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Intermediate Accounting: Reporting...

3rd Edition
James M. Wahlen + 2 others
ISBN: 9781337788281

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Intermediate Accounting: Reporting...

3rd Edition
James M. Wahlen + 2 others
ISBN: 9781337788281
Textbook Problem
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Errors As controller of Lerner Company, which uses a periodic inventory system, you discover the following errors in the current year:

  1. 1. Merchandise with a cost of $17,500 was properly included in the final inventory, but the purchase was not recorded until the following year.
  2. 2. Merchandise purchases are in transit under terms of FOB shipping point. They have been excluded from the inventory, but the purchase was recorded in the current year on the receipt of the invoice of $4,300.
  3. 3. Goods out on consignment have been excluded from inventory.
  4. 4. Merchandise purchases under terms FOB shipping point have been omitted from the purchases account and the ending inventory. The purchases were recorded in the following year.
  5. 5. Goods held on consignment from Talbert Supply Co. were included in the inventory.

Required:

For each error, indicate the effect on the ending inventory and the net income for the current year and on the net income for the following year.

To determine

Indicate the effect on the ending inventory and the net income for the current year and on the following year.

Explanation

Inventory errors: It refers to the errors that result in overstatement or understatement of ending inventory caused due to wrong physical inventory count or wrong price fixation of the inventory quantities. It also includes overstatement or understatement of purchases caused to wrong inventory cut-off. These errors are rectified by reversing the original erroneous entry and recording the correct entry.

Effects of Inventory Errors

The following table shows the effect of inventory errors on Cost of Goods Sold and Income before income taxes:

Serial NoDetailsCost of goods soldNet incomeRetained earnings

1.

Overstatement of ending inventoryUnderstatedOverstatedOverstated
2.Overstatement of purchasesOverstatedUnderstatedUnderstated
3.Understatement of beginning inventoryUnderstatedOverstatedOverstated
4.Freight-in charges are understatedUnderstatedOverstatedOverstated
5.Understatement of ending inventoryOverstatedUnderstatedUnderstated
6.Understatement of purchasesUnderstatedOverstatedOverstated
7.Overstatement of beginning inventoryOverstatedUnderstatedUnderstated
8.Understatement of purchases plus understatement of ending inventory by the same amountNo effectNo effectNo effect

Table (1)

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