CHAPTER 22 Accounting Changes and Error Analysis ASSIGNMENT CLASSIFICATION TABLE (BY TOPIC) Topics Questions Differences between change in principle, change in estimate, change in entity, errors 2, 4, 6, 7, 8, 9, 12, 13, 15, 21 Accounting changes: *4 Brief Exercises Exercises Concepts Problems for Analysis 1, 2, 3, 3, 6, 1, 2, 4, a Comprehensive b Changes in estimate, changes in depreciation methods 8, 4, 5, 3, 4, 6, 7, 8, 9, 10, 11, 12, 16, 17 1, 2, 4, 6, 1, 2, 3, 4, 5, c Changes in accounting for long-term construction contracts 2, 10 1, 2, 10 1, 8, 13 1, d Change from FIFO to average cost e Change from FIFO to LIFO 2, 11 f Change from LIFO g Miscellaneous 2, 8, 14 10 1, 2, 3, 5, 8, 14 1, 3, 4, 5, 8, 9, 10 2, 1, Correction of an error a Comprehensive 8, 14, 15, 17, 19 8, 9, 10 8, 15, 16, 18, 19, 20, 21 3, 6, 7, 8, 9, 10 b Depreciation 2, 18, 21 6, 9, 15, 17, 18 1, 6, c Inventory 9, 16, 20 10 7, 17, 18 2, 10 11, 12 22, 23 11, 12 Changes between fair value and equity methods 2, 3, 1, *This material is dealt with in an Appendix to the chapter Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-1 ASSIGNMENT CLASSIFICATION TABLE (BY LEARNING OBJECTIVE) Brief Exercises Learning Objectives Exercises Problems Identify the types of accounting changes Describe the accounting for changes in accounting principles Understand how to account for retrospective accounting changes 1, 2, 3, 9, 10 1, 2, 3, 4, 5, 8, 13, 14 2, 3, 4, 5, 6, 7, 8, 9, 10, 11, 12 1, 2, 3, 4, 6, 7, 8, 10 7, 8, 9, 15, 16, 17, 18, 19, 20, 21 1, 2, 3, 6, 7, 8, 9, 10 18, 19, 20, 21 6, 7, 8, 9, 10 22, 23 11, 12 Understand how to account for impracticable changes Describe the accounting for changes in estimates Identify changes in a reporting entity Describe the accounting for correction of errors Identify economic motives for changing accounting methods Analyze the effect of errors *10 Make the computations and prepare the entries necessary to record a change from or to the equity method of accounting 22-2 Copyright © 2011 John Wiley & Sons, Inc 11, 12 Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) ASSIGNMENT CHARACTERISTICS TABLE Item Description Level of Difficulty Time (minutes) E22-1 E22-2 E22-3 E22-4 E22-5 E22-6 E22-7 E22-8 E22-9 E22-10 E22-11 E22-12 E22-13 E22-14 E22-15 E22-16 E22-17 E22-18 E22-19 E22-20 E22-21 *E22-22 *E22-23 Change in principle—long-term contracts Change in principle—inventory methods Accounting change Accounting change Accounting change Accounting changes—depreciation Change in estimate and error; financial statements Accounting for accounting changes and errors Error and change in estimate—depreciation Depreciation changes Change in estimate—depreciation Change in estimate—depreciation Change in principle—long-term contracts Various changes in principle—inventory methods Error correction entries Error analysis and correcting entry Error analysis and correcting entry Error analysis Error analysis and correcting entries Error analysis Error analysis Change from fair value to equity Change from equity to fair value Moderate Moderate Difficult Difficult Difficult Difficult Moderate Simple Simple Moderate Simple Simple Simple Moderate Simple Simple Simple Moderate Simple Moderate Moderate Complex Moderate 10–15 10–15 25–30 25–30 30–35 30–35 25–30 5–10 15–20 20–25 10–15 20–25 10–15 20–25 15–20 10–15 10–15 25–30 20–25 20–25 10–15 25–30 15–20 P22-1 P22-2 P22-3 P22-4 P22-5 P22-6 P22-7 P22-8 P22-9 P22-10 *P22-11 *P22-12 Change in estimate and error correction Comprehensive accounting change and error analysis problem Error corrections and accounting changes Accounting changes Change in principle—inventory—periodic Accounting changes and error analysis Error corrections Comprehensive error analysis Error analysis Error analysis and correcting entries Fair value to equity method with goodwill Change from fair value to equity method Moderate Complex Complex Moderate Moderate Moderate Moderate Difficult Moderate Complex Moderate Moderate 30–35 30–40 30–40 40–50 30–35 25–30 25–30 30–35 20–25 50–60 20–25 20–25 Analysis of various accounting changes and errors Analysis of various accounting changes and errors Analysis of three accounting changes and errors Analysis of various accounting changes and errors Change in principle, estimate Change in estimate, ethics Moderate Moderate Moderate Moderate Moderate Moderate 25–35 20–30 30–35 20–30 20–30 20–30 CA22-1 CA22-2 CA22-3 CA22-4 CA22-5 CA22-6 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-3 SOLUTIONS TO CODIFICATION EXERCISES CE22-1 Master Glossary (a) A change that has the effect of adjusting the carrying amount of an existing asset or liability or altering the subsequent accounting for existing or future assets or liabilities A change in accounting estimate is a necessary consequence of the assessment, in conjunction with the periodic presentation of financial statements, of the present status and expected future benefits and obligations associated with assets and liabilities Changes in accounting estimates result from new information Examples of items for which estimates are necessary are uncollectible receivables, inventory obsolescence, service lives and salvage values of depreciable assets, and warranty obligations (b) A change from one generally accepted accounting principle to another generally accepted accounting principle when there are two or more generally accepted accounting principles that apply or when the accounting principle formerly used is no longer generally accepted A change in the method of applying an accounting principle also is considered a change in accounting principle (c) The process of revising previously issued financial statements to reflect the correction of an error in those financial statements (d) The application of a different accounting principle to one or more previously issued financial statements, or to the statement of financial position at the beginning of the current period, as if that principle had always been used, or a change to financial statements of prior accounting periods to present the financial statements of a new reporting entity as if it had existed in those prior years CE22-2 According to FASB ASC 250-10-50-7 (Accounting Changes and Error Corrections—Disclosure): When financial statements are restated to correct an error, the entity shall disclose that its previously issued financial statements have been restated, along with a description of the nature of the error The entity also shall disclose both of the following: (a) The effect of the correction on each financial statement line item and any per-share amounts affected for each prior period presented (b) The cumulative effect of the change on retained earnings or other appropriate components of equity or net assets in the statement of financial position, as of the beginning of the earliest period presented 22-4 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) CE22-3 According to FASB ASC 250-10-45-5 (Accounting Changes and Error Corrections—Other Presentation Matters): An entity shall report a change in accounting principle through retrospective application of the new accounting principle to all prior periods, unless it is impracticable to so Retrospective application requires all of the following: (a) The cumulative effect of the change to the new accounting principle on periods prior to those presented shall be reflected in the carrying amounts of assets and liabilities as of the beginning of the first period presented (b) An offsetting adjustment, if any, shall be made to the opening balance of retained earnings (or other appropriate components of equity or net assets in the statement of financial position) for that period (c) Financial statements for each individual prior period presented shall be adjusted to reflect the period-specific effects of applying the new accounting principle CE22-4 According to FASB ASC 250-10-S99-4 (Accounting Changes and Error Corrections—SEC Materials): Question 5: If a registrant justified a change in accounting method as preferable under the circumstances, and the circumstances change, may the registrant revert to the method of accounting used before the change? Any time a registrant makes a change in accounting method, the change must be justified as preferable under the circumstances Thus, a registrant may not change back to a principle previously used unless it can justify that the previously used principle is preferable in the circumstances as they currently exist Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-5 ANSWERS TO QUESTIONS The major reasons why companies change accounting methods are: (a) Desire to show better profit picture (b) Desire to increase cash flows through reduction in income taxes (c) Requirement by Financial Accounting Standards Board to change accounting methods (d) Desire to follow industry practices (e) Desire to show a better measure of the company’s income (a) Change in accounting principle; retrospective application is generally not made because it is impracticable to determine the effect of the change on prior years The FIFO inventory amount is therefore generally the beginning inventory in the current period (b) Correction of an error and therefore prior period adjustment; adjust the beginning balance of retained earnings (c) Increase income for litigation settlement (d) Change in accounting estimate; currently and prospectively Part of operating section of income statement (e) Reduction of accounts receivable and the allowance for doubtful accounts (f) Change in accounting principle; retrospective application to prior period financial statements The three approaches suggested for reporting changes in accounting principles are: (a) Currently—the cumulative effect of the change is reported in the current year’s income as a special item (b) Retrospectively—the cumulative effect of the change is reported as an adjustment to retained earnings The prior year’s statements are changed on a basis consistent with the newly adopted principle (c) Prospectively—no adjustment is made for the cumulative effect of the change Previously reported results remain unchanged The change shall be accounted for in the period of the change and in subsequent periods if the change affects future periods The FASB believes that the retrospective approach provides financial statement users the most useful information Under this approach, the prior statements are changed on a basis consistent with the newly adopted standard; any cumulative effect of the change for prior periods is recorded as an adjustment to the beginning balance of retained earnings of the earliest period reported The indirect effect of a change in accounting principle reflects any changes in current or future cash flows resulting from a change in accounting principle that is applied retrospectively An example is the change in payments to a profit-sharing plan that is based on reported net income Indirect effects are not included in the retrospective application, but instead are reported in the period in which the accounting change occurs (current period) A change in an estimate is simply a change in the way an individual perceives the realizability of an asset or liability Examples of changes in estimate are: (1) change in the realizability of trade receivables, (2) revisions of estimated lives, (3) changes in estimates of warranty costs, and (4) change in estimate of deferred charges or credits A change in accounting estimate effected by a change in accounting principle occurs when a change in accounting estimate is inseparable from the effect of a related change in accounting principle An example would be switching from capitalizing advertising expenditures to expensing them if the future benefit of the expenditures can no longer be estimated with reasonable certainty 22-6 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) Questions Chapter 22 (Continued) This is an example of a situation in which it is difficult to differentiate between a change in accounting principle and a change in estimate In such a situation, the change should be considered a change in estimate, and accordingly, should be handled currently and prospectively Thus, all costs presently capitalized and viewed as providing doubtful future values should be expensed immediately, and costs currently incurred should also be expensed immediately (a) Charge to expense—possibly separately disclosed (b) Change in estimate that is effected by a change in accounting principle—currently and prospectively (c) Charge to expense—possibly separately disclosed (d) Correction of an error and reported as a prior period adjustment—adjust the beginning balance of retained earnings (e) Change in accounting principle—retrospective application to all affected prior-period financial statements (f) Change in accounting estimate—currently and prospectively This change is to be handled as a correction of an error As such, the portion of the change attributable to prior periods ($23,000) should be reported as an adjustment to the beginning balance of retained earnings in the 2012 financial statements If statements for previous years are presented for comparative purposes, these statements should be restated to correct for the error The remainder of the inventory value ($29,000) should be reported in the 2012 income statement as a reduction of materials cost 10 Preferability is a difficult concept to apply The problem is that there are no basic objectives to indicate which is the most preferable method, assuming a selection between two generally accepted accounting practices is possible, such as completed-contract and percentage-of-completion If a FASB standard creates a new principle or expresses preference for or rejects a specific accounting principle, a change is considered clearly acceptable A more appropriate matching of revenues and expenses is often given as the justification for a change in accounting principle 11 When a company changes to the LIFO method, the base-year inventory for all subsequent LIFO calculations is the beginning inventory in the year the method is adopted This assumes that prior years’ income is not changed because it would be too impractical to so The only adjustment necessary may be to adjust the beginning inventory from a lower-of-cost-or-market approach to a cost basis This establishes the beginning LIFO layer 12 Where individual company statements were reported in prior years and consolidated financial statements are to be prepared this year, the following reporting and disclosure practices should be implemented: (1) The financial statements of all prior periods presented should be restated to show the financial information for the new reporting entity for all periods (2) The financial statements of the year in which the change in reporting entity is made should describe the nature of the change and the reason for it (3) The effect of the change on income before extraordinary items, net income, and earnings per share amounts should be disclosed for all periods presented 13 This change represents a change in reporting entity This type of change should be reported by restating the financial statements of all prior periods presented to show the financial information for the new reporting entity for all periods The financial statements of the year in which the change in reporting entity is made should describe the nature of the change and the reason for it The effect of the change on income before extraordinary items, net income, and earnings per share amounts should be disclosed for all periods presented Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-7 Questions Chapter 22 (Continued) 14 Counterbalancing errors are errors that will be offset or corrected over two periods Noncounterbalancing errors are errors that are not offset in the next accounting period An example of a counterbalancing error is the failure to record accrued wages or prepaid expenses Failure to capitalize equipment and record depreciation is an example of a noncounterbalancing error 15 A correction of an error in previously issued financial statements should be handled as a priorperiod adjustment Thus, such an error should be reported in the year that it is discovered as an adjustment to the beginning balance of retained earnings And, if comparative statements are presented, the prior periods affected by the error should be restated The disclosures need not be repeated in the financial statements of subsequent periods As an illustration, assume that credit sales of $40,000 were inadvertently overlooked at the end of 2012 When the error was discovered in a subsequent period, the appropriate entry to record the correction of the error would have been (ignoring income tax effects): Accounts Receivable Retained Earnings 40,000 40,000 16 This change represents a change from an accounting principle that is not generally accepted to an accounting principle that is acceptable As such, this change should be handled as a correction of an error Thus, in the 2012 statements, the cumulative effect of the change should be reported as an adjustment to the beginning balance of retained earnings If 2011 statements are presented for comparative purposes, these statements should be restated to correct for the accounting error 17 Retained earnings is correctly stated at December 31, 2014 Failure to accrue salaries in earlier years is a counterbalancing error that has no effect on 2014 ending retained earnings 18 December 31, 2013 Machinery Accumulated Depreciation—Machinery Retained Earnings (To correct for the error of expensing installation costs on machinery acquired in January, 2012) Depreciation Expense [($36,000 – $3,600) ÷ 20] Accumulated Depreciation—Machinery (To record depreciation on machinery for 2013 based on a 20-year useful life) 19 6,000 600 5,400 1,620 1,620 The amortization error decreases net income by $2,700 in 2012 Interest expense related to the discount should have been charged for $300, but was charged for $3,000 The entry to correct for this error is as follows: Discount on Bonds Payable Interest Expense 2,700 2,700 The entry to record accrued interest on the $100,000 of principal at 11% for months is: Interest Expense Interest Payable 22-8 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual 5,500 5,500 (For Instructor Use Only) Questions Chapter 22 (Continued) 20 This error has no effect on net income because both purchases and inventory were understated The entry to correct for this error, assuming a periodic inventory system, is: Purchases Accounts Payable 21 13,000 13,000 This error increases net income by $2,400 in 2012 Depreciation should have been charged to net income The entry to correct for this error is as follows: Depreciation Expense Accumulated Depreciation—Equipment Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual 2,400 (For Instructor Use Only) 2,400 22-9 SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 22-1 Construction in Process ($120,000 – $80,000) Deferred Tax Liability [($120,000 – $80,000) X 35%] Retained Earnings 40,000 14,000 26,000 BRIEF EXERCISE 22-2 Difference in profit-sharing expense—prior years Pre-tax income—percentage-of-completion Pre-tax income—completed-contract $120,000 80,000 $ 40,000 X 1% $ 400 Indirect effect The indirect effect from prior years will be reported as a profit-sharing expense for year 2012 BRIEF EXERCISE 22-3 Inventory Deferred Tax Liability ($1,200,000 X 40%) Retained Earnings 1,200,000 480,000 720,000 BRIEF EXERCISE 22-4 This is a change in estimate effected by a change in accounting principle Cost of depreciable assets Accumulated depreciation Carrying value at January 1, 2012 Salvage value Depreciable base $250,000 (90,000) 160,000 (40,000) $120,000 Depreciation in 2012 = $120,000 ÷ = $15,000 Depreciation Expense Accumulated Depreciation 22-10 Copyright © 2011 John Wiley & Sons, Inc 15,000 Kieso, Intermediate Accounting, 14/e, Solutions Manual 15,000 (For Instructor Use Only) COMPARATIVE ANALYSIS CASE (Continued) (b) and (c) for PepsiCo, Inc.: Reported one accounting change: Recent Accounting Pronouncements In December 2007, the FASB amended its guidance on accounting for business combinations to improve, simplify and converge internationally the accounting for business combinations The new accounting guidance continues the movement toward the greater use of fair value in financial reporting and increased transparency through expanded disclosures We adopted the provisions of the new guidance as of the beginning of our 2009 fiscal year The new accounting guidance changes how business acquisitions are accounted for and will impact financial statements both on the acquisition date and in subsequent periods Additionally, under the new guidance, transaction costs are expensed rather than capitalized Future adjustments made to valuation allowances on deferred taxes and acquired tax contingencies associated with acquisitions that closed prior to the beginning of our 2009 fiscal year apply the new provisions and will be evaluated based on the outcome of these matters In December 2007, the FASB issued new accounting and disclosure guidance on noncontrolling interests in consolidated financial statements This guidance amends the accounting literature to establish new standards that will govern the accounting for and reporting of (1) noncontrolling interests in partially owned consolidated subsidiaries and (2) the loss of control of subsidiaries We adopted the accounting provisions of the new guidance on a prospective basis as of the beginning of our 2009 fiscal year, and the adoption did not have a material impact on our financial statements In addition, we adopted the presentation and disclosure requirements of the new guidance on a retrospective basis in the first quarter of 2009 In June 2009, the FASB amended its accounting guidance on the consolidation of VIEs Among other things, the new guidance requires a qualitative rather than a quantitative assessment to determine the primary beneficiary of a VIE based on whether the entity (1) has the power to direct matters that most significantly impact the activities of the VIE and (2) has the obligation to absorb losses or the right to receive benefits of the VIE that could potentially be significant to the VIE In addition, the amended guidance requires an ongoing reconsideration of the primary beneficiary The provisions of this new guidance are effective as of the beginning of our 2010 fiscal year, and we not expect the adoption to have a material impact on our financial statements 22-66 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) ACCOUNTING, ANALYSIS, AND PRINCIPLES Accounting ABC CO Statement of Financial Position at December 31 Cash Inventory PPE Accumulated depreciation Total assets 2012 2011 $ 548 $ 365 Share capital 580 560 Retained earnings 400 400 (120) (80) 1,408 1,245 Total equity 2012 2011 $ 500 $ 500 908 745 $1,408 $1,245 ABC CO Income Statement for the Year Ended December 31, Sales Cost of goods sold Depreciation expense Compensation expense Net income 2012 $550 330 40 17 $163 2011 $500 290 40 15 $155 2011 purchases: $480 + P – $300 = $500; P = $320 2011 Beginning inventory using FIFO = $480 + $50 = $530 2011 Ending inventory using FIFO = $500 + $60 = $560 2011 Cost of goods sold using FIFO = $530 + $320 – $560 = $290 2011 Retained Earnings = $685 + $60 = $745 2012 Retained Earnings = $745 + $163 = $908 2012 Cost of goods sold = $560 + $350 – $580 = $330 2012 Depreciation Expense = $400/10 = $40 2012 Accumulated Depreciation = $80 + $40 = $120 2012 Cash = $365 + $550 – $350 – $17 = $548 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-67 ACCOUNTING, ANALYSIS, AND PRINCIPLES (Continued) Analysis Inventory turnover: LIFO FIFO 2012 N/A LIFO information not available $330 ÷ $570 = 0.58 2011 $300 ÷ $490 = 0.61 $290 ÷ $545 = 0.53 Inventory turnover is lower under FIFO, which leads to ROA being slightly higher Under FIFO (in this example) COGS is lower because older costs that had been deferred in the inventory balance under average cost were brought to COGS The inventory balance is higher because FIFO leaves the most recent inventory costs in the inventory account Principles The issue is consistency across time When a company changes accounting policies, financial statements from one period are not really comparable to the financial statements of the next period because they are based on different accounting policies GAAP requires restating past results presented for comparison to the new accounting policy so that financial statement readers can see how the company’s financial position and performance have changed without the effects of an accounting change 22-68 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) PROFESSIONAL RESEARCH (a) According to FASB ASC 250-10-20 (Glossary), a change in accounting estimate that is inseparable from the effect of a related change in accounting principle is a change in estimate effected by a change in principle An example of a change in estimate effected by a change in principle is a change in the method of depreciation, amortization, or depletion for long-lived, nonfinancial assets Under FASB ASC 250-10-45 45-17, A change in accounting estimate shall be accounted for in the period of change if the change affects that period only or in the period of change and future periods if the change affects both A change in accounting estimate shall not be accounted for by restating or retrospectively adjusting amounts reported in financial statements of prior periods or by reporting pro forma amounts for prior periods 45-19 Like other changes in accounting principle, a change in accounting estimate that is effected by a change in accounting principle may be made only if the new accounting principle is justifiable on the basis that it is preferable For example, an entity that concludes that the pattern of consumption of the expected benefits of an asset has changed, and determines that a new depreciation method better reflects that pattern, may be justified in making a change in accounting estimate effected by a change in accounting principle (See paragraph 250-10-45-12.) (b) According to FASB ASC 250-10-45-18, distinguishing between a change in an accounting principle and a change in an accounting estimate is sometimes difficult In some cases, a change in accounting estimate is effected by a change in accounting principle One example of this type of change is a change in method of depreciation, amortization, or depletion for long-lived, nonfinancial assets (hereinafter referred to as depreciation method) The new depreciation method is adopted in partial or complete recognition of a change in the estimated future benefits inherent in the asset, the pattern of consumption of those benefits, or the information available to the entity about those benefits The effect of the change in accounting principle, or the method of Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-69 PROFESSIONAL RESEARCH (Continued) applying it, may be inseparable from the effect of the change in accounting estimate Changes of that type often are related to the continuing process of obtaining additional information and revising estimates and, therefore, shall be considered changes in estimates for purposes of applying this Subtopic (c) According to FASB ASC 250-10-S50—Disclosure of the Impact that Recently Issued Accounting Standards Will Have on the Financial Statements of the Registrant when Adopted in a Future Period S50-1 See paragraph 250-10-S99-5, SAB Topic 11.M, for SEC Staff views regarding disclosure of the impact of recently issued accounting standards SAB Topic 11.M, Disclosure of the Impact that Recently Issued Accounting Standards Will Have on the Financial Statements of the Registrant when Adopted in a Future Period S99-5 The following is the text of SAB Topic 11.M, Disclosure of the Impact that Recently Issued Accounting Standards Will Have on the Financial Statements of the Registrant when Adopted in a Future Period Facts: An accounting standard has been issued that does not require adoption until some future date A registrant is required to include financial statements in fillings with the Commission after the Issuance of the standard but before it is adopted by the registrant.5 – 5Some registrants may want to disclose the potential effects of proposed accounting standards not yet issued, (e.g., exposure drafts) Such disclosures, which generally are not required because the final standard may differ from the exposure draft, are not addressed by this SAB See also FRR 26 Question 1: Does the staff believe that these filings should include disclosure of the impact that the recently issued accounting standard will have on the financial position and results of operations of the registrant when such standard is adopted in a future period? 22-70 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) PROFESSIONAL RESEARCH (Continued) Interpretive Response: Yes The commission addressed a similar issue with respect to Statement 52 and concluded that “The Commission also believes that registrants that have not yet adopted Statement 52 should discuss the potential effects of adoption in registration statements and reports filed with the Commission.”6 The staff believes that this disclosure guidance applies to all accounting standards which have been issued but not yet adopted by the registrant unless the impact on its financial position and results of operations is not expected to be material.7 MD&A8 requires registrants to provide information with respect to liquidity, capital resources and results of operations and such other information that the registrant believes to be necessary to understand its financial condition and results of operations In addition, MD&A requires disclosure of presently known material changes, trends and uncertainties that have had or that the registrant reasonably expects will have a material impact on future sales, revenues or income from continuing operations The staff believes that disclosure of impending accounting changes is necessary to inform the reader about expected impacts on financial information to be reported in the future and, therefore, should be disclosed in accordance with the existing MD&A requirements With respect to financial statement disclosure, GAAS9 specifically address the need for the auditor to consider the adequacy of the disclosure of impending changes in accounting principles if (a) the financial statements have been prepared on the basis of accounting principles that were acceptable at the financial statement date but that will not be acceptable in the future and (b) the financial statements will be restated in the future as a result of the change The staff believes that recently issued accounting standards may constitute material matters and, therefore, disclosure in the financial statements should also be considered in situations where the change to the new accounting standard will be accounted for in financial statements of future periods, prospectively or with a cumulative catch-up adjustment Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-71 PROFESSIONAL RESEARCH (Continued) – 6FRR 6, Section – 7In those instances where a recently issued standard will impact the preparation of, but not materially affect, the financial statements, the registrant is encouraged to disclose that a standard has been issued and that its adoption will not have a material effect on its financial position or results of operations – 8Item 303 of Regulation S-K – 9See AU 9410.13-18 Question 2: Does the staff have a view on the types of disclosure that would be meaningful and appropriate when a new accounting standard has been issued but not yet adopted by the registrant? Interpretive Response: The staff believes that the registrant should evaluate each new accounting standard to determine the appropriate disclosure and recognizes that the level of information available to the registrant will differ with respect to various standards and from one registrant to another The objectives of the disclosure should be to (1) notify the reader of the disclosure documents that a standard has been issued which the registrant will be required to adopt in the future and (2) assist the reader in assessing the significance of the impact that the standard will have on the financial statements of the registrant when adopted The staff understands that the registrant will only be able to disclose information that is known The following disclosures should generally be considered by the registrant: – A brief description of the new standard, the date that adoption is required and the date that the registrant plans to adopt, if earlier – A discussion of the methods of adoption allowed by the standard and the method expected to be utilized by the registrant, if determined 22-72 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) PROFESSIONAL RESEARCH (Continued) – A discussion of the impact that adoption of the standard is expected to have on the financial statements of the registrant, unless not known or reasonably estimable In that case, a statement to that effect may be made – Disclosure of the potential impact of other significant matters that the registrant believes might result from the adoption of the standard (such as technical violations of debt covenant agreements, planned or intended changes in business practices, etc.) is encouraged Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-73 PROFESSIONAL SIMULATION Journal Entries (a) Inventory Retained Earnings 18,000* 18,000 *($20,000 + $24,000 + $27,000) – ($15,000 + $18,000 + $20,000) (b) Inventory Retained Earnings 28,000* 28,000 *($20,000 + $24,000 + $27,000) – ($12,000 + $14,000 + $17,000) Financial Statements Computation of EPS for 2013 Basic EPS Net income Outstanding shares Basic EPS $30,000 10,000 $3.00 ($30,000 ÷ 10,000) Diluted EPS Net income Add: Interest savings ($200,000 X 6%) Adjusted net income $30,000 12,000 $42,000 Adjusted net income Outstanding shares Shares upon conversion Diluted EPS $42,000 10,000 6,000* $2.63 ($42,000 ÷ 16,000) *$200,000 ÷ $1,000 = 200 bonds; 200 bonds X 30 = 6,000 shares 22-74 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) PROFESSIONAL SIMULATION (Continued) Computation of EPS for 2012 Basic EPS Net income Outstanding shares Basic EPS Diluted EPS Net income Add: Interest savings ($200,000 X 6%) Adjusted net income Adjusted net income Outstanding shares Shares upon conversion Diluted EPS $27,000 10,000 $2.70 ($27,000 ÷ 10,000) $27,000 12,000 $39,000 $39,000 10,000 6,000 $2.44 ($39,000 ÷ 16,000) EPS Presentation Net income Basic EPS Diluted EPS 2013 2012 $30,000 $ 3.00 $ 2.63 $27,000 $ 2.70 $ 2.44 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-75 IFRS CONCEPTS AND APPLICATION IFRS22-1 The IFRS standard addressing accounting and reporting for changes in accounting principles, changes in estimates, and errors is IAS (“Accounting Policies, Changes in Accounting Estimates and Errors”) Various presentation issues related to restatements are addressed in IAS IFRS22-2 FASB has issued guidance on changes in accounting principles, changes in estimates, and corrections of errors, which essentially converges U.S GAAP to IAS Key remaining differences are as follows • One area in which IFRS and U.S GAAP differ is the reporting of error corrections in previously issued financial statements While both GAAPs require restatement, U.S GAAP is an absolute standard—that is, there is no exception to this rule • Under U.S GAAP and IFRS, if determining the effect of a change in accounting principle is considered impracticable, then a company should report the effect of the change in the period in which it believes it practicable to so, which may be the current period Under IFRS, the impracticality exception applies to both changes in accounting principles and to the correction of errors Under U.S GAAP, this exception only applies to changes in accounting principle • IAS does not specifically address the accounting and reporting for indirect effects of changes in accounting principles As indicated in the chapter, U.S GAAP has detailed guidance on the accounting and reporting of indirect effects IFRS22-3 Currently, under U.S GAAP, when a company prepares financial statements on a new basis, comparative information must be provided for a three-year period Under IFRS, up to two years of comparative data must be provided Use of the shorter comparative data period must be addressed before U.S companies can adopt IFRS 22-76 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) IFRS22-4 The indirect effect of a change in accounting policy reflects any changes in current or future cash flows resulting from a change in accounting policy that is applied retrospectively An example is the change in payments to a profit-sharing plan that is based on reported net income Indirect effects are not included in the retrospective application, but instead are reported in the period in which the accounting change occurs (current period) IFRS22-5 The company prospectively applies the new accounting policy as of the earliest date it is practicable to so IFRS22-6 (a) Uncollectible Accounts Receivable This is a change in accounting estimate Restatement of prior periods is not appropriate Depreciation a This is a change in accounting estimate Restatement of opening retained earnings is not appropriate b This is a new method for a new class of assets No change is involved Mathematical Error This is a correction of an error and prior period adjustment treatment would be in order Preproduction Costs—Furniture Division This should probably be construed as an inseparability situation in that the change in accounting estimate (period benefited by deferred costs) has been affected by a change in accounting policy (amortization on a per-unit basis) Consequently, it is treated as a change in accounting estimate Restatement of opening retained earnings is not appropriate Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-77 IFRS22-6 (Continued) (b) FIFO to Average-Cost Change This is a change in accounting policy Restatement of December 31, 2011 retained earnings is not appropriate, given that the effect on net income in prior periods cannot be determined Note that a FIFO to Average Cost change does qualify for restatement of opening retained earnings in most cases Percentage-of-Completion This is a change in accounting policy Retained earnings should be adjusted The adjustment to the December 31, 2011 retained earnings balance would be computed as follows: Item Item Increase in 12/31/11 Retained Earnings $ (235,000) 1,075,000 $ 840,000 IFRS22-7 (a) The guidelines for reporting a change in accounting principle related to depreciation methods can be found in IAS 8, paragraphs 32-38, under the heading “Changes in accounting estimates.” (b) According to paragraph 14, “An entity shall change an accounting policy only if the change: (1) is required by an IFRS; or (2) results in the financial statements providing reliable and more relevant information about the effects of transactions, other events or conditions on the entity’s financial position, financial performance or cash flows.” 22-78 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) IFRS22-8 (a) The following IFRSs, IFRIC interpretations and amendments have been adopted in the financial statements for the first time in this financial period: – IFRS – ‘Operating Segments’ replaces IAS 14 – ‘Segmental Reporting’ and requires operating segments to be disclosed on the same basis as that used for internal reporting It has been implemented by the Group from 29 March 2009, and has had no impact on the results or net assets of the Group but has resulted in revised disclosures – IAS (Revised) – ‘Presentation of Financial Statements’ is effective for the year ended April 2010 The standard requires a change in the format and presentation of the Group’s primary statements but has had no impact on reported profits or equity – IFRS – ‘Finance Instruments – Disclosures’ (amendment) is effective for the year ended April 2010 The amendment requires enhanced disclosures about fair value measurement and liquidity risk – Amendment to IAS 23 – ‘Borrowing Costs’ removes the option of immediately expensing borrowing costs that are directly attributable to a qualifying asset and requires such costs to be capitalised It has been adopted by the Group from 29 March 2009, and has had no impact on the results or net assets of the Group (b) The estimates M&S discussed in 2008 were impairment of goodwill; impairment of property, plant, and equipment and computer software; depreciation of property, plant, and equipment and amortization of computer software; post-retirement benefits; and refunds and loyalty scheme accruals Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22-79 ... (minutes) E22-1 E22-2 E22-3 E22-4 E22-5 E22-6 E22-7 E22-8 E22-9 E22-10 E22-11 E22-12 E22-13 E22-14 E22-15 E22-16 E22-17 E22-18 E22-19 E22-20 E22-21 *E22 -22 *E22-23 Change in principle—long-term contracts... 20–25 20–25 10–15 25–30 15–20 P22-1 P22-2 P22-3 P22-4 P22-5 P22-6 P22-7 P22-8 P22-9 P22-10 *P22-11 *P22-12 Change in estimate and error correction Comprehensive accounting change and error analysis... 20–30 20–30 CA22-1 CA22-2 CA22-3 CA22-4 CA22-5 CA22-6 Copyright © 2011 John Wiley & Sons, Inc Kieso, Intermediate Accounting, 14/e, Solutions Manual (For Instructor Use Only) 22- 3 SOLUTIONS TO