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Australian accounting part 1 and 2

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Australian accounting part 1 and 2

Chapter 14
Student: ___________________________________________________________________________
1. In a convertible note, AASB 132 Financial Instruments: Recognition and Measurement requires the holder of such a financial instrument to present the liability component and the equity component separately on the statement of financial position.

True False

2. For a designated cash flow hedge, AASB 139 Financial Instruments: Recognition and Measurement requires the gain or loss on the hedging instrument to be transferred initially to equity and subsequently to profit or loss to offset the gains or losses on the hedged item.

True False

3. An entity that holds a well diversified portfolio of shares and wishes to use futures to protect its investments for possible downturns should enter into a sell position in a futures contract.

True False

4. In a convertible note, the embedded option to convert the liability into the equity of the issuer has a fair value of zero on initial recognition when the option is out of the money.

True False

5. Derivative instruments generally result in a transfer of the underlying primary financial instrument on maturity of the contract.

True False

6. Under AASB 9, an entity is required to recognise a financial asset or liability on its statement of financial position when, and only when, it becomes a party to the contractual provisions of the instrument.

True False

7. A key characteristic of a financial instrument is that it involves the ultimate transfer of an equity instrument.

True False

8. It has been common practice to keep derivative financial instruments ‘off balance sheet’:

True False

9. An equity instrument of another entity is classified as a ‘financial instrument’.

True False

10. AASB 132 does not apply to obligations arising under insurance contracts.

True False

11. The central issue in classifying a financial liability is the existence of a present obligation.

True False

12. Once a financial instrument has been classified as a liability in the statement of financial position, under AASB 132 the reporting entity is not permitted to reclassify it unless a specific transaction or other specific action by the holder or issuer of the instrument alters the substance of the financial instrument.

True False

13. An entity that has taken a buy position in a futures contract on a particular item will make a gain when the price of the item decreases.

True False

14. A put option on a company’s shares entitles the holder to buy that company’s shares at a future time for a specified price.

True False

15. Companies may be motivated to enter into a foreign currency swap in order to hedge receivables held in the currency of the loan, the obligations of which they will undertake in the swap.

True False

16. Compound instruments contain both a financial liability and equity component but exclude convertible notes.

True False

17. The most commonly issued equity instrument would be a redeemable preference share.

True False

18. Derivatives are sometimes called ‘secondary’ financial instruments.

True False

19. A change in classification of a financial instrument may occur as a result of ‘revised probabilities’ of, for example, conversion.

True False

20. When initially recognising the liability and equity components of a compound financial instrument, gains and losses arise and must be recognised.

True False

21. When financial instruments are issued that are to appear in the statement of financial position the issuer is required to determine whether the item should be disclosed as a liability or as equity.

True False

22. When offsetting financial assets and liabilities an entity must settle on a net basis.

True False

23. AASB 132 defines a financial instrument as:

A. any commitment that gives rise to either a financial asset or a financial liability of the reporting entity.

B. any contract that gives rise to both a financial asset of one entity and a financial liability or equity instrument of another entity.

C. any commitment that ultimately gives rise to an equity instrument of the reporting entity.

D. any contract that gives rise to both a financial asset of one entity and a financial liability or equity instrument of the same entity.

24. According to AASB 132, which of the following are considered to be financial assets?

A. an equity instrument of another entity

B. a futures contract for the delivery of a product or service

C. a prepayment

D. a futures contract for the delivery of a product or service and a prepayment

25. A derivative financial instrument is one which:

A. creates a contractual link between two entities such that the financial asset or equity item of one entity becomes the financial liability of the other entity and there is a transfer of risks and returns.

B. creates rights and obligations that have the effect of transferring one or more of the financial risks inherent in an underlying primary financial instrument, and the value of the contract normally reflects changes in the value of the underlying financial instrument.

C. creates a contractual link between a secondary financial instrument and a primary financial instrument such that there is an ultimate transfer of a financial asset between the contracting parties.

D. creates rights and obligations that have the effect of transferring the financial returns inherent in an underlying primary financial instrument, and the value of the contract normally reflects changes in the value of the underlying financial instrument.

26. Which of the following are examples of derivative financial instruments?

A. deferred tax and future income tax benefits

B. mortgage loans

C. participating, redeemable preference shares

D. share options

27. Which of the following are examples of primary financial instruments?

A. futures contracts

B. unearned revenue

C. accrued rent

D. unearned revenue and accrued rent

28. In differentiating between a financial liability and equity, the report preparer must consider:

A. the existence of a contractual obligation to deliver cash or another financial asset.

B. the consequences of recording a financial liability and the associated impacts on profit.

C. the substance of the agreement over its form.

D. the existence of a contractual obligation to deliver cash or another financial asset and the substance of the agreement over its form.

29. Financial instruments have recently been developed and used for what purposes?

A. increasing the volatility of primary financial instruments

B. making speculative gains

C. reducing risks

D. making speculative gains and reducing risks

30. A compound financial instrument is one that:

A. transfers the risks of a primary instrument to another entity.

B. effectively contains a financial liability and equity instrument.

C. ultimately requires the exchange of a financial asset for an equity instrument.

D. offers interest terms such that interest is paid on interest.

31. What is hedging?

A. It is a method of leveraging returns when a company has foreign currency receivables or payables or has outstanding commitments that will be affected by changes in market prices.

B. It is a system for investing in financial instruments such that the entity is guaranteed increased returns and lower risks.

C. It is any activity, entered into by the entity, designed to increase returns and reduce risk.

D. It is an action taken with the object of avoiding or minimising possible adverse effects of movements in things such as exchange rates or market prices.

32. Golden Doors enters into a forward exchange rate contract to purchase US$300 000 on 1 September at a rate of A$1 = US$0.69. On 2 September Golden Doors takes delivery of inventory from its US supplier at a price of US$300 000. On 2 September A$1 = US$ 0.65. Calculate the amount Golden Doors would have paid on 2 September in A$ if it had not entered into the forward exchange rate contract, and any gain or loss it has made (rounded to the nearest dollar).

A. cost in A$434 782; loss of $134 782

B. cost in A$434 782; loss of $26 756

C. cost in A$461 538; gain of $161 538

D. cost in A$461 538; gain of $26 756

33. The structure of futures contracts as they are traded in Australia is best described in which of the following?

A. All parties that trade in futures make a (relatively small) specific deposit before they enter into the contract. The contract is marked to market on a daily basis and gains on the contract are added to the deposit and losses are deducted. When the deposit reaches a minimum level a margin call will be made to require the trader to reinstate the original deposit.

B. The purchaser of the futures contract is given a set price at which they can exercise the futures contract at or up to a specified date. If during that time or up to that date the buyer of the futures contract decides to exercise it, the buyer pays the exercise price and the seller of the contract agrees to deliver the item within a specified period of the exercise date. In the case of financial futures, they are often closed out before delivery is required.

C. All buyers of futures contracts make a specific deposit that is held in trust by the other party to the contract. As the buyer makes gains, these are deducted from the amount of deposit held by the seller. As the seller makes gains on the contract, the buyer is required to increase the deposit to maintain the same percentage value of deposit. At the delivery date on the contract the deposit has already accumulated the gains and losses and all that is required is for the seller to deliver on the contract. In the case of financial futures, they are often closed out before delivery is required.

D. A futures contract contains an agreement to buy and sell a specified item or financial asset or index at a future date and at an agreed price. The parties to the contract are not required to make any financial commitment at the beginning of the contract, hence futures contracts are considered highly levered and risky for speculation purposes. The buyer pays the agreed sum on delivery by the seller or the contract is closed out before the delivery date.

34. Catchup Company buys a contract in SPI futures, taking a buy position on 1 April 2013 to ‘take delivery’ on 30 May 2013. A unit contract in SPI futures is priced at the All Ordinaries SPI multiplied by $25. On 1 April the All Ordinaries SPI is 2950. By 1 May the index has dropped to 2600 and Catchup decides to close out the contract. What is Catchup’s gain or loss on the futures contract?

A. gain of $22

B. loss of $8750

C. loss of $350

D. gain of $8750

35. Pigeon Ltd holds a well-diversified portfolio of shares with a current market value on 1 May 2014 of $900 000. On this date Pigeon Ltd decides to hedge the portfolio by taking a sell position in ten SPI futures units. The All Ordinaries SPI is 2980 on 1 May 2014. A unit contract in SPI futures is priced based on All Ordinaries SPI and a price of $25. The futures broker requires a deposit of $1500. On 30 June the All Ordinaries SPI has fallen to 2570 and the value of the company’s share portfolio has fallen to $790 000. What is the gain or loss on the futures contract and the net gain or loss after hedging?

A. loss on futures contract $102 500; net gain after hedging $6000

B. gain on futures contract $10 250; net loss after hedging $99 750

C. gain on futures contract $102 500; net loss after hedging $7500

D. gain on futures contract $164; net loss after hedging $109 836

36. Partridge Ltd holds a well-diversified portfolio of shares with a current market value on 1 April 2014 of $1 million. On this date Partridge Ltd decides to hedge the portfolio by taking a sell position in 15 SPI futures units. The All Ordinaries SPI is 3130 on 1 April 2014. A unit contract in SPI futures is priced based on All Ordinaries SPI and a price of $25. The futures broker requires a deposit of $80 000. On 30 June the All Ordinaries SPI has fallen to 2980 and the value of the company’s share portfolio has fallen to $950 000. What are the appropriate journal entries to record these events?

A.

B.

C.

D.

 

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