2. In reviewing the December 31, 2011, inventory Schaefer discovered errors in i
ID: 2444169 • Letter: 2
Question
2. In reviewing the December 31, 2011, inventory Schaefer discovered errors in its inventory-taking procedures that have caused inventories for the last 3 years to be incorrect. The company only discovered the issue after making the 2010 year-end entry to adjust inventory and cost of goods sold. The errors are as follows:12/31/2008 Understated $16,000
12/31/2009 Understated $19,000
12/31/2010 Overstated $ 6,700
Prepare the journal entries necessary at December 31, 2010, to record the above corrections and changes.
2. For each situation, indicate specifically how this error affected the financial statements and how the correction or adjustment would be presented in the 2010 financial statements.
Explanation / Answer
12/31/2008 Dr. Inventory 16,000 Cr. COGS 16,000 12/31/2009 Dr. Inventory 19,000 Cr. COGS 19,000 12/31/2010 Dr. COGS 6,700 Cr. Inventory 6,700 2. The financial report and/or auditor report has not been issued, so no need to consider subsequent events. 12/31/2010 - This will have caused the ending balance of assets to be overstated by $6,700 and revenues overstated (since COGS expense is understated) by $6,700. The correction would be made to the relevant balance sheet and P&L accounts as discussed. There is no need for a disclosure of notes since adjustments are made directly to current year financial report. For the other two entries, standards require that material errors be dealt with retrospectively - prior period statements need to be corrected for these errors. The 12/31/2008 entry will increase the ending balance of inventory (understated by $16,000) and hence also increase the opening inventory balance for 2009 report. Ending COGS will need to be reduced by $16,000 in 2008 and hence beginning balance of retained earnings in 2009 will need to be increased by this amount. For 12/31/2009, the entry will have similar entries and treatments as the 12/31/2008 entry. These cumulative correction of errors on the asset, liabilities and RE from prior periods will carry through to the opening balances for the 2010 financial statements. Disclosure in the notes regarding the prior period adjustments are also required in the 2010 statements to explain the change in opening balances.
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