Question 1

Why are retrospective adjustments to past years' income and expenses recorded directly in retained earnings?

Accepted Answer

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Question 2

Evaluate each of the following independent situations to determine the type of accounting change (correction of error,change in accounting policy,or change in estimate)and the appropriate accounting treatment (retrospective or prospective).
 $\begin{array}{c}
\begin{array}{|c}
\hline \
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\hline\text {A}\
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\hline\text {B}\
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\hline\text {C}\
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\hline\text {D}\
\
\
\hline
\end{array}
\begin{array}{|c|}
\hline \
\text {Situation}\
\hline \text {A new consumer protection law comes into}\
 \text { effect, giving buyers of electronic products a}\
 \text { guarantee against defects for 180 days after}\
 \text { purchase and the ability to return defective}\
 \text {products to the retailer. The retailer has never}\
 \text { accrued for product guarantees.}\
\hline \text {The audit firm recommends that management}\
 \text { report inventories at the lower of cost and net}\
 \text { realizable value, whereas the company has}\
 \text { previously only tracked and reported inventory}\
 \text { figures at cost.}\
\hline \text {A retailer increases bad debts expense from}\
 \text { $ 2.5 \% $ to $ 3 \% $ of credit sales.}\
\hline \text {A fashion designer decides to eet up an}\
 \text { allowance for doubtful accounts at $ 3 \% $ of}\
 \text {amounts over 90 days.}\
\hline
\end{array}
\begin{array}{l|}
\hline\text {Type of}\
\text { Change}\
\hline\
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\hline \
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\hline \
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\hline \
 \
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\hline
\end{array}
\begin{array}{l|}
\hline\text {Treat}\
\text { -ment}\
\hline\
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\hline \
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\hline \
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\hline \
 \
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\hline
\end{array}
\begin{array}{l|}
\hline\text {Explana }\
\text { -tion}\
\hline\
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\hline \
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\hline \
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\hline \
 \
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\hline
\end{array}
\end{array}$

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Question 3

How should enterprises reflect changes in accounting standards?

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Question 4

Why is the prospective treatment conceptually appropriate for changes in estimates?

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Question 5

Which statement is true regarding accounting accruals?

Accepted Answer

Accruals for the purchase of equipment involve an initial accrual to record the asset, followed by accrual reversals in the form of depreciation expense and derecognition of the asset upon disposal. A is incorrect because errors or changes in accounting policy affecting non-current items will often result in long-term follow-through changes. C and D are incorrect because operating activities typically have relatively short cash cycles, while investing and financing activities generally have longer cash cycles.

Question 6

For each of the following scenarios,determine the effects (if any)of the accounting change (correction of error,change in accounting policy,or change in estimate)on the relevant asset or liability,equity,and comprehensive income in the year of change and the prior year.Use the following table for your response:
 Prior Year$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $$\quad $Current Year
$\begin{array}{c}
\begin{array}{|l}
\hline\
\
\
\hline\text {a.}\
\hline\text {b.}\
\hline\text {c.}\
\hline
\end{array}
\begin{array}{|l}
\hline \text {Type of }\
 \text {accounting}\
 \text { change}\
\hline\
\hline\
\hline\
\hline
\end{array}
\begin{array}{|l|}
\hline\
\
\text { Treatment }\
\hline\
\hline\
\hline\
\hline
\end{array}
\begin{array}{l|}
\hline\
\text {Asset or}\
\text {liability}\
\hline\
\hline\
\hline\
\hline
\end{array}
\begin{array}{l|}
\hline\
\
\text { Equity }\
\hline\
\hline\
\hline\
\hline
\end{array}
\begin{array}{l|}
\hline\
\
\text {  Income}\
\hline\
\hline\
\hline\
\hline
\end{array}
\begin{array}{l|}
\hline\
\text {Asset or}\
\text {liability}\
\hline\
\hline\
\hline\
\hline 
\end{array}
\begin{array}{l|}
\hline\
\
\text { Equity }\
\hline\
\hline\
\hline\
\hline
\end{array}
\begin{array}{l|}
\hline\
\
\text {  Income}\
\hline\
\hline\
\hline\
\hline 
\end{array}
\end{array}$
 
a.Company A increases the allowance for doubtful accounts (ADA).Using the old estimate,ADA would have been $45,000.The new estimate is $50,000.
b.Company B omitted to record an invoice for a $10,000 sale made on credit at the end of the previous year and incorrectly recorded the sale in the current year.The related inventory sold has been accounted for.
c.Company C changes its revenue recognition to a more conservative policy.The result is a decrease in prior-year revenue by $4,000 and a decrease in current-year revenue by $5,000 relative to the amounts under the old policy.

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Question 7

During the audit of Keats Island Brewery for the fiscal year ended June 30,2018,the auditors identified the following issues:
For each of the three issues described below,using the following table,identify both the direction (increase or decrease)and the amount of the effect relative to the amount without the accounting change.
a.The company sells beer for $1 each plus $0.10 deposit on each bottle.The deposit collected is payable to the provincial recycling agency.During 2017,the company had recorded $12,000 of deposits as revenue.The auditors believe this amount should have been recorded as a liability.
b.The company had been using the first-in,first-out cost flow assumption for its inventories.In fiscal 2018,management decided to switch to the weighted-average method.This change reduced inventory by $25,000 at June 30,2017,and $40,000 at June 30,2018.
c.The company has equipment costing $6,000,000 that it has been depreciating over 10 years on a straight-line basis.The depreciation for fiscal 2017 was $600,000 and accumulated depreciation on June 30,2017,was $1,200,000.During 2018,management revises the estimate of useful life to 12 years,reducing the amount of depreciation to $480,000 per year.
 $$\begin{array} { | l | c | c | c | c | c | c | } 
\hline & \begin{array} { c } 
\text { Type of } \
\text { Accounting } \
\text { Change }
\end{array} & \text { Treatment } & \text { Assets } & \text { Liabilities } & \text { Equity } & \text { Income } \
\hline \text { a. } & & & & & & \
\hline \text { b. } & & & & & & \
\hline \text { c. } & & & & & & \
\hline
\end{array}$$

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Question 8

Why are retrospective adjustments to past years' income and expenses recorded directly in retained earnings?

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Question 9

How many balance sheets are required by IAS 1 when there is a change in accounting policy and why?

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Question 10

Why is the retrospective approach conceptually appropriate for changes in accounting policy?

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Question 11

Anfield Corp.is analyzing its accounts receivable for purposes of preparing its second- quarter financial report for June 30,2017.For interim reporting,the company uses the percentage-of-sales method to estimate bad debts.During this analysis,Anfield identified an account for $42,000 that should have been written off in the first quarter ended March 31,2017 but was actually written off in May 2017.
The following table provides information relating to Anfield accounts receivables after recording the provision for bad debts for the quarter but prior to the discovery of the $42,000 error:
 $$\begin{array} { | l | l | l | } 
\hline & \text { March } \mathbf { 3 1 } , \mathbf { 2 0 1 7 } & \text { June } \mathbf { 3 0 } , \mathbf { 2 0 1 7 } \
\hline \text { Accounts receivable - gross } & 2,480,000 & \$ 2,560,000 \
\hline \text { Allowance for doubtful accounts } & ( 183,000 ) & ( 195,000 ) \
\hline \text { Accounts receivable-net } & 2,297,000 & \$ 2,365,000 \
\hline \text { Bad debts expense } & \$ 245,000 & \$ 278,000 \
\hline
\end{array}$$ 
The $42,000 should have been written off in the first quarter (Q1),so accounts receivable (A/R)and allowance for doubtful accounts (ADA)were overstated by this amount.However,since the company estimates bad debts using the percentage-of-sales method,the missing write-off did not have an effect on income.
The account was eventually written off in the second quarter (Q2),so the balance sheet is correct by June 30,2017.In summary,no adjusting entry needs to be made.

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Question 12

Define "a retrospective adjustment."

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Question 13

For a company using the straight-line method of depreciation that changes the estimated useful life from 20 years to 15 years as at the beginning of the year,the accountant should do (or not do)the following:

Accepted Answer

When the estimated useful life changes, the accumulated depreciation is not adjusted. Instead, the remaining carrying amount minus residual value is depreciated over the new remaining useful life.

Question 14

What types of accounting treatments are treated retrospectively and why?

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Question 15

Give an example of a change in accounting policy which does not require retrospective treatment and explain why?

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Question 16

For a construction contract where the company uses the percentage of completion method and there is a change in the estimated total cost of the contract from 12 million to 13 million,the accountant should do the following:

Accepted Answer

When a change in the estimated total cost of a construction contract arises, it is appropriate to adjust the estimated total and recalculate the percentage of completion using the cost ratio method based on the new estimated total cost. This will ensure that the revenue recognized is consistent with the work completed. Using average cost is not appropriate as it doesn't reflect the actual cost of the contract. Using estimated costs determined at the beginning of the contract is not appropriate as it doesn't reflect the current estimated costs of the contract. Retrospective treatment is also not appropriate as it involves adjusting past financial statements which could lead to restatements and mistrust with investors.

Question 17

Which statement is true regarding accounting accruals?

Accepted Answer

Accruals are adjustments made to the financial statements to record revenues or expenses that have been earned or incurred but have not yet been received or paid. These accruals reverse when cash cycles are complete because the cash has been received or paid, and the revenue or expense has been realized.

Question 18

Zyler Company is analyzing its accounts receivable for purposes of preparing its financial report for the year ended December 31,2017.The company uses the aging method to estimate bad debts.During this analysis,Zyler discovered that staff had written off a $55,000 account in 2017 even though the company had received information about the bankruptcy of the client in late 2016.
The company has already recorded bad debts expense for 2017,but the general ledger for the year has not yet been closed.The following table provides information relating to Zyler's accounts receivables just prior to the discovery of the $55,000 error:
 $$\begin{array} { | l | l | l | } 
\hline & { 2016 } &  { 2017 } \
\hline \text { Accounts receivable - gross } & \$ 2,240,000 & \$ 2,460,000 \
\hline \text { Allowance for doubtful accounts } & ( 123,000 ) & ( 145,000 ) \
\hline \text { Accounts receivable-net } & 2,117,000 & \$ 2,315,000 \
\hline \text { Bad debts expense } & \$ 255,000 & \$ 236,000 \
\hline
\end{array}$$ 
Record any adjusting journal entries necessary to correct the error in Zyler's accounts receivable.

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Question 19

What are two reasons why an accounting change may be permitted to give modified retrospective or prospective treatment?

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Question 20

Cantac Construction purchased a piece of equipment for $40 million in early 2017.The company depreciates the equipment using the straight-line method over its useful life of 20 years,when it will have zero residual value.Cantac's income tax rate is 40%.At the end of 2020,after four years of depreciation,the company wrote down the carrying amount of the equipment from $32 million to $24 million after performing an impairment test on the cash generating unit (CGU)to which the equipment belonged.As a result of the impairment,the annual depreciation declined from $2 million to $1.5 million.In 2023,prior to recording depreciation for that year,the company's staff discovered an error in one of the formulas in the spreadsheet used to compute the value in use for the impairment test carried out at the end of 2020.Removing the error in the spreadsheet,the value in use for the CGU exceeded its carrying value.Therefore,the CGU was in fact not impaired,and Cantac should not have recorded an impairment writedown on the demolition equipment at the end of 2020.
Required:
Prepare the journal entries to correct the error including subsequent years' depreciation and related tax effects.

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Quiz 20: Accounting Changes

Why are retrospective adjustments to past years' income and expenses recorded directly in retained earnings?

How should enterprises reflect changes in accounting standards?

Why is the prospective treatment conceptually appropriate for changes in estimates?

Which statement is true regarding accounting accruals?

Why are retrospective adjustments to past years' income and expenses recorded directly in retained earnings?

How many balance sheets are required by IAS 1 when there is a change in accounting policy and why?

Why is the retrospective approach conceptually appropriate for changes in accounting policy?

Define "a retrospective adjustment."

For a company using the straight-line method of depreciation that changes the estimated useful life from 20 years to 15 years as at the beginning of the year,the accountant should do (or not do) the following:

What types of accounting treatments are treated retrospectively and why?

Give an example of a change in accounting policy which does not require retrospective treatment and explain why?

For a construction contract where the company uses the percentage of completion method and there is a change in the estimated total cost of the contract from 12 million to 13 million,the accountant should do the following:

Which statement is true regarding accounting accruals?

What are two reasons why an accounting change may be permitted to give modified retrospective or prospective treatment?