Which of the following statements about violations of the clean surplus relationship is the least accurate? A) Net income is correct but book value needs to be adjusted. B) The minimum liability adjustment in pension accounting may result in a violation of the clean surplus relationship. C) The ROE forecast will not be accurate if the clean surplus violations are not expected to offset in future years. D) Changes in market value of securities classified as available for sale may result in a violation of the clean surplus relationship.
c
A
A by elimination
A.
note to self- stop ignoring residual income. i need to study this tomorrow. i have no idea. SS12 and 13, you will have my attention tomorrow.
A
bannisja Wrote: ------------------------------------------------------- > note to self- stop ignoring residual income. i > need to study this tomorrow. i have no idea. > SS12 and 13, you will have my attention tomorrow. Same boat. Must have missed the section on clean surplus relationship somehow…
ok…all those selecting A care to expand???
B - A portion of the MLA flows through to the statement of comp income = violation C - If gains and losses in comprehensive income offset each other over the long run the ROE forecasts will be accurate. Don’t know if I’m explaining that right. D - Unrealized losses in AVS securites flow directly to statement of comp income = violation A - Incorrect - Certain losses/gains have bypassed the income statement and directly impacted the balance sheet (ie, book value). Not sure if that helps, but that was my thought process.
Thanks for the question mumu, this is testable stuff for sure! I’ll take a second stab at it now that I reviewed the LOS. The clean surplus relationship essentially holds if the book value of the current period equals the BV of the previous period plus earnings, minus dividends, and minus any ownership transactions. This relationship is necessary in order to use the residual income model. Problems arise with this when charges hit the equity account but bypass the income statement. Examples given by CFAI are: 1. foreign currency adjustments 2. some pension adjustments 3. value changes in some financial instruments Strait from the LOS: “[From the perspective of residual income valuation] … in all of these cases, the book value of equity is stated accurately, but net income is not.” So I’ll get on board with answer “A” which says the opposite of this so it would be the wrong one. There is some more information explaining why letter “C” is OK but I am still reviewing it and don’t feel like typing it all out 
ozzy, dwight… thanks a ton.it makes sense… all this while I was just thinking about it in a different way…which is too complicated to explain… but I get it now …and hopefully everyone else who also answered C gets it! thanks again!