Questions and Answers of Accounting Financial Analysis

For several years Enron kept growing through reckless and unsuccessful global projects by:(a) Constantly overstating its earning and understating its debts.(b) Practicing mark-to-market
Enron arranged for Barclays Bank to provide $$11.4$ million for an Enron employee to acquire 3 percent of the equity capital of the SPE named Chewco, and Enron provided a $$6.6$ million
According to Enron’s Bankruptcy Examiner, the effect of Enron’s “prepay transactions” on its financial statements was:(a) Understatement of its debt.(b) Overstatement of its cash flow from
Enron Online was the biggest e-commerce entity in the world, selling over 800 different products, such as:(a) Gas and electricity.(b) Weather derivatives.(c) Metal futures.(d) All of the above.
Which of the following is a signal that a company may be using SPEs to overstate its earnings or understate its debt?(a) When references in the notes to the financial statements regarding
With its Prepay Transactions, Enron would enter into a contract to deliver a commodity in the future at a specified price. It would then sell the contract at a discount and receive cash up front. It
Which of the following is not true regarding disclosure by Enron in its financial statements?(a) Enron disclosed that it guaranteed the performance of certain of its unconsolidated affiliates in
For which of the following purposes did Enron not use its investment in Empressa Productura de Enerain (EPE) and the off balance-sheet entity LJM1?(a) To enter into a contrived sale of a percentage
Which of the following was not a signal in Enron’s financial statements of its financial problems?(a) Receivables increased as a percentage of sales.(b) Its debt-to-equity ratio decreased over
Which of the following was not a false revenue stream that was generated by Enron’s use of off-balance-sheet entities Chewco and Jedi, as identified by the Powers Report?(a) A guarantee fee.(b)
Two ways in which Enron used SPEs to overstate earnings were the abuse of mark-to-market accounting and contrived related party sales. Choose one asset that Enron used to employ both of these methods
Another way in which Enron used off balance-sheet entities to overstate earnings was via the recognition of profit on its own stock. With reference to an off-balance sheet entity discussed in the
Explain why Enron had so much debt from the time of its inception onward and explain why it was under pressure to hide this debt.
Explain how Enron used the “Prepay Transactions” to overstate CFFO.
Describe how SPE LJM1 was used to assist Enron to fictitiously recognize income on its investment in Rhythms Net Connections (RHYTHMS).
Explain why vague references to off-balance-sheet entities or unconsolidated affiliates in notes to a company’s financial statements or in its MD&A may be a signal that a company could be engaging
Bronto Company invested in 10,000 shares in Saurus Company, which it purchased in June 2012 for $$1$ per share, before Saurus went public. On December 1, 2012, Saurus Company went public, and by
Power Company acquires 80 percent of the shares (80 shares) in Emperor Company for $$20$ million on January 1, 2012. On December 31, 2012, Power Company forms an unconsolidated partnership named P2
Sabre Company’s summarized income statements for the last three years are presented below.Requireda. Calculate the times-interest-earned ratio for years 1–3.b. Comment on Sabre Company’s times
On January 1, Khaan Company obtained a $30,000 loan from Raptorex Company. The loan terms specify that the loan amount must be repaid on three specific repayment dates by the issue of shares in
The SEC maintained that when communicating with investors and financial analysts, Adelphia misrepresented the extent to which it had upgraded its cable plant.True/False
According to the SEC’s AAER 1555, Edison disclosed the existence and amount of its District-Paid Expenses, but did not properly offset them from revenues.True/False
The intermingling of a company’s assets or liabilities with personal assets or liabilities of its major shareholders, officers, or directors is a signal of poor internal control.True/False
Krispy Kreme’s growth was too rapid with the addition of many new franchised stores at the expense of existing franchises.True/False
Same-store revenue for Krispy Kreme was growing much more slowly than parent company revenue.True/False
BellSouth is presented in the text as an example of the improper disclosure of non-GAAP information.True/False
Krispy Kreme was suffering from a lack of controls, procedures, and resources, but its business was experiencing an explosive growth.True/False
Krispy Kreme’s internally appointed independent investigation into its business practices concluded that the company’s accounting errors were intentional.True/False
In the recording of Krispy Kreme’s roundtrip transactions, equipment sales were made to a franchisee shortly before the reacquisition of the franchise and the sales price of the equipment was
Krispy Kreme also failed to accrue the full amount of incentive compensation expense in accordance with the company’s incentive plan.True/False
In the case of Edison Schools, Inc., its inadequate disclosure did not affect the amount of net ____________ it reported.
Edison’s practice was to report the gross amount of the fee per student as its ____________in its income statement.
In the ____________case, the issue was that it did not accurately and completely describe the realities of its operations in its MD & A.
It was not clear that the revenue in the income statement needed to be reported net of the district-paid expenses for those cases in which Edison was not the primary ____________.
According to the SEC, Adelphia purchased land from members of the Rigas family in terms of a contract in which a clause stated that the ____________ rights to the land would revert back to the owner
It is important for users of financial statements to be aware of different ____________ methods and to question why one method was ____________ rather than another.
According to the SEC, Telcel recorded a disbursement in its books and records based on invoices.
It is ___________ for a company to merely abide by the letter of the law if this inadvertently leads to the dissemination of ___________ information.
Adelphia, its subsidiaries, and the Rigas Entities all deposited and withdrew cash from a joint cash management system called ___________.
____________ debt was taken off Adelphia’s books, and new debt was taken ____________ without being reported on the balance sheet.
Edison Schools is presented in the chapter as an example of:(a) Failure to disclose related-party transactions.(b) Inadequate disclosures in its Management Discussion and Analysis (MD&A).(c) Improper
Which of the following correctly describes the SEC’s finding against Edison?(a) Edison’s revenue recognition practices did not contravene GAAP, but failed to present an accurate picture of the
Which of the following is not true regarding the SECs allegations against Adelphia?(a) The company concealed rampant selfdealing by the family that founded and controlled Adelphia.(b) The company
In the criminal trial of founder John J. Rigas and his son Timothy Rigas, prosecutors alleged that the Rigas family:(a) Siphoned $100 million from Adelphia.(b) Hid $2.3 billion in debt.(c)
Adelphia’s overstatement of its number of cable subscribers in its 10-K reports:(a) Is an example of a revenue recognition practice that contravenes GAAP.(b) Caused it to overstate its earnings.(c)
According to the SEC, BellSouth’s improper accounting for foreign payments in contravention of the Foreign Corrupt Practices Act (FCPA) included all of the following, except:(a) The use of
FCPA violations often consist of bribery,(a) In which the amounts involved are not in themselves material.(b) Which can have serious consequences.(c) Which is difficult to identify in financial
Krispy Kreme is presented in the text as an example of:(a) Improper accounting for related-party transactions.(b) Improper disclosure of non-GAAP financial measures.(c) Improper disclosure in its
Which of the following regarding Krispy Kreme’s round-trip transactions is not correct?(a) Krispy Kreme engaged in contrived equipment sales to franchisees.(b) The transactions inflated franchise
Krispy Kreme’s internal investigation revealed each of the following accounting errors except:(a) The misallocation of compensation expenses to franchise reacquisition costs.(b) The creation of
Is the intermingling of a company’s assets with those of a major shareholder, director, or company officer illegal? Is it unethical?Or is it both illegal and unethical? Explain your answer.
Discuss the improper accounting practices at Adelphia that were similar to the improper accounting practices at Enron.Use specific examples from each company.
In the case of Edison Schools, explain why the SEC issued an AAER even though it did not find that Edison’s revenue recognition practices did not contravene GAAP.
Explain how Adelphia misreported non-GAAP information.
Explain why an action can be taken against an issuer of financial statements in terms of the Foreign Corrupt Practices Act in respect of a suspicious payment without proving that the payment was for
Explain what is meant by a ”round-trip transaction.”
Rhodes Co. manages a school for the Old England School District. In year 1, Rhodes Co.’s first year of operating the school, the school earned per pupil fees of $$100,000.$ Rhodes is responsible
Ruby Company manages the daily operations for the human resources department of Jade Company. In terms of the contract, Ruby receives a fee of $$100$ per year for each employee on Jade’s payroll,
Crafty Company manufactures and sells printers. On the last day of the first quarter of the year, Crafty contrives with Tricky Company to sell 100 printers to Tricky Company for $$1,000$ each. In
Greasy Patties Corporation, a hamburger chain, has 100 stores. In its tenth year of operating, its total sales for year 10 amounted to $$100$ million. During year 11, Greasy Patties Corporation
The housing bubble could be described as an inflated price for houses in which a house’s price is not supported by the rents it could earn.True/False
Collateralized debt obligations consist of home loans pooled with other loans, such as car loans, credit card debt, and student loans, which are carved into tranches and securitized by the investment
Fannie Mae and Freddie Mac were established to accelerate the funding and issue of mortgage loans.True/False
Investment banks and mortgage lenders began to invest in CDSs to hedge against claims against them in the event of default on the bonds they had sold or securitized.True/False
As a result of the process of tranching, a ratings agency could give a higher credit rating to a class of securities carved from a pool of loans than would be given to other classes of securities
The term underwriting standards refers to the credit risk standards that lenders require to be met before they will grant a loan to a borrower.True/False
The Glass-Steagall Act of 1933 had separated commercial banking from investment banking, which prevented commercial banks from trading in securities.True/False
Lehman Brothers’ bankruptcy was due to the investment of its own capital into assets, such as subprime assets, Alt-A residential mortgages, and mortgage-backed securities, that incurred huge losses
The 80/20 loan is a mortgage loan whereby the borrower takes out a loan for 80 percent of the purchase price and a second loan for 20 percent of the purchase price, leaving the borrower with no
A repurchase transaction (repo) takes place when a firm sells securities for cash with the understanding that the buyer will return the securities for a specified price at a specified future
Permission granted to buy conventional mortgages, which were not government guaranteed, opened doors to the formation of new types of mortgage companies that expanded into __________ subprime loans.
In the mortgage industry, more and more nonconforming loans were purchased, pooled, and segmented into tranches of different grades of risk and then sold to investors as __________ securities.
The process in which many loans are pooled together and interests in these pooled loans are sold to investors is known as __________.
An MBS is a financial __________ that gives the owner a partial interest in a pool of mortgage loans.
In 1970, __________ _____ issued the first MBSs in the United States when it sold securities backed by its FHA and VA loans.
Before the passage of the Secondary Mortgage Market Enhancement Act of 1984, there were regulations that prohibited __________ investors from investing in mortgage-backed securities that were not
If the allowance for home loan losses does not increase when the value of the houses decrease, it is a signal that the company may be __________ the allowance for loan losses.
Tranching is a process of carving up or separating a pool of mortgages into different classes of securities that absorb different __________ losses.
Countrywide, once the largest mortgage company in the United States, was acquired by Bank of America in __________.
__________, former CEO of Countrywide, settled an SEC civil fraud case for $$67.5$ million in October 2010.
It is likely that a price bubble exists when:(a) The price of an asset increases sharply.(b) The earnings related to an asset increase sharply.(c) An asset’s price and its earnings increase
The 1968 Charter Act facilitated the granting of mortgage loans by:(a) Establishing the Federal National Mortgage Association to buy up mortgages that were guaranteed by the Federal Housing
The Secondary Mortgage Market Enhancement Act of 1984:(a) Allowed the GSEs (Fannie Mae and Freddie Mac) to sell MBSs (mortgagebacked securities) backed by FHA and VA loans.(b) Allowed institutional
A credit-default swap:(a) Is a form of derivative financial instrument.(b) Is a financial instrument that gives the holder of the instrument the right to receive payment from the writer of the
The Commodities Futures Modernization Act of 2000 and the repeal of the Glass-Steagall Act in 1999:(a) Effectively ended the separation of commercial banking from investment banking.(b) Ended the
Which one of the following statements regarding pay-option ARM loans is not correct?(a) Some borrowers of pay-option ARM loans choose to make monthly payments that are not large enough to cover the
Which one of the following statements does not describe the transformation in Countrywide’s reported loan portfolio?(a) In 2004, conventional conforming loans dropped to 38.2 percent.(b) Subprime
A shift toward riskier loans could be evidenced by disclosure of an increase in the percentage of:(a) High LTV loans.(b) Pay-option ARM loans.(c) 80/20 loans.(d) All of the above.
The indications of troubled loans include:(a) Loan delinquencies.(b) Nonperforming loans.(c) Loans with negative amortization.(d) All of the above.
Which of the following attributes of loans is not an indication of an increased risk of repayment default?(a) Conforming to GSE underwriting standards.(b) Having a loan-to-value ratio of 95 percent
Discuss the role of the government sponsored-enterprises (GSEs) in the funding and issuance of mortgage loans.
Describe the role of tranching in the granting of easy credit that fueled the housing bubble.
As the mortgage industry evolved from making loans that conformed to GSE standards to making and selling subprime loans, what were some of the changes in underwriting standards that occurred?
What is meant by negative amortization?
Explain the “reset” clause in the pay-option ARM loan agreement.
What were the main risks of pay-option ARM loans?
How were credit-default swaps expected to act as hedges against the risk of investing in mortgage-backed securities?
Murky Mortgage Corp. is a mortgage lender. The following information relates to Murky Mortgage’s portfolio of loans held for investment at December 31, 2006:What is the amount of loans held for
One of the loans included in Sloppy Mortgage Corporation’s loans at January 1, 2006, was a pay-option ARM loan of $$900,000$ taken out on January 1, 2006, when the value of the house was
Moldy Mortgage Corp. has a loan portfolio with the following loans at December 31, 2013:Moldy Mortgage wants to have an allowance for loan losses comprised of the following:0.1 percent of prime

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