intermediate-accounting(fifteenth-edition)-ch22.doc

CHAPTER 22Accounting Changes and Error AnalysisASSIGNMENT CLASSIFICATION TABLE (BY TOPIC)TopicsQuestionsBriefExercisesExercisesProblemsConcepts for Analysis1.Differences between change in principle, change in estimate, change in entity, errors.2, 4, 6, 7,8, 9, 12, 13, 15, 21831, 2, 3, 42.Accounting changes:a.Comprehensive.3, 6, 71, 2, 4, 5b.Changes in estimate, changes in depreciation methods.8, 94, 5, 93, 4, 6, 7, 8, 9, 10, 11, 12, 16, 171, 2, 4, 6, 71, 2, 3,4, 5, 6c.Changes in accounting for long-term construction contracts.2, 101, 2, 101, 8, 1331, 2d.Change from FIFO to average cost.2, 8, 143e.Change from FIFO to LIFO.2, 11101, 2f.Change from LIFO.832, 3, 5,8, 142, 5g.Miscellaneous.1, 3, 4, 5, 88, 9, 101, 53.Correction of an error.a.Comprehensive.8, 14, 15,17, 198, 9, 108, 15, 16, 18, 19, 20, 213, 6, 7, 8, 9, 102, 3, 4b.Depreciation.2, 18, 216, 79, 15,17, 181, 6, 8c.Inventory.9, 16, 20107, 17, 182, 101, 2*4.Changes between fair value and equity methods.11, 1222, 2311, 12*This material is dealt with in an Appendix to the chapter.ASSIGNMENT CLASSIFICATION TABLE (BY LEARNING OBJECTIVE)Learning ObjectivesQuestionsBrief ExercisesExercisesProblemsConcepts for Analysis1.Identify the types of accounting changes.2.Describe the accounting for changes in accounting principles.1, 2, 3, 41CA22-53.Understand how to account for retrospective accounting changes.5, 6, 7, 8, 9, 101, 2, 3, 9, 101, 2, 3, 4, 5, 8, 13, 142, 3, 5CA22-1, CA22-2, CA 22-3, CA22-44.Understand how to account for impracticable changes.1125.Describe the accounting for changes in estimates. 124, 5, 96, 7, 8, 9, 10, 11, 121, 2, 3, 4, 6CA22-5, CA22-66.Identify changes in a reporting entity.137.Describe the accounting for correction of errors.15, 16, 17, 18, 19, 20, 216, 7, 8, 107, 8, 9, 15, 16, 17, 18,19, 20, 211, 2, 3, 6, 7, 8, 9, 108.Identify economic motives for changing accounting methods.9.Analyze the effect of errors. 1418, 19, 20, 216, 7, 8, 9, 10*10.Make the computations and prepare the entries necessary to record a change from or to the equity method of accounting.11, 1222, 2311, 12ASSIGNMENT CHARACTERISTICS TABLEItemDescriptionLevel ofDifficultyTime(minutes)E22-1Change in principlelong-term contracts.Moderate1015E22-2Change in principleinventory methods.Moderate1015E22-3Accounting change.Difficult2530E22-4Accounting change.Difficult2530E22-5Accounting change.Difficult3035E22-6Accounting changesdepreciation.Difficult3035E22-7Change in estimate and error; financial statements.Moderate2530E22-8Accounting for accounting changes and errors.Simple510E22-9Error and change in estimatedepreciation.Simple1520E22-10Depreciation changes.Moderate2025E22-11Change in estimatedepreciation.Simple1015E22-12Change in estimatedepreciation.Simple2025E22-13Change in principlelong-term contracts.Simple1015E22-14Various changes in principleinventory methods.Moderate2025E22-15Error correction entries.Simple1520E22-16Error analysis and correcting entry.Simple1015E22-17Error analysis and correcting entry.Simple1015E22-18Error analysis.Moderate2530E22-19Error analysis and correcting entries.Simple2025E22-20Error analysis.Moderate2025E22-21Error analysis.Moderate1015*E22-22Change from fair value to equity.Complex2530*E22-23Change from equity to fair value.Moderate1520P22-1Change in estimate and error correction.Moderate3035P22-2Comprehensive accounting change and error analysis problem.Complex3040P22-3Error corrections and accounting changes.Complex3040P22-4Accounting changes.Moderate4050P22-5Change in principleinventoryperiodic.Moderate3035P22-6Accounting change and error analysis.Moderate2530P22-7Error corrections.Moderate2530P22-8Comprehensive error analysis.Difficult3035P22-9Error analysis.Moderate2025P22-10Error analysis and correcting entries.Complex5060*P22-11Fair value to equity method with goodwill.Moderate2025*P22-12Change from fair value to equity method.Moderate2025CA22-1Analysis of various accounting changes and errors.Moderate2535CA22-2Analysis of various accounting changes and errors.Moderate2030CA22-3Analysis of three accounting changes and errors.Moderate3035CA22-4Analysis of various accounting changes and errors.Moderate2030CA22-5Change in principle, estimate.Moderate2030CA22-6Change in estimate, ethics.Moderate2030SOLUTIONS TO CODIFICATION EXERCISESCE22-1Master 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 estimate is a necessary consequence of the assessment, in conjunction with the periodic presentation of financial statements, of the present status and expected future benefits and obligations associated with assets and liabilities. Changes in accounting estimates result from new information. Examples of items for which estimates are necessary are uncollectible receivables, inventory obsolescence, service lives and salvage values of depreciable assets, and warranty obligations.(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.(c)The process of revising previously issued financial statements to reflect the correction of an error in those financial statements.(d)The application of a different accounting principle to one or more previously issued financial statements, or to the statement of financial position at the beginning of the current period, as if that principle had always been used, or a change to financial statements of prior accounting periods to present the financial statements of a new reporting entity as if it had existed in those prior years.CE22-2According to FASB ASC 250-10-50-7 (Accounting Changes and Error CorrectionsDisclosure):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:(a)The effect of the correction on each financial statement line item and any per-share amounts affected for each prior period presented.(b)The cumulative effect of the change on retained earnings or other appropriate components of equity or net assets in the statement of financial position, as of the beginning of the earliest period presented.CE22-3According to FASB ASC 250-10-45-5 (Accounting Changes and Error CorrectionsOther 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:(a)The cumulative effect of the change to the new accounting principle on periods prior to those presented shall be reflected in the carrying amounts of assets and liabilities as of the beginning of the first period presented.(b)An offsetting adjustment, if any, shall be made to the opening balance of retained earnings (or other appropriate components of equity or net assets in the statement of financial position) for that period.(c)Financial statements for each individual prior period presented shall be adjusted to reflect the period-specific effects of applying the new accounting principle.CE22-4According to FASB ASC 250-10-S99-4 (Accounting Changes and Error CorrectionsSEC Materials):Question 5: If a registrant justified a change in accounting method as preferable under the circumstances, and the circumstances change, may the registrant revert to the method of accounting used before the change?Any time a registrant makes a change in accounting method, the change must be justified as preferable under the circumstances. Thus, a registrant may not change back to a principle previously used unless it can justify that the previously used principle is preferable in the circumstances as they currently exist.ANSWERS TO QUESTIONS1.The major reasons why companies change accounting methods are:(a)Desire to show better profit picture.(b)Desire to increase cash flows through reduction in income taxes.(c)Requirement by Financial Accounting Standards Board to change accounting methods.(d)Desire to follow industry practices.(e)Desire to show a better measure of the companys income.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.(b)Correction of an error and therefore prior period adjustment; adjust the beginning balance of retained earnings.(c)Increase income for litigation settlement, assuming it was not accrued.(d)Change in accounting estimate; currently and prospectively. Part of operating section of income statement.(e)Reduction of accounts receivable and the allowance for doubtful accounts.(f)Change in accounting principle; retrospective application to prior period financial statements.3.The three approaches suggested for reporting changes in accounting principles are:(a)Currentlythe cumulative effect of the change is reported in the current years income as a special item.(b)Retrospectivelythe cumulative effect of the change is reported as an adjustment to retained earnings. The prior years statements are changed on a basis consistent with the newly adopted principle.(c)Prospectivelyno adjustment is made for the cumulative effect of the change. Previously reported results remain unchanged. The change shall be accounted for in the period of the change and in subsequent periods if the change affects future periods.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 example is the change in payments to a profit-sharing plan that is based on reported net income. Indirect effects are not included in the retrospective application, but instead are reported in the period in which the accounting change occurs (current period).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 from the effect of a related change in accounting principle. An example would be switching from capitalizing advertising expenditures to expensing them if the future benefit of the expenditures can no longer be estimated with reasonable certainty.Questions Chapter 22 (Continued)7.This is an example of a situation in which it is difficult to differentiate between a change in accounting principle and a change in estimate. In such a situation, the change should be considered a change in estimate, and accordingly, should be handled currently and prospectively. Thus, all costs presently capitalized and viewed as providing doubtful future values should be expensed immediately, and costs currently incurred should also be expensed immediately.8.(a)Charge to expensepossibly separately disclosed.(b)Change in estimate that is effected by a change in accounting principlecurrently and prospectively.(c)Charge to expensepossibly separately disclosed.(d)Correction of an error and reported as a prior period adjustmentadjust the beginning balance of retained earnings.(e)Change in accounting principleretrospective application to all affected prior-period financial statements.(f)Change in accounting estimatecurrently 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 balance of retained earnings in the 2014 financial statements. If statements for previous years are presented for comparative purposes, these statements should be restated to correct for the error. The remainder of the inventory value ($29,000) should be reported in the 2014 income statement as a reduction of materials cost.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 accounting practices is possible, such as completed-contract and percentage-of-completion. If a FASB standard creates a new principle or expresses preference for or rejects a specific accounting principle, a change is considered clearly acceptable. A more appropriate matching of revenues and expenses is often given as the justification for a change in accounting principle.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:(1)The financial statements of all prior periods presented should be restated to show the financial information for the new reporting entity for all periods.(2)The financial statements of the year in which the change in reporting entity is made should describe the nature of the change and the reason for it.(3)The effect of the change on income before extraordinary items, net income, and earnings per share amounts should be disclosed for all periods presented.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 for the new reporting entity for all periods. The financial statements of the year in which the change in reporting entity is made should describe the nature of the change and the reason for it. The effect of the change on income before extraordinary items, net income, and earnings per share amounts should be disclosed for all periods presented.Questions Chapter 22 (Continued)14.Counterbalancing errors are errors that will be offset or corrected over two periods. Non-counterbalancing errors are errors that are not offset in the next accounting period. An example of a counterbalancing error is the failure to record accrued wages or prepaid expenses. Failure to capitalize equipment and record depreciation is an example of a noncounterbalancing error.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 adjustment to the beginning balance of retained earnings. And, if comparative statements are presented, the prior periods affected by the error should be restated. The disclosures need not be repeated in the financial statements of subsequent periods.As an illustration, assume that credit sales of $40,000 were inadvertently overlooked at the end of 2014. 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 Receivable40,000Retained Earnings40,00016.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 correction of an error. Thus, in the 2014 statements,