Reference no: EM132483333

Point 1: Comfy Home is a retail business selling a broad range of homeware, kitchen, and electrical appliances to consumers and small businesses. In addition to the home and kitchen appliances, Comfy Home makes and sells home decorating items including artisanal candles and holiday arrangements. The company has two stores located in the small city of Warmtown, USA. Its downtown store offers decorating services to the banks and small businesses in the vicinity. Tenisa Singh handles the candle making and decorating side of the business while Randolf Singh manages the stores. The business is wholly owned by Tenisa and Randolf Singh and was started by the couple in 2014. Comfy Home uses US GAAP for accounting purposes.

Point 2: Randolf learned from his financial advisor that a company just like Comfy Home sold for $1,000,000. The company is located in an adjacent city. Randolf believes Comfy Home should have a market value of at least $1,000,000. Randolf would like to ask his accountant to update Comfy Home's owners' equity balance to better reflect the current market value of the business.

Question 1: Which of the following statements regarding relevant accounting principles is correct in regards to this situation? Select all that apply.

Group of answer choices

1. The consistency principle is involved. Comfy Home's value needs to be consistently measured against those in the industry.
2. The materiality principle is involved. Because the sales price of the comparable company was material, Comfy Home should use this information to revalue its equity.
3. The relevance principle is involved. Comfy Home's accounts should be relevant to those individuals who seek to understand the financial welfare of the firm. As such, Randolf and Tenisa's equity in Comfy Home should be revalued to be the most relevant to investors.
4. The historical cost principle applies here. Under US GAAP, Tenisa and Randolf's investment should be recorded at the time of the original transaction. As such, Randolf and Tenisa's equity in Comfy Home should NOT be revalued to reflect current market values.

Question 2: During its first year in business, Comfy Home accounted for its inventory using the last in first out (LIFO) method. In the second year of business, Tenisa asks the accountant if the company can switch to first in first out (FIFO) because she recently learned FIFO will tend to increase both the value of assets and net income.

The accountant tells Tenisa that US GAAP allows a company to choose its inventory valuation method as long as it doesn't change over time without a justifiable reason. This is an example of the principle of:

Group of answer choices

1. Conservatism.
2. Relevance.
3. Consistency.
4. Reliability.

Question 3: Tenisa is SO pleased. Comfy Home has just been named to the "Best of Warmtown's" list of top businesses. From past experience, she knows that businesses named to the list experience a 20 percent increase in revenues the following year. Tenisa calls Comfy Home's accountant to share the good news. Tenisa knows that all material events that may have an impact on the future financial health of the business should be recorded.

How should the accountant record this business 'windfall' on Comfy Home's financial statements?

Group of answer choices

1. As deferred revenue - an estimate of future revenues.
2. As a prepaid asset - representing the expected return from an earlier investment in advertising.
3. As a gain - because future revenues are a result of something that happened in the current year.
4. The accountant should not record any transaction.