Test Your Financial Literacy
from January/February 2006
Here’s a sample of the 25 questions Roman Weil and Katherine Schipper of the University of Chicago business school put together to test board members’ financial literacy. We have resisted our usual impulse to turn jargon and other verbiage into plain English, since plain English isn’t necessarily the mother tongue of accountants. See below left for the correct answers. Get half or more right and you’re probably financially literate. If you want to know for sure, take the full quiz at gsbwww.uchicago.edu/survey/financialliteracy.html .
1. The accounting for inventories in the U.S. can be based on either LIFO or FIFO. Which of the following statements describes LIFO and FIFO accounting under U.S. GAAP?
a. LIFO inventory accounting always results in lower financial-statement income.
b. LIFO inventory accounting always reduces income taxes paid for a given period.
c. A company must use either LIFO or FIFO for all its inventories. It is not legal under tax law to use LIFO for some inventories and FIFO for others.
d. A company that uses LIFO must display the difference between the costs of beginning and ending inventories as reported and the costs of inventories that would have been reported had the company been using FIFO (or current cost).
2. Which of the following accurately describes restructuring charges?
a. They have no specific GAAP definition.
b. They can include estimated employee termination costs, costs to terminate operating leases, asset impairments, and plant-closing costs.
c. They are tax-deductible as soon as management records the charges.
d. They can be reversed, so that income is increased in one or more years after the company recognizes the charges.
3. If a company uses the indirect method for the Statement of Cash Flows (SCF), which of the following is true?
a. The SCF lists cash receipts from customers.
b. The SCF shows cash spent for acquiring other companies,
in the statement’s financing section.
c. The SCF shows stock issued to acquire other companies.
d. The SCF shows the change in accounts receivable.
4. An asset impairment:
a. Requires that management measure and report the impaired asset at its fair value.
b. Provides for an immediate tax deduction.
c. Is an operating use of cash on the Statement of Cash Flows.
d. Can be reversed if management later finds that the asset has recovered its value.
5. “Retained earnings” on the balance sheet usually refers to:
a. Cash and other liquid assets, generated by income, with which the company can pay dividends.
b. The assets, liquid and illiquid, generated by income, that the company can distribute as dividends.
c. Part of the company’s owners’ claims to net assets of the company.
d. None of the above.
6. Which of the following will properly be labeled a “reserve” in the financial statements?
a. A cash fund the company uses to pay insurance claims.
b. An estimate of the liability for warranty repairs promised
at the time of sale.
c. Both a and b.
d. Neither a nor b.
Answers: 1. d; 2. a, b, d; 3. b, d; 4. a; 5. c; 6. b
