P23-9 (continued)
1. (continued)
c. The error from 2009 was counterbalanced
at the end of 2010, so it can be ignored.
2. a. See Requirement 1.a. of this solution for the incorrect entries that were
made and the correct entries that should have been made.
b. The error from 2010 was counterbalanced by
the end of 2011, so it can be ignored.
P23-10
2009 2010
1. Reported net income $27,000 $35,000
Subtract ending inventory overstatement (5,000) (2,000)
2. 2011
Jan. 1 Retained Earnings 4,300
P22-13
ANDERSON CORPORATION
Worksheet to Correct Net Income
Net Income Ending Prepaid
Unearned
Accrued
Accrued
Explanation 2008 2009 2010 2011 Inventory Expense
Revenues
Expense
Revenues
Uncorrected net income
2008: Inventory undervalued
Prepaid expense omitted
Accrued expense omitted
Corrected amounts
$10,000
4,000
600
(300)
$14,300
$12,000
(4,000)
(600)
300
$ 4,900
$15,000
$16,100
$20,000
$23,850
$1,000
$900
$200
$350
$800
Retained earnings, 12/31/2011, uncorrected $50,000
P23-11
P22-14
CASK COMPANY
Schedule to Analyze Effects of Errors
Income 2008
Income 2009
Income 2010
Balance Sheet
Dec. 31, 2010
Amount
Explanation Debit Credit Debit
Credit Debit
Credit Debit
Credit Account
1.
Sales tax accrual omitted:
December 31, 2008
2,000a
2,000
aThe correct sales tax expense for 2008 is $12,000 ($200,000 x 6%). Since $10,000 was recorded in 2008, the correcting amount
is $2,000. However, this $2,000 would have been recorded by the company in 2009, so the total recorded sales tax expense
of $15,000 includes only $13,000 for sales made in 2009. Therefore the correct balance of $18,000 ($300,000 x 6%) is obtained
P23-12
23-39
P23-13 (AICPA adapted solution)
1. GRAY COMPANY
Worksheet to Reconcile Income Before Income Taxes
Year Ended December 31,
2011 2010
Income before income taxes, before adjustments $4,030,000 $3,330,000
Net adjustments 52,000 (180,000)
Income before income taxes after adjustments $4,082,000 $3,150,000
Schedule 1:
Computation of Adjusted Depreciation
Schedule 2:
Computation of Effect of Change in Accounting
Principle From Expensing to Capitalizing
P23-13 (continued)
2. GRAY COMPANY
Cumulative Effect of Change in Accounting Principle
From Expensing to Capitalizing Relining Costs (Pretax)
As of January 1, 2011
Capitalization of Furnace A in 2010 $280,000
P23-14 (AICPA adapted solution)
1. (1) Allowance for Uncollectible Accounts 10,000
(2) Unrealized Decline in Value of
Securities Available for Sale 16,000
(3) Retained Earnings 4,000
Cost of Sales 2,100
(4) Equipment 12,000
Operating Expenses 1,100
(5) Accumulated Depreciation: Equipment 17,500
P23-14 (continued)
1. (continued)
(6) Prepaid Expenses 900
Operating Expenses 900
(7) Common Stock 60,000
2. INGALLS CORPORATION
Computation of Corrected Net Income
For Years Ended December 31, 2011 and 2010
2011 2010
Reported income $220,000 $195,000
Change in accounts receivable loss
ANSWERS TO CASES
C23-1
1. The financial statements for prior periods included for comparative purposes are
presented as previously reported.
2. The cumulative effect of changing to the new accounting principle on the amount of
23-42
C23-1 (continued)
3. Income before extraordinary items and net income computed on a pro forma basis is
4. The effect of the change on income before extraordinary items and on net income
(including earnings per share data) of the period of the change is disclosed in the
notes to the financial statements.
The use of a cumulative effect adjustment is advantageous because it is consistent with
It is sometimes difficult to distinguish between a change in accounting principle and a
change in accounting estimate because a given change may involve both. However,
GAAP specifies that a change in accounting estimate that is recognized in whole or in
part by a change in accounting principle are reported as a change in estimate because
the cumulative effect attributable to the change in principle is inseparable from the
current or future effects of the change in estimate.
C23-2 (AICPA adapted solution)
1. A change in accounting principle results from adoption of a generally accepted
accounting principle different from the one used previously for reporting purposes. A
C23-2 (continued)
1. (continued)
A change in accounting principle is recognized by including the cumulative effect of
changing to a new accounting principle in net income of the period of the change. The
amount of the cumulative effect is the difference between (a) the amount of retained
2. A change in accounting estimate occurs as new events occur, as more experience is
acquired, or as additional information is obtained.
3. A change in reporting entity is a special type of change in accounting principle that
results in financial statements, which, in effect, are those of a different reporting entity.
C23-3 (AICPA adapted solution)
1. Berkeley’s change in depreciation method is a change in accounting principle. This
change in accounting principle shows the cumulative effect of a change in accounting
principle in net income of the period of change, and the pro forma effects of retroactive
23-44
C23-3 (continued)
1. (continued)
Berkeley’s change in the specific subsidiaries comprising the group of companies for which
2. Consistent use of accounting principles from one accounting period to another enhances
the utility of financial statements to users by facilitating analysis and understanding of
C23-4
1. The conflicting requirements of using prior period adjustment for a mandatory change in
accounting principle due to newly issued GAAP and using a cumulative effect adjustment
C23-5 (AICPA adapted solution)
Situation I:
1. A change in the depreciable lives of fixed assets is a change in accounting estimate.
2. In accordance with generally accepted accounting principles, the change in estimate
should be reflected in the current period and in future periods. Unlike a change in
C23-5 (continued)
Situation II:
1. The change from reporting the investment in Patten using the cost method to using a
consolidated financial statement basis is a change in reporting entity. The change in
reporting entity is actually a change in accounting principle, but the APB excluded this
change from the general category to give it special reporting procedures.
2. A change in reporting entity is effected and disclosed by restating all prior period financial
Situation III:
1. The change in the method of computing depreciation for all fixed assets (previously
recorded and future acquisitions) represents a change in accounting principle.
2. Accordingly, the cumulative effect of the change is reflected in the current-year financial
statements, and the financial statements included for comparative purposes are
presented as previously reported.
3. As a result of the change to straight-line, the current-year statement of financial position
23-46
C23-5 (continued)
Situation III 3. (continued)
4. Additionally, the nature of and justification for the change is also disclosed in the notes to
the financial statements.
C23-6 (AICPA adapted solution)
1. A change from the sum-of-the-years-digits depreciation method to the straight-line
method for fixed assets is a change in accounting principle. The concept of consistency
presumes that an accounting principle, once adopted, should not be changed in
accounting for events and transactions of a similar type. A change is permissible only if
the enterprise justifies the preferability of an alternative acceptable accounting principle.
2. When pro forma disclosure is required for an accounting change, the pro forma amounts
C23-7
Note to Instructor: This case does not have a definitive answer. You may wish to provide
the following as an overview for your students. Although auditors are not explicitly required
to detect fraud, in the Enron case there is some evidence that Arthur Andersen was
C23-7 (continued)
From an ethical perspective, there is evidence of some conflicts of interest and some
errors made by some employees of Arthur Andersen. However, at worst, a very small
proportion of Andersen employees were involved. In evaluating whether the actions of
the Department of Justice were fair, one should consider, for instance, whether the
C23-8
Note to Instructor: This case does not have a definitive answer. From a financial reporting
perspective, GAAP is identified and summarized. From an ethical perspective, various
issues are raised for discussion purposes. This case could be used in conjunction with C10-
11.
From a financial reporting perspective, the issues involve the selection of a depreciation
method and the accounting for “repair” costs. Accounting principles allow for judgment
on these issues and it is expected that professional judgment be exercised. More
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C23-8 (continued)
From an ethical perspective, the issue involves whether the change in depreciation
method is justified and whether the repair cost was inappropriately capitalized to reduce
the effect on income. The primary stakeholders are the company’s current and potential
stockholders and creditors. If the net income amount is not grounded in economic reality,