Katherine Irving, controller of Lotan Corp., is aware of a pronouncement on accounting changes. After reading the pronouncement, she is confused about what action should be taken on the following items related to Lotan Corp. for the year 2020.1. In 2020, Lotan decided to change its policy on accounting for certain marketing costs. Previously, the company had chosen to defer and amortize all marketing costs over at least 5 years because Lotan believed that a return on these expenditures did not occur immediately. Recently, however, the time differential has considerably shortened, and Lotan is now expensing the marketing costs as incurred.2. In 2020, the company examined its entire policy relating to the depreciation of plant equipment. Plant equipment had normally been depreciated over a 15-year period, but recent experience has indicated that the company was incorrect in its estimates and that the assets should be depreciated over a 20-year period.3. One division of Lotan Corp., Hawthorne Co., has consistently shown an increasing net income from period to period. On closer examination of its operating statement, it is noted that bad debt expense and inventory obsolescence charges are much lower than in other divisions. In discussing this with the controller of this division, it has been learned that the controller has increased his net income each period by knowingly making low estimates related to the write-off of receivables and inventory.4. In 2020, the company purchased new machinery that should increase production dramatically. The company has decided to depreciate this machinery on an accelerated basis, even though other machinery is depreciated on a straight-line basis.5. All equipment sold by Lotan is subject to a 3-year warranty. It has been estimated that the expense ultimately to be incurred on these machines is 1% of sales. In 2020, because of a production breakthrough, it is now estimated that ½ of 1% of sales is sufficient. In 2018 and 2019, warranty expense was computed as $64,000 and $70,000, respectively. The company now believes that these warranty costs should be reduced by 50%.6. In 2020, the company decided to change its method of inventory pricing from average-cost to the FIFO method. The effect of this change on prior years is to increase 2018 income by $65,000 and increase 2019 income by $20,000.InstructionsKatherine Irving has come to you, as her CPA, for advice about the situations above. Prepare a report, indicating the appropriate accounting treatment that should be given for each of these situations.

Question
Asked Jan 24, 2020
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Katherine Irving, controller of Lotan Corp., is aware of a pronouncement on accounting changes. After reading the pronouncement, she is confused about what action should be taken on the following items related to Lotan Corp. for the year 2020.

  • 1. In 2020, Lotan decided to change its policy on accounting for certain marketing costs. Previously, the company had chosen to defer and amortize all marketing costs over at least 5 years because Lotan believed that a return on these expenditures did not occur immediately. Recently, however, the time differential has considerably shortened, and Lotan is now expensing the marketing costs as incurred.
  • 2. In 2020, the company examined its entire policy relating to the depreciation of plant equipment. Plant equipment had normally been depreciated over a 15-year period, but recent experience has indicated that the company was incorrect in its estimates and that the assets should be depreciated over a 20-year period.
  • 3. One division of Lotan Corp., Hawthorne Co., has consistently shown an increasing net income from period to period. On closer examination of its operating statement, it is noted that bad debt expense and inventory obsolescence charges are much lower than in other divisions. In discussing this with the controller of this division, it has been learned that the controller has increased his net income each period by knowingly making low estimates related to the write-off of receivables and inventory.
  • 4. In 2020, the company purchased new machinery that should increase production dramatically. The company has decided to depreciate this machinery on an accelerated basis, even though other machinery is depreciated on a straight-line basis.
  • 5. All equipment sold by Lotan is subject to a 3-year warranty. It has been estimated that the expense ultimately to be incurred on these machines is 1% of sales. In 2020, because of a production breakthrough, it is now estimated that ½ of 1% of sales is sufficient. In 2018 and 2019, warranty expense was computed as $64,000 and $70,000, respectively. The company now believes that these warranty costs should be reduced by 50%.
  • 6. In 2020, the company decided to change its method of inventory pricing from average-cost to the FIFO method. The effect of this change on prior years is to increase 2018 income by $65,000 and increase 2019 income by $20,000.

Instructions

Katherine Irving has come to you, as her CPA, for advice about the situations above. Prepare a report, indicating the appropriate accounting treatment that should be given for each of these situations.

 

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Expert Answer

Step 1
  1. The change in accounting policy should be shown in Notes to accounts and the Marketing costs should be adjusted with the balance in the deferred revenue expenditure accounts.
  2. This is a change in accounting estimated which will not be reflected in accounts and starting from 2020, every asset in the plant and equipment category wo...

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