Question

You have been hired as the new controller for the Ralston Company. Shortly after joining the company in 2021, you discover the following errors related to the 2019 and 2020 financial statements:

1. Inventory at December 31, 2019, was understated by $6,500.
2. Inventory at December 31, 2020, was overstated by $9,500.
3. On December 31, 2020, inventory was purchased for $3,500. The company did not record the purchase until the inventory was paid for early in 2021. At that time, the purchase was recorded by a debit to purchases and a credit to cash.

The company uses a periodic inventory system.
Required:
1. Assuming that the errors were discovered after the 2020 financial statements were issued, analyze the effect of the errors on 2020 and 2019 cost of goods sold, net income, and retained earnings. (Ignore income taxes.)

	2019 2020 Effect Amount Effect Amount Ending inventory       Cost of goods sold Net income Retained earnings

2. Prepare a journal entry to correct the errors.

• Record the entry to correct inventory valuation.

	Transaction General Journal Debit Credit 1

Answer 1

	2019		2020
	Effect	Amount	Effect	Amount
Ending inventory	understated	6500	Overstated	9500
Cost of goods sold	Overstated	6500	Understated (6500+9500+3500)	19500
Net income	Understated	6500	Overstated	19500
Retained earnings	Understaed	6500	Overstated (9500+3500)	13000

Joournal Entry
Accoutn Tittle	Debit	Credit
Cost of Goods Sold	6500
Merchandised Inventory		6500
( To Record Rectification of 2019 inventory
Merchandised Inventory	6500
Cost of Goods Sold		6500
( To Record Rectification of 2020 inventory