# Thread: Sample CFA Level 2 question bank for June 2013 exam

1. Solutions to Item set for 5-April:

1. Correct Answer is C: Interest coverage ratio = EBIT/Interest = (600-300+60)/50 = 360/50 = 7.2.
2. Correct Answer is C: Return on equity = 330/2,570 = 12.84%. On expensing, the net income will decrease by 240,000*(1-0.4) = \$144,000. The ROE is calculated at the beginning value of equity. So, it will not be impacted because of that. ROE = (330-144)/2,570 = 7.23%.
3. Correct Answer is C: Net profit margin = Net income/Revenue = 186/1,200 = 15.50%.
4. Correct Answer is A: The cash flow from investment would have increased by \$300,000.
5. Correct Answer is A: The cash flow from operating activities would have decreased by \$300,000 – (300,000-60,000)*0.4 = \$204,000.
6. Correct Answer is C: Statement 3 is incorrect. The net income would be higher in later years and lower in the current year.

2. Item set for 6-April (Financial Reporting and Analysis):

Danny Klucka Case Scenario

Danny Klucka is an analyst with Marcus Investments. He is looking at the financial statements of Circat Inc. Circat Inc. bought a machine at \$300,000 for its operations. The accumulated depreciation of the machine is \$50,000 so far. The expected undiscounted future cash flows for the machine are \$240,000. The value in use for the machine is \$250,000. The selling cost for the machine is \$20,000. The fair value of the machine is \$220,000. Circat Inc. is following U.S. GAAP for its reporting purposes.

His colleague, Sarah, asks him about the impact of impairment on various financial ratios and tax payment. Danny makes the following statements:

Statement 1: An impairment of an asset would lead to higher asset turnover in the subsequent years after the impairment
Statement 2: An impairment of an asset would lead to decrease in tax payment in the year of impairment
Statement 3: An impairment of an asset would lead to a lower asset base in the subsequent years after the impairment

Circat Inc. also had impaired an asset held for sale 3 months ago. An impairment loss of \$3,500 was reported in the income statement. Now the fair value of the asset has again risen up by \$4,500 and also the cost to sell has also increased by \$1,500.

Sarah asks Danny about the impact of capitalizing an asset on the various ratios. Danny makes the statements which are summarized in Exhibit 1.

Exhibit 1

 Ratios Year of capitalization Subsequent years Return on assets Higher Lower Debt to equity ratio Lower Higher Interest coverage ratio Higher Lower

Circat Inc. had depreciated an asset using a straight-line method of depreciation. The asset was bought at \$50,000 and had a total estimated useful life of 10 years. Now, after 4 years, the carrying value of asset is 34,000. Now, the management has decided to increase the total salvage value by \$4,000.

1. What is the total impairment loss reported by Circat Inc. for the machine?
a) \$10,000
b) \$20,000
c) \$30,000

2. What would have been total impairment loss reported by Circat Inc. under IFRS?
a) \$50,000
b) \$30,000
c) No loss

3. Which of the following statements made by Danny is least likely to be correct about the impact of impairment on financial ratios and tax payment?
a) Statement 1
b) Statement 2
c) Statement 3

4. What is the total upward revaluation done by Circat Inc. for the asset held for sale?
a) 0
b) \$3,000
c) \$3,500

5. Which of the entries in Exhibit 1 is least likely to be correct?
a) Return on assets
b) Debt to equity ratio
c) Interest coverage ratio

6. What is the depreciation of the machine in the 5th year?
a) \$5,000
b) \$4,000
c) \$3,333

3. Sol for 6th April

1. B
2. A
3. C
4. A
5. C
6. B

4. @Konvexity:- The questions are really of good standard. I would like to know about your initiatives like classroom classes, study materials etc. Also, these questions are completely design by your team members ??

5. Solutions to Item set for 6-April:

1. Correct Answer is C: Under U.S. GAAP, total impairment loss = carrying value – fair value = 250,000 – 220,000 = \$30,000.
2. Correct Answer is C: Under IFRS, total impairment loss = carrying value – recoverable amount. Recoverable amount = higher of fair value minus selling costs or value in use = 250,000. Impairment loss = 250,000 – 250,000 = 0.
3. Correct Answer is B: Statement 2 is incorrect. An impairment of an asset would have no impact on tax payment. It will decrease the DTL.
4. Correct Answer is B: Total upward revaluation = Change in the value of asset limit to the earlier impairment losses = 4,500 – 1,500 = \$3,000.
5. Correct Answer is B: Debt to equity ratio is lower in both year of capitalization and in the subsequent years.
6. Correct Answer is C: Salvage value = 50,000 - (50,000 – 34,000)*(10/4) = \$10,000. Depreciation in 5th year = (34,000 – 14,000)/6 = \$3,333.33.

6. Item set for 7-April (Financial Reporting and Analysis):

Steve Wiggs Case Scenario

Steve Wiggs, CFA, is an analyst at Wickerman Investments. He is analyzing the financial statements of a company, Texas Ryders. The company has acquired a stake of 80% in Nozil Corporation. Texas Ryders had paid \$560 million for the stake. The abridged balance sheet of Nozil Corporation just before the acquisition is given in Exhibit 1.

Exhibit 1
Nozil Corporation (in millions of US dollars)

 Current Assets 310 Noncurrent Assets 750 Goodwill 80 Current Liabilities 120 Noncurrent Liabilities 420 Stockholders' Equity 600

Both companies, Texas Ryders and Nozil Corporation, are following U.S. GAAP for reporting purpose. All the values in Exhibit 1 are book values. The fair value of noncurrent assets is \$150 million more than the book value.

Steve Wiggs converts the financial statements of Texas Ryders according to IFRS as he has to compare it with the other companies following IFRS.

Steve also finds out that in the recent financial statement, Texas Ryders has reported the impairment losses. He checks the recent financial statements of Nozil Corporation and extracts out the important information which is presented in Exhibit 2.

Exhibit 2
Nozil Corporation (in millions of US dollars)

 Fair value of equity 540 Fair value of net assets 520

Ryan Herbert, another analyst at the same firm, asks Steve about the impact of using different approaches of reporting goodwill on the financial ratios and other financial entries. Steve Wiggs makes the following statements:

Statement 1: Under full goodwill approach, the minority interest is lower as compared to the partial goodwill approach
Statement 2: Under full goodwill approach, the asset turnover ratio is lower as compared to the partial goodwill approach
Statement 3: Under partial goodwill approach, the return on equity is higher as compared to the full goodwill approach

Ryan Herbert says that there are three methods by which companies can report the acquisition of other company on their balance sheet. The three methods are proportionate consolidation method, equity method, and acquisition method. He asks Steve two questions.

Question 1: What is the return on equity using proportionate consolidation method as compared to other two methods?
Question 2: Which of the methods lead to the highest net income?

1. What is the amount of goodwill Texas Ryders should report as goodwill in its consolidated balance sheet on acquiring the stake of Nozil Corporation if it follows full goodwill approach?
a) \$30 million
b) \$60 million
c) \$180 million

2. What is the amount of goodwill reported in the consolidated balance sheet of Texas Ryders if it follows partial goodwill approach?
a) \$24 million
b) \$60 million
c) \$144 million

3. Which of the following statements made by Steve Wiggs regarding the comparison of full goodwill approach and partial goodwill approach is least likely to be correct?
a) Statement 3
b) Statement 2
c) Statement 1

4. What is the total impairment of goodwill reported by Nozil Corporation on its balance sheet?
a) \$4 million
b) \$10 million
c) \$20 million

5. What is the answer to Question 1 asked by Ryan Herbert?
a) Greater than equity method and lesser than acquisition method
b) Same as equity method and greater than acquisition method
c) Lesser than equity method and greater than acquisition method

6. What is the answer to Question 2 asked by Ryan Herbert?
a) Equity method
b) Acquisition method
c) All three methods yield the same net income

7. Sol for 7th April

1. a
2. c
3. b
4. b
5. c
6. c

8. 7th April

1. B
2. A
3. C
4. B
5. C
6. B

9. Solutions to Item set for 7-April:

1. Correct Answer is A: Fair value of assets = 310 + (750+150) = 1,210. Fair value of liabilities = 120+420 = 540. Fair value of net assets = 1,210 – 540 = 670. Purchase price for the company = 560/0.8 = 700. Total goodwill = 700 – 670 = \$30 million.
2. Correct Answer is A: Goodwill under partial goodwill method = 0.8*Full goodwill = 0.8*30 = \$24 million.
3. Correct Answer is C: Statement 1 is not accurate. The minority interest is higher under full goodwill approach as compared to the partial goodwill approach.
4. Correct Answer is B: Implied fair value of goodwill = 540 – 520 = \$20 million. Goodwill impairment = Carrying value of goodwill minus the implied fair value of goodwill = 30 – 20 = \$10 million.
5. Correct Answer is B: The ROE of proportionate consolidation method and equity method will be same and the ROE of both will be higher than that of acquisition method.
6. Correct Answer is C: Net income will be same under all the three methods.

10. Item Set for 8-April (Financial Reporting and Analysis):

Will Brown Case Scenario

Will Brown is an accountant in Vickery Inc. His primary job is to prepare annual financial statements for the company which can be presented to the stakeholders. Vickery Inc. is a US based company and it has a 100% owned subsidiary in Greece. The subsidiary is Mickey Inc. It started its operations at the beginning of 2012. The functional currency of Mickey Inc. is USD and it has to present its financial statements in Euro. The presentation and functional currency of Vickery Inc. is USD. The income statement and balance sheet for Mickey Inc. for year ending 2012 are given in Exhibit 1.

Exhibit 1
Balance Sheet (in thousands of Euros)

 As of 31 December 2012 Cash and cash equivalents 320 Accounts receivable 280 Inventory 450 Total current assets 1,050 Property, plant, and equipment 1,950 Less: Accumulated depreciation 100 Total assets 2,900 Accounts payable 250 Total current liabilities 250 Long-term debt 1,480 Total liabilities 1,730 Common Stock 1,020 Retained earnings 150 Total shareholders' equity 1,170 Total liabilities and shareholders' equity 2,900

Income Statement and Statement of Retained Earnings (in thousands of Euro)
 For the year ended December 31 2012 Sales 1,800 Cost of goods sold 750 Depreciation 100 SG&A 350 Interest expense 150 Income tax expense 180 Net income 270 Less: Dividends , 15 November 2012 120 Retained earnings, 31 December 2012 150

The company also reports the following information in its notes to financial statements:
The inventory is measured at historical cost on a FIFO basis.

Brown gathers the information about the exchange rates throughout the year to translate the financial statements of Mickey Inc. into USD. The information is provided into Exhibit 2.

Exhibit 2
Exchange rates

 Date USD per Euro 1 January 2012 1.18 Average, 2012 1.22 Weighted average rate when inventory was acquired 1.20 15 November 2012 1.23 31 December 2012 1.24

13. What is the total retained earnings for Mickey Inc. after currency translation to USD in 2012?
a) \$118,200
b) \$183,000
c) \$200,800

14. What is the net income for Mickey Inc. after currency translation to USD in 2012?
a) \$265,800
b) \$112,400
c) \$93,400

15. What is the value of total current assets for Mickey Inc. after currency translation at the end of 2012?
a) \$1,302,000
b) \$1,284,000
c) \$1,272,800

16. What is the value of total liabilities for Mickey Inc. after currency translation at the end of 2012?
a) \$2,145,200
b) \$2,115,600
c) \$2,056,400

17. What is the value of fixed asset turnover for Mickey Inc. after currency translation for the year 2012?
a) 0.954
b) 1.006
c) 1.040

18. What is the value of operating profit margin for Mickey Inc. after currency translation for the year 2012?
a) 25.86%
b) 27.40%
c) 34.20%

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