22-1
CHAPTER 22
Accounting Changes and Error Analysis
ASSIGNMENT CLASSIFICATION TABLE (BY TOPIC)
Topics
Questions
Brief
Exercises
Exercises
Problems
Concepts
for Analysis
1. Differences between change in
2, 4, 6, 7,
8
3
1, 2, 3, 4
2. Accounting changes:
a. Comprehensive.
3, 6, 7
1, 2, 4, 5
b. Changes in estimate,
changes in depreciation
methods.
8, 9
4, 5, 9
16, 17
for long-term construction
2, 10
1, 2, 10
1, 8, 13
3
1, 2
d. Change from FIFO
2, 8, 14
3
e. Change from FIFO to LIFO.
2, 11
9
1, 2
f. Change from LIFO.
8
3
2, 3, 5,
2, 5
3, 4, 6, 7,
8, 9, 10,
11, 12,
1, 2, 4,
6, 7
1, 2, 3,
4, 5, 6
8, 14
g. Miscellaneous.
1, 3, 4,
5, 8
8, 9, 10
1, 5
3. Correction of an error.
a. Comprehensive.
8, 14, 15,
17, 19
8, 9, 10
20, 21
2, 18, 21
6, 7
9, 15,
17, 18
1, 6, 8
9, 16, 20
7, 17, 18
2, 10
1, 2
8, 15, 16,
18, 19,
3, 6, 7, 8,
9, 10
2, 3, 4
*4. Changes between fair value and
equity methods.
11, 12
22, 23
11, 12
8, 9, 12, 13,
15, 21
22-2
ASSIGNMENT CLASSIFICATION TABLE (BY LEARNING OBJECTIVE)
Learning Objectives
Brief
Exercises
Problems
1. Identify the types of accounting changes.
4. Understand how to account for impracticable
changes.
5. Describe the accounting for changes
in estimates.
4, 5, 9
1, 2, 3,
4, 6
7, 8, 9, 10
8. Identify economic motives for changing
accounting methods.
9. Analyze the effect of errors.
6, 7, 8,
9, 10
2. Describe the accounting for changes
in accounting principles.
1
3. Understand how to account for retrospective
1, 2, 3,
1, 2, 3, 4, 5,
2, 3, 5
22-3
ASSIGNMENT CHARACTERISTICS TABLE
Item
Description
Level of
Difficulty
Time
(minutes)
E22-1
Change in principle—long-term contracts.
Moderate
10–15
E22-2
Change in principle—inventory methods.
Moderate
10–15
E22-9
Error and change in estimate—depreciation.
Simple
15–20
E22-10
Depreciation changes.
Moderate
20–25
E22-11
Change in estimate—depreciation.
Simple
10–15
E22-12
Change in estimate—depreciation.
Simple
20–25
E22-13
Change in principle—long-term contracts.
Simple
10–15
E22-14
Various changes in principle—inventory methods.
Moderate
20–25
E22-15
Error correction entries.
Simple
15–20
E22-16
Error analysis and correcting entry.
Simple
10–15
E22-17
Error analysis and correcting entry.
Simple
10–15
E22-18
Error analysis.
Moderate
25–30
E22-19
Error analysis and correcting entries.
Simple
20–25
E22-20
Error analysis.
Moderate
20–25
E22-21
Error analysis.
Moderate
10–15
*E22-22
Change from fair value to equity.
Complex
25–30
*E22-23
Change from equity to fair value.
Moderate
15–20
P22-1
Change in estimate and error correction.
Moderate
30–35
P22-2
Comprehensive accounting change and error analysis problem.
Complex
30–40
P22-3
Error corrections and accounting changes.
Complex
30–40
P22-4
Accounting changes.
Moderate
40–50
P22-5
Change in principle—inventory—periodic.
Moderate
30–35
P22-6
Accounting changes and error analysis.
Moderate
25–30
P22-7
Error corrections.
Moderate
25–30
P22-8
Comprehensive error analysis.
30–35
P22-9
Error analysis.
Moderate
20–25
Error analysis and correcting entries.
Complex
50–60
*P22-11
Fair value to equity method with goodwill.
Moderate
20–25
*P22-12
Change from fair value to equity method.
Moderate
20–25
CA22-1
Analysis of various accounting changes and errors.
Moderate
25–35
CA22-2
Analysis of various accounting changes and errors.
Moderate
20–30
CA22-3
Analysis of three accounting changes and errors.
Moderate
30–35
CA22-4
Analysis of various accounting changes and errors.
Moderate
20–30
CA22-5
Change in principle, estimate.
Moderate
20–30
CA22-6
Change in estimate, ethics.
Moderate
20–30
E22-3
Accounting change.
25–30
E22-4
Accounting change.
25–30
E22-5
Accounting change.
30–35
E22-6
Accounting changes—depreciation.
30–35
E22-7
Change in estimate and error; financial statements.
Moderate
25–30
E22-8
Accounting for accounting changes and errors.
Simple
SOLUTIONS TO CODIFICATION EXERCISES
CE22-1
Master Glossary
(a) A change that has the effect of adjusting the carrying amount of an existing asset or liability or
altering the subsequent accounting for existing or future assets or liabilities. A change in accounting
(b) A change from one generally accepted accounting principle to another generally accepted
accounting principle when there are two or more generally accepted accounting principles that
apply or when the accounting principle formerly used is no longer generally accepted. A change
in the method of applying an accounting principle also is considered a change in accounting
principle.
CE22-2
According to FASB ASC 250-10–50-7 (Accounting Changes and Error Corrections—Disclosure):
When financial statements are restated to correct an error, the entity shall disclose that its previously
issued financial statements have been restated, along with a description of the nature of the error. The
entity also shall disclose both of the following:
22-5
CE22-3
According to FASB ASC 250-10–45-5 (Accounting Changes and Error Corrections—Other Presentation
Matters):
An entity shall report a change in accounting principle through retrospective application of the new
accounting principle to all prior periods, unless it is impracticable to do so. Retrospective application
requires all of the following:
CE22-4
According to FASB ASC 250-10–S99-4 (Accounting Changes and Error Corrections—SEC Materials):
Question 5: If a registrant justified a change in accounting method as preferable under the circum–
stances, and the circumstances change, may the registrant revert to the method of accounting used
before the change?
ANSWERS TO QUESTIONS
1. The major reasons why companies change accounting methods are:
(a) Desire to show better profit picture.
2. (a) Change in accounting principle; retrospective application is generally not made because it is
impracticable to determine the effect of the change on prior years. The FIFO inventory amount
is therefore generally the beginning inventory in the current period.
3. The three approaches suggested for reporting changes in accounting principles are:
(a) Currently—the cumulative effect of the change is reported in the current year’s income as
a special item.
4. The FASB believes that the retrospective approach provides financial statement users the most
useful information. Under this approach, the prior statements are changed on a basis consistent
with the newly adopted standard; any cumulative effect of the change for prior periods is recorded
as an adjustment to the beginning balance of retained earnings of the earliest period reported.
5. The indirect effect of a change in accounting principle reflects any changes in current or future
cash flows resulting from a change in accounting principle that is applied retrospectively. An
6. A change in an estimate is simply a change in the way an individual perceives the realizability of
an asset or liability. Examples of changes in estimate are: (1) change in the realizability of trade
receivables, (2) revisions of estimated lives, (3) changes in estimates of warranty costs, and
(4) change in estimate of deferred charges or credits. A change in accounting estimate effected
by a change in accounting principle occurs when a change in accounting estimate is inseparable
Questions Chapter 22 (Continued)
7. This is an example of a situation in which it is difficult to differentiate between a change in account-
ing principle and a change in estimate. In such a situation, the change should be considered a
8. (a) Charge to expense—possibly separately disclosed.
(b) Change in estimate that is effected by a change in accounting principle—currently and
prospectively.
9. This change is to be handled as a correction of an error. As such, the portion of the change
attributable to prior periods ($23,000) should be reported as an adjustment to the beginning
10. Preferability is a difficult concept to apply. The problem is that there are no basic objectives to
indicate which is the most preferable method, assuming a selection between two generally accepted
11. When a company changes to the LIFO method, the base-year inventory for all subsequent LIFO
calculations is the beginning inventory in the year the method is adopted. This assumes that prior
years’ income is not changed because it would be too impractical to do so. The only adjustment
necessary may be to adjust the beginning inventory from a lower-of-cost-or-market approach to a
cost basis. This establishes the beginning LIFO layer.
12. Where individual company statements were reported in prior years and consolidated financial
statements are to be prepared this year, the following reporting and disclosure practices should
be implemented:
13. This change represents a change in reporting entity. This type of change should be reported by
restating the financial statements of all prior periods presented to show the financial information
Questions Chapter 22 (Continued)
14. Counterbalancing errors are errors that will be offset or corrected over two periods. Non-
15. A correction of an error in previously issued financial statements should be handled as a prior–
period adjustment. Thus, such an error should be reported in the year that it is discovered as an
2012. When the error was discovered in a subsequent period, the appropriate entry to record the
correction of the error would have been (ignoring income tax effects):
Accounts Receivable ……………………………………………………………………… 40,000
Retained Earnings ………………………………………………………………….. 40,000
16. This change represents a change from an accounting principle that is not generally accepted to
an accounting principle that is acceptable. As such, this change should be handled as a
17. Retained earnings is correctly stated at December 31, 2014. Failure to accrue salaries in earlier
years is a counterbalancing error that has no effect on 2014 ending retained earnings.
18. December 31, 2013
Machinery …………………………………………………………………………………….. 6,000
Accumulated Depreciation—Machinery ……………………………………… 600
Retained Earnings ………………………………………………………………….. 5,400
19. The amortization error decreases net income by $2,700 in 2012. Interest expense related to the
discount should have been charged for $300, but was charged for $3,000. The entry to correct for
this error is as follows:
Discount on Bonds Payable …………………………………………………………….. 2,700
Interest Expense …………………………………………………………………….. 2,700
22-9
Questions Chapter 22 (Continued)
20. This error has no effect on net income because both purchases and inventory were understated.
The entry to correct for this error, assuming a periodic inventory system, is:
21. This error increases net income by $2,400 in 2012. Depreciation should have been charged to
net income. The entry to correct for this error is as follows:
22–10
SOLUTIONS TO BRIEF EXERCISES
BRIEF EXERCISE 22-1
Construction in Process ($120,000 – $80,000) ……… 40,000
Deferred Tax Liability
[($120,000 – $80,000) X 35%] …………………….. 14,000
Retained Earnings ………………………………………. 26,000
BRIEF EXERCISE 22-3
Inventory ……………………………………………………….….. 1,200,000
Deferred Tax Liability ($1,200,000 X 40%) ……… 480,000
Retained Earnings ………………………………………. 720,000
BRIEF EXERCISE 22-4
22–11
BRIEF EXERCISE 22-5
*Book value before change
Cost ……………………………………………. $74,000
Accumulated depreciation ……………. 16,000**
$58,000
**[($74,000 – $18,000) ÷ 7] X 2
BRIEF EXERCISE 22-7
BEIDLER COMPANY
Retained Earnings Statement
For the Year Ended December 31, 2012
22–12
BRIEF EXERCISE 22-8
2012
2013
a.
Overstated
Overstated
BRIEF EXERCISE 22-9
1. The change to a three-year remaining life for the purpose of computing
depreciation on production equipment is a change in estimate due to a
change in conditions.
BRIEF EXERCISE 22-10
1. Both FIFO and LIFO are generally accepted accounting principles;
thus, this item is a change in accounting principle.
c.
Understated
Overstated
Overstated
Understated
22–13
*BRIEF EXERCISE 22-11
Cash ($95,000 X 10%) …………………………………………….. 9,500
Equity Investments (Available-for-sale) ……………. 1,500
Dividend Revenue ($80,000 X 10%) ………………….. 8,000
SOLUTIONS TO EXERCISES
EXERCISE 22-1 (10–15 minutes)
(a) The net income to be reported in 2012, using the retrospective approach,
would be computed as follows:
(b) Construction in Process………………………………… 170,000
Deferred Tax Liability ($170,000 X 35%) …….. 59,500
EXERCISE 22-2 (10–15 minutes)
(a) Inventory ……………………………………………………… 11,000*
Retained Earnings ………………………………….. 11,000
22–15
EXERCISE 22-3 (25–30 minutes)
(a) RAMIREZ CO.
Income Statement
For the Year Ended December 31
LIFO
Income Statement
For the Year Ended December 31
FIFO
Sales Revenue …………………………………..
Cost of goods sold …………………………..
Operating expenses …………………………..
Net income ………………………………….
(b) RAMIREZ CO.
Income Statement
For the Year Ended December 31
2012
2011
As adjusted (Note A)
Sales Revenue …………………………………..
$4,000
$4,000
Cost of goods sold …………………………..
Operating expenses …………………………..
Net income ………………………………….
$1,900
$2,060
Sales Revenue …………………………………..
Cost of goods sold …………………………….
Operating expenses …………………………..
Net income ………………………………….
EXERCISE 22-3 (Continued)
(c) Note A:
Change in Method of Accounting for Inventory Valuation
On January 1, 2012, Ramirez elected to change its method of valuing
its inventory to the FIFO method, whereas in all prior years inventory
2012
2011
Balance Sheet
LIFO
FIFO
Difference
LIFO
FIFO
Difference
Inventory
$ 320
$ 390
$70
$ 200
$ 240
$40
Retained Earnings
6,070
6,140
70
4,200
4,240
40
Income Statement
Cost of Goods Sold
$1,130
$1,100
$1,000
Net Income
(no effect)
(d) Retained earnings statements after retrospective application.
2012
2011
Retained earnings, January 1, as reported
$2,200
method (FIFO)
Retained earnings, December 31
$6,140
$4,240
22–17
EXERCISE 22-4 (25–30 minutes)
2010
(a) Retained earnings, January 1, as reported …………….. $160,000
2013
(b) Retained earnings, January 1, as reported …………….. $590,000
Cumulative effect of change in accounting
2014
(c) Retained earnings, January 1, as reported …………….. $780,000
Cumulative effect of change in accounting
principle to average cost …………………………………… (15,000)*
EXERCISE 22-5 (30–35 minutes)
(a) CARLTON COMPANY
Income Statement
For the Year Ended
2012
2011
Sales Revenue ………………………………………….
$3,000
$3,000
Cost of goods sold ……………………………………
1,100
940
Operating expenses ………………………………….
Income before profit sharing ……………….
$ 900
$1,060
Profit sharing expense ………………………………
Net income …………………………………………
(b) The profit sharing expense reflects an indirect effect of the change in
accounting principle. Under GAAP, indirect effects from periods before
the change are recorded in the year of the change. In this case, profit
sharing expense recorded in 2012 is composed of:
(c) Retained Earnings Statement
2012
Retained earnings, January 1, as reported …………….. $8,000
22–19
EXERCISE 22-6 (30–35 minutes)
(a) Depreciation to date on equipment
Cost of equipment …………………………. $465,000
Depreciation to date ………………………. (360,000)
Book value (December 31, 2011) …….. $105,000
(b) Depreciation to date on building
$780,000/30 years = $26,000 per year
$26,000 X 3 = $78,000 depreciation to date
Cost of building …………………………….. $780,000
Depreciation to date ………………………. (78,000)
Book value (December 31, 2011) …….. $702,000
22–20
EXERCISE 22-7 (25–30 minutes)
Change from sum-of-the-years-digits to straight-line
Cost of depreciable assets …………………………………. $90,000
Depreciation in 2011 ($90,000 X 4/10) ………………….. 36,000
Book value at December 31, 2011 ……………………….. $54,000
PANNEBECKER INC.
Retained Earnings Statement
For the Year Ended
2012
2011
Retained earnings, January 1, unadjusted ……………
$125,000
Retained earnings, January 1, adjusted ……………….
$ 72,000
Add: Net income ……………………………………………….
Retained earnings, December 31 …………………………
$156,000
$105,000
Note to instructor:
1. 2011 Cost of sales increased $20,000; 2012 cost of sales decreased
$20,000. As a result, net income for 2011 is overstated $20,000 and net
income for 2012 is understated $20,000 as a result of the inventory
error.
chapter.