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Chapter 22: 5CA (page 1323)

(Change in Principle, Estimate) As a certified public accountant, you have been contacted by Joe Davison, CEO of Sports-Pro Athletics, Inc., a manufacturer of a variety of athletic equipment. He has asked you how to account for the following changes.

1. Sports-Pro appropriately changed its depreciation method for its machinery from the double-declining-balance method to the units-of-production method effective January 1, 2017.

2. Effective January 1, 2017, Sports-Pro appropriately changed the salvage values used in computing depreciation for its office equipment.

3. On December 31, 2017, Sports-Pro appropriately changed the specific subsidiaries constituting the group of companies for which consolidated financial statements are presented.

Instructions

Write a 1–1.5 page letter to Joe Davison explaining how each of the above changes should be presented in the December 31, 2017, financial statements.

Short Answer

Expert verified

The required letter is prepared in step 2

Step by step solution

01

Definition of financial statements

The financial statements are defined as the written records which show the financial health and the financial position of the business

02

Letter to Joe Davison

You contacted me about various accounting changes made at Sports-Pro Athletics Inc in the year 2014 and this letter will provide you with the details about how should account for each change.

The change in depreciation method from one method to another will be considered as the change in the accounting estimate which is affected by the change in accounting principle. Any change in the estimate will employ the prospective approach.

The change in salvage values for the office equipment will be considered as the change in estimate. This will not affect the previous financial statement and is also accounted for prospectively.

And the change in specific subsidiaries will result in a change in reporting entity which should be reported by restating the financial statements of the business.

The changes made should be accounted for as mentioned.

Sincerely,

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Most popular questions from this chapter

Simms Corp. controlled four domestic subsidiaries and one foreign subsidiary. Prior to the current year, Simms Corp. had excluded the foreign subsidiary from consolidation. During the current year, the foreign subsidiary was included in the financial statements. How should this change in accounting entity be reflected in the financial statements?

The following are three independent, unrelated sets of facts relating to accounting changes.

Situation 1: Sanford Company is in the process of having its first audit. The company has used the cash basis of accounting for revenue recognition. Sanford president, B. J. Jimenez, is willing to change to the accrual method of revenue recognition.

Situation 2: Hopkins Co. decides in January 2018 to change from FIFO to weighted-average pricing for its inventories.

Situation 3: Marshall Co. determined that the depreciable lives of its fixed assets are too long at present to fairly match the cost of the fixed assets with the revenue produced. The company decided at the beginning of the current year to reduce the depreciable lives of all of its existing fixed assets by 5 years.

Instructions

For each of the situations described, provide the information indicated below.

(a) Type of accounting change.

(b) Manner of reporting the change under current generally accepted accounting principles, including a discussion where applicable of how amounts are computed.

(c) Effect of the change on the balance sheet and income statement

On January 3, 2016, Martin Company purchased for \(500,000 cash a 10% interest in Renner Corp. On that date, the net assets of Renner had a book value of \)3,700,000. The excess of cost over the underlying equity in net assets is attributable to undervalued depreciable assets having a remaining life of 10 years from the date of Martin’s purchase.

The fair value of Martin’s investment in Renner securities is as follows: December 31, 2016, \(560,000, and December 31, 2017, \)515,000. On January 2, 2018, Martin purchased an additional 30% of Renner’s stock for \(1,545,000 cash when the book value of Renner’s net assets was \)4,150,000. The excess was attributable to depreciable assets having a remaining life of 8 years. During 2016, 2017, and 2018, the following occurred.

Renner Dividends Paid by

Net Income Renner to Martin

2016 \(350,000 \)15,000

2017 450,000 20,000

2018 550,000 70,000

Instructions On the books of Martin Company,

prepare all journal entries in 2016, 2017, and 2018 that relate to its investment in Renner Corp., reflecting the data above and a change from the fair value method to the equity method.

Roundtree Manufacturing Co. is preparing its year-end financial statements and is considering the accounting for the following items. 1. The vice president of sales had indicated that one product line has lost its customer appeal and will be phased out over the next 3 years. Therefore, a decision has been made to lower the estimated lives on related production equipment from the remaining 5 years to 3 years. 2. The Hightone Building was converted from a sales office to offices for the Accounting Department at the beginning of this year. Therefore, the expense related to this building will now appear as an administrative expense rather than a selling expense on the current year’s income statement. 3. Estimating the lives of new products in the Leisure Products Division has become very difficult because of the highly competitive conditions in this market. Therefore, the practice of deferring and amortizing preproduction costs has been abandoned in favor of expensing such costs as they are incurred. Identify and explain whether each of the above items is a change in principle, a change in estimate, or an error.

Discuss and illustrate how a correction of an error in previously issued financial statements should be handled.
See all solutions

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