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2 pages/≈550 words
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3
Style:
APA
Subject:
Accounting, Finance, SPSS
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Essay
Language:
English (U.S.)
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MS Word
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$ 9.36
Topic:
Investing and Operating Activities
Essay Instructions:
1. When a firm incurs costs on an item to be used in operations, management must decide whether to treat the cost as an asset or an expense. Assume that a company used cash to acquire machinery expected to contribute to the generation of revenues over a three year period and the company erroneously expensed the cost to acquire the machine. Describe the effects on ROA of the error over the three year period. Explain how the error would affect the statement of cash flows. How might one be able to spot such an error by inspecting financial ratios over those three years?
2. Goodwill is an intangible asset that firms report on their balance sheets as a result of acquiring other firms. Goodwill generally has an indefinite life and should not be amortized, but it should be tested for impairment at least annually. Describe the procedures prescribed by U.S. GAAP and IFRS to test for goodwill impairment. How do these procedures differ from the procedure followed for testing the impairment of a patent, which is an intangible asset with a definite life?
3. Software companies often bundle upgrades and technical support services with their software. Assume that a software company promises to automatically deliver upgrades for two years when a customer purchases software costing $100. Describe how the software company should determine the amount of revenue to recognize at the date of sale and subsequent to the date of sale.
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Investing And Operating Activities
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Question 1
Effects on ROA of the Error Period
Erroneous expense reporting of machinery costs that ought to have been capitalized has an impact on a company's ROA over a three-year period. Choiriyah et al. (2021) state that the formula for calculating ROA is to divide net profit after taxes by total assets. Both the denominator (average total assets) and the numerator (adjusted net income) of ROA would decline equally in the first year. Since net income is far lower than average total assets, the numerator's percentage drop would be higher, leading to an understatement of ROA. In the third, depreciation is not reported since the machinery is not capitalized, boosting net income and ROA. As a result of fewer expenses in later times, ROA would be artificially higher.
Error Effect on the Statement of Cash Flows
The error does not affect the actual cash flow, but it does affect the classification of cash flows in the statement of cash flows. When a machine is expensed, there is no expense for depreciation recognized, leading to a decrease in cash flows from operational activities. Expensing the machinery will result in a loss in income from operations, but it will not have an impact on the cash flows from investment activities. Nevertheless, had the machinery been accurately documented, the cash flows from investment activities would have been affected.
Identifying Errors in Financial Ratios
Analyzing individual financial ratios on a periodic basis and monitoring their fluctuations over time is performed to identify emerging patterns in a corporation (Bloomenthal, 2024). Profitability ratios can be used as a method to detect flaws in financial measures. If the company's profitability measurements, such as gross profit margin or operating profit margin, do not conform to industry standards despite a high return on assets (ROA), it may suggest the presence of an accounting error as time passes. In addition, Efficiency Ra...
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