE = Net income/Equity. Using the Extended duPont System, = (EBT/sales)*(sales/total assets)*(total assets/equity)*(1-tax rate) The asset turnover ratio equals sales/total assets. Therefore, ROE(after)/ROE (before) = [asset turnover(after)/ asset turnover(before)*]*[0.6/0.65] = 1.1*0.6/0.65 = 1.015. Thus, the ROE increases by 1.5%.

• Question 2143:

  An entry made to recognize the cost of using an asset during the period is

  A. a closing entry

  B. a reversing entry

  C. an opening entry

  D. an adjusting entry

  Correct Answer: D

  Expenses should be recognized in the period in which they are incurred. In order to be consistent with the matching principle, an adjusting entry must be made to record the expense of using certain assets.

• Question 2144:

  The weighted average method is based on the assumption that the cost of merchandise sold should be calculated using the:

  A. average price of beginning inventory plus purchases during the period

  B. average price per unit of ending inventory

  C. average price of ending inventory plus purchases during the period

  D. average price per unit of beginning inventory

  Correct Answer: A

  Under the weighted average method, inventory is priced at the average cost of the goods available for sale (Beginning inventory plus purchases during the period).

• Question 2145:

  When the weighted average method is used, ending inventory units are priced at the:

  A. average price

  B. none of these answers

  C. lower of cost or market

  D. earliest price

  Correct Answer: A

  Under the weighted average method, inventory is priced at the average cost of the goods available for sale (Beginning inventory plus purchases during the period).

• Question 2146:

  According to GAAP classification of cash flows, all of the following are financing cash flows except:

  A. share repurchase.

  B. interest paid on new debt.

  C. losses on debt retirement.

  D. dividends paid out.

  Correct Answer: B

  Interest payments and receipts are classified as operating cash flows.

• Question 2147:

  New Gestalt, Inc., a software firm had a net income of 1.7 million last year. It has 200,000 common shares and 300,000 convertible bonds with face value of 100 outstanding. The convertible bonds carry a coupon of 4% and can be converted one-for-one. The average stock price last year was 39 and the maximum price was 57. The effective interest rate on the convertible debt is 8%. New Gestalt issued 100,000 preferred shares with face value 100 and a coupon of 5% on March 31st of last year. Assume the convertible bonds are dilutive and that New Gestalt faces a 30% tax rate. The number of shares used in Basic EPS equals ________.

  A. 600,000

  B. 575,000

  C. 500,000

  D. 200,000

  Correct Answer: D

  Basic EPS considers only the weighted number of common stock outstanding. Therefore, number of shares used in Basic EPS = 200,000.

• Question 2148:

  Which of the following best describes a statement of shareholders equity?

  A. A statement of shareholders equity measures a company's financial performance over a specified period of time.

  B. A statement of shareholders equity details the cash inflows and outflows that are related to a company's operating, investing, and financing activities over a period of time.

  C. None of these answers.

  D. A statement of shareholders equity reports changes over a period of time in component accounts that comprise the ownership of a firm.

  E. A statement of shareholders equity summarizes the financial position of a company at a given point in time.

  Correct Answer: D

  The statement of shareholders equity reports changes in component accounts that comprising equity of a firm. This statement is useful in identifying reasons for changes in shareholders' claims on the assets of a company.

• Question 2149:

  The GAAP require inventory to be valued using ________.

  A. Lower of market or cost

  B. LIFO or FIFO

  C. LIFO

  D. FIFO

  Correct Answer: A

  Inventory valuation is a balance sheet consideration and is distinct from the calculation of COGS, which is an income statement item. US GAAP requires that inventory valuation be carried out using the lower of cost or market. The "cost" is determined by the inventory costing method chosen, like LIFO or FIFO. If the market value of the inventory falls below that obtained under the inventory costing method, then the firm must take a charge against the current income and "write the inventory down." Under this scenario, the basic inventory equation, Ending inventory = Beginning inventory + Purchases - COGS no longer holds. If the market price rises in the subsequent period, the firm can only write-up to the original cost of the inventory under the costing method chosen. In all periods in which there is no write-up or write-down, the basic inventory equation holds true.

• Question 2150:

  The classification guidelines of SFAS 95 have not created problems for analysts of the cash flow statement in the following area

  A. differences due to some accounting methods.

  B. noncash transactions.

  C. long-term borrowings.

  D. interest and dividends received.

  E. interest paid.

  Correct Answer: C

  The classification guidelines of SFAS 95 have created problems for analysts of the cash flow statement in cash flows involving property, plant, and equipment, interest and dividends received, interest paid, noncash transactions, and differences due to some accounting methods.