Chapter 11

Accounting Changes
Change in accounting policy prior period errors

Problem 11-1

On January 1, 2019, Black Company changed the inventory cost flow method to FIFO
from LIFO for both financial statement and income tax reporting purposes.

The change resulted in a P600,000 increase in the beginning inventory on January 1,

2019.

Ignoring income tax, the accounting change should be reported in the 2019.

a. Income statement as a P600,000 debit

b. Retained earnings statement as a P600,000 debit adjustment to the beginning
balance
c. Income statement as a P600,000 credit
d. Retained earnings statement as a P600,000 credit adjustment to the beginning
balance.

Problem 11-2

During 2019, Orca Company decided to change from the FIFO method of inventory
valuation to the weighted average method. Inventory balances under each method were
as follows:

FIFO Weighted average

January 1 7,200,000 7,700,000

December 31 7,900,000 8,300,000

What amount should be reported as the pretax effect of the accounting change in the
statement of changes in equity for 2019?

a. 500,000 addition
b. 500,000 deduction
c. 900,000 addition
d. 900,000 deduction
 Answer:

FIFO inventory - January 1 7,200,000

Weighted average inventory – January 1 7,700,000

Increase in beginning inventory 500,000

Problem 11-3

Goddard Company had used the FIFO method of inventory valuation since it began
operations in 2016. The entity decided to change to the weighted average method for
determining inventory cost at the beginning of 2019. The entity provided the following
year-end inventory balances under FIFO and weighted average method:

Year FIFO Weighted average

2016 4,500,000 5,400,000

2017 7,800,000 7,100,000
2018 8,300,000 7,800,000

What pretax amount should be reported in the 2019 statement of changes in equity as
the cumulative effect of the change in accounting policy?

a. 500,000 decrease
b. 300,000 decrease
c. 500,000 increase
d. 300,000 increase

Answer:

FIFO inventory- 2017 8,300,000

Weighted average inventory – 2017 7,800,000
Decrease in inventory (500,000)
Problem 11-4

On January 1, 2019, Poe Construction Company changed to the percentage of

completion method from cost recovery method of income recognition. On December 31,
2018 the entity compiled data showing that income under the cost recovery method
aggregated P7,000,000.

If the percentage of completion method had been used, the accumulated income
through December 31, 2018 would have been P9,000,000. The income tax rate is 30%.

The cumulative effect of the accounting change should be reported in the 2019.

a. Retained earnings statement as P2,000,000 credit adjustment to the beginning

balance.
b. Income statement as P2,000,000 credit.
c. Retained earnings statement as a P1,400,000 credit adjustment to the
beginning balance
d. Income statement as a P1,400,000 credit.

Answer:

Percentage of completion 9,000,000

Cost recovery method 7,000,000
Total 2,000,000
Tax (30% x 2,000,000) ( 600,000)
Total 1,400,000

Problem 11-5

Banko Construction Company has used the cost recovery method of accounting since it
began operations in 2016.

In 2019, for justifiable reasons, management decided to adopt the percentage of

completion method.

The following schedule, reporting income for the past 3 years, has been prepared by the
entity.
 2016 2017 2018

Total revenue from

completed contracts 25,000,000 42,000,000 40,000,000
Less: Cost of completed
contracts 18,000,000 29,000,000 28,000,000
Income from operations 7,000,000 13,000,000 12,000,000
Casualty loss 0 0 (2,000,000)
Income 7,000,000 13,000,000 10,000,000

Analysis of the accounting records disclosed the following income by contracts, earned
in the years 2016-2018 using the percentage of completion method.

2016 2017 2018

Contract 1 7,000,000
Contract 2 5,000,000 8,000,000
Contract 3 3,000,000 7,000,000 2,000,000
Contract 4 1,000,000 6,000,000
Contract 5 (1,000,000)

What pretax amount should be reported as the cumulative effect of change in

accounting policy in the statement of retained earnings for 2019?

a. 6,000,000
b. 8,000,000
c. 7,000,000
d. 0

Answer:

Percentage of completion Cost recovery method

2016 (7m+5m+3m) 15,000,000 7,000,000

2017 (8m+7m+1m) 16,000,000 13,000,000
2018 (2m+6m-1m) 7,000,000 12,000,000
Total 38,000,000 32,000,000

Cumulative effect (38m-32m) 6,000,000

Problem 11-6

While preparing the financial statement for 2019, Dakila Company discovered
computational errors in the 2017 and 2018 depreciation expense.

These errors resulted in overstatement of each year’s income by P25,000, net of

income tax. The net income for 2019 is correctly reported at P500,000.

The following amounts were reported in the previously issued financial statements:

2017 2018

Retained earnings, January 1 700,000 500,000

Net income 150,000 200,000

Retained earnings, December 31 850,000 700,000

What is the balance of retained earnings on December 31, 2019?

a. 1,300,000
b. 1,350,000
c. 1,400,000
d. 1,325,000

Answer:

Retained earnings – January 1, 2019 850,000

Prior period errors –depreciation:
2017 ( 25,000)
2018 ( 25,000)
Corrected beginning balance 800,000
Net income for 2019 500,000
Retained earnings – December 31, 2019 1,300,000

Problem 11-7

Effective January 1, 2019, King Company adopted the accounting policy of expensing
advertising and promotion costs when incurred. Previously, advertising and promotion
costs applicable to future periods were recorded in prepaid expenses.

The entity can justify the change which was made for both financial statement and
income tax reporting purposes.

The prepaid advertising and promotion costs totaled P600,000 on December 31, 2018.
The income tax rate is 30%.
What is the adjustment for the effect of the change in accounting policy that should
result in a net charge against income for 2019?

a. 600,000
b. 180,000
c. 420,000
d. 0

Answer:

The company committed an error of deferring advertising and promotion costs. A prior
period error is not included in profit or loss but treated as an adjustment of retained
earnings.

Problem 11-8

During the year ended December 31, 2019, the following events occurred at Harbor
Company:

 It was decided to write off P800,000 from inventory which was over two years old as
it was obsolete.
 Sales of P1,000,000 had been omitted from the financial statements for the year
ended December 31, 2018.

What amount should be reported as a prior error in the financial statements for 2019?

a. 1,800,000
b. 1,000,000
c. 800,000
d. 200,000

Problem 11-9

In reviewing the draft financial statements for the year ended December 31, 2019, Bituin
Company decided that market conditions were such that the provision for inventory
obsolescence on December 31, 2019 should be increased by P3,000,000.

If the same basis of calculating inventory obsolescence had been applied on December
31, 2018, the provision would have been P1,800,000 higher than the amount
recognized in statement of comprehensive income.
1. What adjustment should be made to net income of 2019?

a. 3,000,000 decrease
b. 3,000,000 increase
c. 1,200,000 decrease
d. 1,200,000 increase

Answer:

Overvaluation of December 31, 2019 inventory (3,000,000)

Overvaluation of December 31, 2018 inventory 1,800,000
Net decrease in 2019 profit (1,200,000)

2. What adjustment should be made to net income of 2018 presented as comparative

figure in 2019?

a. 1,800,000 decrease
b. 1,800,000 increase
c. 3,000,000 decrease
d. 0

Problem 11-10
Animus Company provided the following information at year-end:

December 31, 2019 December 31, 2018

Development costs 8,160,000 5,840,000

Amortization (1,800,000) (1,200,000)

The capitalized development costs relate to a single project that commenced in 2016. It
has now been discovered that one of the criteria for capitalization has never been met.

1. What adjustment is required to restate retained earnings on January 1, 2019?

a. 6,360,000
b. 1,720,000
c. 4,640,000
d. 0

Answer:
Development costs – December 31, 2018 5,840,000
Amortization (1,200,000)
Total 4,640,000
2. What amount of the development costs should be expensed in 2019?

a. 5,840,000
b. 6,360,000
c. 1,720,000
d. 0

Problem 11-11

During 2019, Build Company changed from the cost recovery method to the percentage
of completion method. The tax rate is 30%. Gross profit figures are:

2017 2018 2019

Cost recovery method 950,000 1,250,000 1,400,000

Percentage of completion 1,600,000 1,900,000 2,100,000

How should this accounting change be reported in 2019?

a. 1,300,000 increase in profit or loss

b. 1,300,000 increase in retained earnings
c. 910,000 increase in profit or loss
d. 910,000 increase in retained earnings

Answer:

Percentage of completion 2,100,000

Cost recovery method 1,400,000
Total 700,000
Add Tax rate (30%x 700,000) 210,000
Net cumulative effect 910,000

Problem 11-12

During the year December 31, 2018, Samar Company revealed the following events:

 A counting error relating to inventory on December 31, 2018 was discovered. This
required a reduction in the carrying amount of inventory on that date of P280,000.
 The provision for uncollectible accounts receivable on December 31, 2018 was
P300,000. During 2019, an amount of P50,000 was written off the December 31,
2018 accounts receivable.
What adjustment is required to restate retained earnings on January 1, 2019?

a. 280,000
b. 300,000
c. 580,000
d. 0

Answer:

The reduction in the carrying amount of inventory in December 31, 2018 of P280,000 is
a prior error in the 2019 statement of retained earnings.
The provision for uncollectible accounts receivable is a change in accounting estimate
and therefore has no effect on retained earnings.

Problem 11-13

After the issuance of the 2018 financial statements, Narra Company discovered a
computational error of P150,000 in the calculation of the December 31, 2018 inventory.
The error resulted in a P150,000 overstatement in the cost of goods sold for the year
ended December 31, 2018.

In October 2019, the entity paid the amount of P500,000 in settlement of litigation
instituted against it during 2018.

In the 2019 financial statements, what is the pretax adjustment to retained earnings on
January 1, 2019?

a. 150,000 credit
b. 350,000 debit
c. 500,000 debit
d. 650,000 credit

Answer:

Inventory – January 1, 2019 150,000

Retained earnings 150,000
Problem 11-14

Natasha Company reported net income of P700,000 for 2019.

The entity declared and paid dividends of P150,000 in 2019 and P300,000 in 2018.

In the financial statements for the year ended December 31, 2018, the entity reported
retained earnings of P1,100,000 on January 1, 2018. The net income for 2018 was
P600,000.

In 2019, after the 2018 financial statements were approved for issue, the entity
discovered an error in the December 31, 2019 financial statements.

The effect of the error was a P650,000 overstatement of net income for the year ended
December 31, 2018 due to underdepreciation.

1. What amount was reported as retained earnings on December 31, 2018?

a. 1,400,000
b. 1,700,000
c. 2,000,000
d. 2,100,000

Answer:

Retained earnings – January 1, 2018 1,100,000

Net income 600,000
Dividend declared and paid in 2018 (300,000)
Retained earnings – December 31, 2018 1,400,000

2. What amount should be reported as retained earnings on December 31, 2019?

a. 1,300,000
b. 2,900,000
c. 1,650,000
d. 1,950,000

Answer:

Retained earnings – January 1, 2019 1,400,000

Net income 700,000
Prior period error (650,000)
Dividend declared and paid in 2019 (150,000)
Retained earnings – December 31, 2019 1,300,000
Problem 11-15

1. Which is the first step within the hierarchy of guidance when selecting accounting
policies?

a. Apply a standard from IFRS if it specifically relates to the transaction

b. Apply the requirements in IFRS dealing with similar and related issue
c. Consider the applicability of the definitions, recognition criteria and measurement
concepts in the Conceptual Framework
d. Consider the most recent pronouncements of other standard setting bodies

2. In the absence of an accounting standard that applies specifically to a transaction,

what is the most authoritative source in developing and applying an accounting
policy?

a. The requirement and guidance in the standard or interpretation dealing with

similar and related issue
b. The definition, recognition criteria and measurement of asset, liability, income
and expense in the Conceptual Framework
c. Most recent pronouncement of other standard-setting body
d. Accounting literature and accepted industry practice

3. A change in accounting policy shall be made when

I. Required by law
II. Required by an accounting standard or an interpretation of the standard.
III. The change will result in more relevant or reliable information about the financial
position, financial performance and cash flows of the entity.

a. I and III only

b. II and III only
c. I and II only
d. I, II and III

4. All of the following should be treated as a change in accounting policy, except

a. A new accounting policy of capitalizing development cost as a project has

become eligible for capitalization for the first time.
b. A new policy resulting from a new IFRS
c. To provide more relevant information, investment property is now being
measured at fair value, having previously been measured at cost.
d. All of these qualify as change in accounting policy.
5. A change in accounting policy includes all of the following except

a. The initial adoption of a policy to carry assets at revalued amount.

b. The change from cost model to fair value method of measuring investment
property.
c. The change in inventory valuation from FIFO to weighted average.
d. The change in depreciation method from sum of years’ digits to straight
line.

6. Which statement is correct concerning application of a change in accounting policy?

I. An entity shall account for a change in accounting policy resulting from the
initial application of a standard or an interpretation in accordance with any
transitional provision.
II. When an entity changes an accounting policy upon initial application of a
standard or an interpretation that does not include specific transitional
provision, applying to that change, the change shall be applied
retrospectively.
III. When an entity changes an accounting policy voluntarily, the change shall be
applied retrospectively.

a. I and II
b. I and III
c. I,II and III
d. II and III

7. A change in accounting policy requires that the cumulative effect of the change
should be shown as an adjustment to

a. Beginning retained earnings for the earliest period presented.

b. Net income for the current period
c. Comprehensive income for the earliest period presented.
d. Shareholders’ equity for the period in which the change occurred.

8. Which is the best explanation why accounting changes are classified into change in
accounting policy and change in accounting estimate?

a. The materiality of the changes involved

b. The accounting changes involve different method of recognition in the financial
statements
c. The fact that some methods are considered GAAP
d. Management decision
9. Which of the following is not a change in reporting entity?

a. Changing the entities included in combined financial statements

b. Disposition of a subsidiary or other business unit
c. Presenting consolidated statements in place of the statements of individual
entities
d. Changing specific subsidiaries that constitute the group of entities for which
consolidated financial statements are presented.

10. Prior period errors

a. Do not include the effect of a mistake in the application of accounting policy

b. Do not affect the presentation of prior period comparative financial statements.
c. Do not require further disclosure in the body of the financial statements.
d. Are reflected as adjustments of the opening balance of retained earnings of
the earliest period presented.