Effects of inventory errors Following are condensed income statements for Uncle
Bill’s Home Improvement Center for the years ended December 31, 2011, and 2010:
| 2011 | 2010 | ||
Sales |
| $541,200 |
| $523,600 |
Cost of Goods Sold: |
|
|
|
|
Beginning inventory | $ 91,400 |
| $ 85,300 |
|
Cost of goods purchased | 393,000 |
| 366,500 |
|
Cost of goods available for sale | $484,400 |
| $451,800 |
|
Less: ending inventory | (79,800) |
| (91,400) |
|
Cost of goods sold |
| (404,600) |
| (360,400) |
Gross profit |
| $136,600 |
| $163,200 |
Operating expenses |
| (103,700) |
| (94,700) |
Net income (ignoring income taxes) |
| $ 32,900 |
| $ 68,500 |
Uncle Bill was concerned about the operating results for 2011 and asked his recently hired accountant, “If sales increased in 2011, why was net income less than half of what it was in 2010?” In February of 2012, Uncle Bill got his answer: “The ending inventory reported in 2010 was overstated by $23,500 for merchandise that we were holding on consignment on behalf of Kirk’s Servistar. We still keep some of their appliances in stock, but the value of these items was not included in the 2011 inventory count because we don’t own them.”
a. Recast the 2010 and 2011 income statements to take into account the correction of the 2010 ending inventory error.
b. Calculate the combined net income for 2010 and 2011 before and after the correction of the error. Explain to Uncle Bill why the error was corrected in 2011 before it was actually discovered in 2012.
c. What effect, if any, will the error have on net income and owners’ equity in 2012?
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