Question

You have been hired as the new controller for the Ralston Company. Shortly after joining the company in 2018, you discover the following errors related to the 2016 and 2017 financial statements: a. Inventory at 12/31/2016 was understated by $7,700. b. Inventory at 12/31/2017 was overstated by $12,400. c. On 12/31/2017, inventory was purchased for $4,700. The company did not record the purchase until the inventory was paid for early in 2018. 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 2017 financial statements were issued, analyze the effect of the errors on 2017 and 2016 cost of goods sold, net income, and retained earnings (Ignore income taxes.) 2. Prepare a journal entry to correct the errors.

Answer 1

					1	Understatement of purchases			4700
					2	Beginning inventory overstated by			7700
					3	Ending inventory overstated			12400
2016					2017
Beginning Inventory	NE	0		a	Beginning Inventory	O	7700
Plus: Net purchases	NE	0		b	Plus: Net purchases	U	4700
Less: Ending Inventory	U	$7,700		c	Less: Ending Inventory	O	12400
Cost of goods sold	O	$7,700		d	Cost of goods sold (a-b-c)	U	9400
Revenues	NE	0			Revenues	NE	0
Less: Cost of goods sold	O	$7,700			Less: Cost of goods sold	U	9400
Less: Other expenses	NE	0			Less: Other expenses	NE	0
Net income	U	$7,700			Net income	O	9400
Retained earnings	U	$7,700			Retained earnings	O	9400
Journal Entry
Retained earnings A/c	Debit	9400
To beginning Inventory	Credit	9400
Being rectification entry passed for the errors incurred