CFA Level 1 - Financial Reporting & Analysis Flashcards

Question 1

What are the three primary financial statements?

Accepted Answer

The Income Statement, Balance Sheet, and Cash Flow Statement. These statements provide a comprehensive view of a company's financial performance and position.

Question 2

What is the fundamental accounting equation?

Accepted Answer

The fundamental accounting equation is $Assets = Liabilities + Equity$. This equation forms the basis of the Balance Sheet and must always remain in balance.

Question 3

Identify the main components of an Income Statement.

Accepted Answer

The main components include Revenues, Expenses, Gains, Losses, and Net Income (or Loss). It reports a company's financial performance over a specific period.

Question 4

What are the three main sections of the Cash Flow Statement?

Accepted Answer

The three main sections are Cash flow from Operating Activities, Investing Activities, and Financing Activities. These categorize the sources and uses of cash.

Question 5

Explain the difference in LIFO inventory costing between IFRS and GAAP.

Accepted Answer

**IFRS:** Prohibits the use of LIFO (Last-In, First-Out). Companies must use FIFO or Weighted Average. **GAAP:** Permits the use of LIFO.

Question 6

How do IFRS and GAAP differ regarding the revaluation of Property, Plant, and Equipment (PPE)?

Accepted Answer

**IFRS:** Allows for the revaluation model (upward revaluation to fair value) for PPE, provided the entire class of assets is revalued regularly. **GAAP:** Generally prohibits the revaluation of PPE upwards; assets are carried at historical cost less accumulated depreciation (cost model).

Question 7

Define the Current Ratio and its significance.

Accepted Answer

The Current Ratio measures a company's short-term liquidity. It is calculated as $Current \: Assets \div Current \: Liabilities$. A higher ratio generally indicates a better ability to meet short-term obligations.

Question 8

What does the Debt-to-Equity ratio indicate?

Accepted Answer

The Debt-to-Equity ratio measures a company's financial leverage, indicating the proportion of equity and debt used to finance assets. It is calculated as $Total \: Debt \div Total \: Equity$. A higher ratio implies greater reliance on debt financing.

Question 9

How is Net Profit Margin calculated, and what does it represent?

Accepted Answer

Net Profit Margin is calculated as $(Net \: Income \div Revenue) 	imes 100\%$. It represents the percentage of revenue left after all expenses, including taxes and interest, have been deducted, indicating overall profitability.

Question 10

What is the purpose of the Inventory Turnover ratio?

Accepted Answer

Inventory Turnover measures how efficiently a company manages its inventory. It is calculated as $Cost \: of \: Goods \: Sold \div Average \: Inventory$. A higher ratio generally suggests efficient inventory management and less obsolete inventory.

Question 11

Briefly describe the five-step model for revenue recognition under IFRS 15 / ASC 606.

Accepted Answer

1. Identify the contract with a customer. 2. Identify the separate performance obligations in the contract. 3. Determine the transaction price. 4. Allocate the transaction price to the separate performance obligations. 5. Recognize revenue when (or as) the entity satisfies a performance obligation.

Question 12

Explain the FIFO (First-In, First-Out) inventory costing method.

Accepted Answer

FIFO assumes that the first units purchased or produced are the first ones sold. In periods of rising costs, FIFO results in a higher ending inventory value and lower COGS, leading to higher reported net income.

Question 13

Explain the Weighted Average inventory costing method.

Accepted Answer

The Weighted Average method calculates the average cost of all inventory available for sale during a period. This average cost is then used to determine the cost of goods sold and the value of ending inventory.

Question 14

What are the key differences between the direct and indirect methods for preparing the operating activities section of the Cash Flow Statement?

Accepted Answer

Both methods yield the same net cash flow from operating activities. The **direct method** shows major classes of gross cash receipts and payments. The **indirect method** starts with net income and adjusts for non-cash items and changes in working capital accounts.

Question 15

What is the significance of classifying assets and liabilities as current vs. non-current on the Balance Sheet?

Accepted Answer

This classification helps assess a company's liquidity and solvency. Current assets are expected to be converted to cash or used within one year (or operating cycle); current liabilities are due within one year. Non-current items have longer horizons.

Question 16

Define the Quick Ratio (Acid-Test Ratio) and its formula.

Accepted Answer

The Quick Ratio is a more stringent measure of liquidity than the current ratio. It excludes inventory from current assets, as inventory can be less liquid. Formula: $(Cash + Marketable \: Securities + Accounts \: Receivable) \div Current \: Liabilities$.

Question 17

What is the Interest Coverage Ratio and what does it measure?

Accepted Answer

The Interest Coverage Ratio measures a company's ability to meet its interest obligations. It is calculated as $EBIT \div Interest \: Expense$. A higher ratio indicates a company can more easily pay its interest expenses.

Question 18

How do IFRS and GAAP treat research and development (R&D) costs?

Accepted Answer

**IFRS:** Research costs are expensed as incurred. Development costs may be capitalized if specific criteria (e.g., technical feasibility, intent to complete) are met. **GAAP:** Generally requires all R&D costs to be expensed as incurred, with limited exceptions (e.g., software development costs after technological feasibility is established).

Question 19

What is the Price-to-Earnings (P/E) Ratio and what does it imply?

Accepted Answer

The P/E Ratio is a valuation metric calculated as $Share \: Price \div Earnings \: Per \: Share$. It indicates how much investors are willing to pay per dollar of earnings, reflecting market expectations for future growth and profitability.

Question 20

What is the primary difference in how IFRS and GAAP treat extraordinary items?

Accepted Answer

**IFRS:** Does not permit the classification of items as "extraordinary." All unusual or infrequent items are reported as part of continuing operations. **GAAP:** Historically allowed for extraordinary items (unusual AND infrequent) to be reported separately, net of tax, below discontinued operations. However, GAAP has largely eliminated this distinction with ASU 2015-01.

Question 21

How do IFRS and GAAP differ in their treatment of investment property?

Accepted Answer

**IFRS:** Allows companies to choose between the cost model or the fair value model for investment property. If the fair value model is chosen, changes in fair value are recognized in profit or loss. **GAAP:** Generally requires investment property to be accounted for under the cost model (historical cost less depreciation), similar to PPE.

CFA Level 1 - Financial Reporting & Analysis

Cards in this deck

Related Flashcard Sets

CFA Level 1 - Financial Statement Analysis & Reporting Standards

CFA Level 1 - Financial Reporting & Analysis (FRA)

CFA Level 1 - Time Value of Money & Financial Reporting

CFA Level 1 - Quantitative Methods & Financial Reporting Analysis