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Retrospective or prospective accounting changes

Choose from the following list the term which best describes the presentation of the item on the financial statements of Gordon Corporation for 2008.

C: Change in estimate
P: Prior period adjustment (not due to change in principle)
R: Retrospective type accounting change with note disclosure
N: None of the above

1. In 2008, the company changed its method of recognizing income from the completed contract method to the percentage-of-completion method.

2. At the end of 2008, an audit revealed that the corporation's allowance for doubtful accounts was too large and should be reduced to 2%. When the audit was made in 2007, the allowance seemed appropriate.

3. Depreciation on a truck, acquired in 2005, was understated because the service life had been overestimated. The understatement had been made in order to show higher net income in 2006 and 2007.

4. The company switched from a LIFO to a FIFO inventory valuation method during the current year.

5. In the current year, the company decides to change from expensing certain costs to capitalizing these costs, due to a change in the period benefited.

6. During 2008, a long-term bond with a carrying value of $3,600,000 was retired at a cost of $4,100,000.

7. After negotiations with the IRS, income taxes for 2006 were established at $42,900. They were originally estimated to be $28,600.

8. In 2008, the company incurred interest expense of $29,000 on a 20-year bond issue.

9. In computing the depreciation in 2006 for equipment, an error was made which
overstated income in that year $75,000. The error was discovered in 2008.

10. In 2008, the company changed its method of depreciating plant assets from the doubledeclining balance method to the straight-line method.

Solution Preview

1. R. This type of change needs to be reported retrospectively for reasons of comparison. It would be difficult for the reader to understand the profitability without the prior year's comparison.

2. C. A change in estimate is only reported in the year of change and going forward. An estimate in the past was just that: an estimate and it was the best guess at the time.

3. P. I'm not certain about this one because of the way the question is written. I think the question implies that the prior year procedure was ...

Solution Summary

The solution presents a thoughtful explanation of each of the situations in the problem to explain the effects to the financial statements including the theory of the transaction with some practical applications normally used in industry.