Week 5 Acc423

a. Assume we are in the year 2012.

b. Indicate how each of these changes or corrections should be handled in the accounting records. Ignore income tax considerations. Hint You should have 4 comments.

Since it was discovered that the inventory method was changed from LIFO to FIFO, an accounting principle was changed. The change from one accounting principle to another needs to be corrected and can be done by choosing one of three possible approaches:

1. Report changes currently-the company reports the cumulative effect of the change in the current year’s income statements as an irregular item. This is the difference in the prior year’s income from the prior and the newly adopted accounting method. This method corrects the problem in the current year’s income statement.

2. Report changes retrospectively- With this method, the company goes back and adjusts the previous accounting reports as if the new method was always used.

3. Report changes prospectively- In this final approach, the previously reported financial statements remain. Many argue that once the financial statements have been completed per GAAP, they are final.

The company should apply the direct effect of the accounting principle change to the affected accounts such as adjusting the inventory amounts for the change of accounting principle. Indirect effects should also be taken into consideration when making adjustments. Indirect effects are any changes to the current or future cash flows of a company that come as a result of a principle change. They do not affect prior-period amounts.

Retrospective application of the change in accounting principle can be considered impracticable if the company cannot determine the prior-period effects using every effort to do so.

Some changes are not considered as significant as other. However, they still need to be recorded. As soon as a company discovers the error, it must make corrections necessary to adjust. These are recorded as an adjustment...