ASSIGNMENT 2 Page 1

CHAPTER 3.
Q 1.
P3 24. a.
i. Long-term Contracts: As the notes clearly describe, they have changed the policy from
completed contract method for revenue recognition to percentage of completion method. So, it
clearly tells that it is a change in accounting policy, as it depends upon the managements
discretion. So it should be retrospectively treated.
ii. Accounts Receivable: It is clear that the company went bankrupt after the issuance of the
financial statement; this means that the bankruptcy occurred after the subsequent-event period so
bankruptcy would have no change in the financial statement of 2014. It is not an error, neither a
change in accounting policy, so it can be justified in the category of change in estimate.
iii. Machine Depreciation: This is straight forward a change in estimate, as the management
first believed that the machine would be useful for 10 years, but now after the reviewing the
manufacturers report for 2015, the management found that it could be used till 15 years from the
date of purchase, hence it should be prospectively treated.
iv. Building Depreciation: As understood from the question, the company changed its
depreciation method from 10% declining balance to straight-line method. This is clearly a
change in accounting policy, hence, it should be retrospectively treated.
v. Inventories: From the given information it is clear that the accountant made a mistake, so it is
an error, and needs a correction. The lower of cost and net-realizable value test to ending
inventory should be worked upon and accordingly made correction. It should be retrospectively
treated.
vi. Warranties: It is a clear cut view as to it is an error, since the company records the warranty
expense when amounts are paid, hence $150,000 that is related to 2014, should have been
matched to the sales incurred in 2014. It is to be retrospectively treated.

ASSIGNMENT 2 Page 2

b.
Particulars 2014 (Actual) 2014
(Adjusted)
2015 (Actual) 2015
(Adjusted)
Long-term contract income $3,000,000 $4,200,000 $4,000,000 $3,700,000
Inventory write down ------- (200,000) ------ (100,000)
Other Income (Loss) (800,000) (800,000) (900,000) (900,000)
Bad debts expense (400,000) (400,000) (500,000) (500,000)
Dep. Expense Machine (500,000) (500,000) (500,000) (321,429)
Dep. Expense Building (300,000) (300,000) (270,000) (142,105)
Warranty Expense (200,000) (350,000) (320,000) (445,000)
Income before taxes 800,000 1,650,000 1,510,000 1,291,466
Income taxes (at 30%) (240,000) (495,000) (453,000) (387,440)
Net Income $560,000 1,155,000 $1,057,000 904,026


ASSIGNMENT 2 Page 3

Q2.
CASE 3: SLEEP KING MANUFACTURING COMPANY.

a. As the auditor of SKMC, the issue most concerned to me will be about SKMC recording
their shipment worth $20,000 in the year 2011, since the ownership lies with them, as the
transfer of ownership will be on the date the shipment reaches the customer, even though
the goods have been shipped from the building, and moreover the ownership will transfer
on January 2, 2012, till then the ownership belies with SKMC. Therefore, it lies after the
cut-off period i.e. in the subsequent event period and hence cannot be showed in the
financial statement for the financial year ending 2011.

b. Ssssssddf

c. The problems I see from the extensive use of accrual accounting is that, it may show the
true financial position of the company but it has limitation over economic condition of
the company (i.e. how much cash does the company has in hand), thats the reason
company shows profit but still goes bankrupt, this is one of the biggest limitations of
accrual basis. The other limitation would be cash flows, in accrual accounting transaction
is recorded as and when it occurs, instead of when the cash flows in the company, so it
does not shows the exact cash flow in the company.

d. Of all the three financial statements, I believe cash flow statement is least affected by
estimates. The main reason for my answer would be that cash flow statement is based on
the cash flows, as to what entered the firm and what left the firm, it is something that
depends actually when the cash enters or leaves the organization, so there is no need for
any estimates required in cash flow statement.


ASSIGNMENT 2 Page 4

CHAPTER 4.
Q3.
Case 6: Revenue Recognition in Governments
The issue discussed in the case by applying financial accounting theory, the Conceptual
Framework for financial reporting, and accrual accounting concepts are,
Financial accounting theory:
Information asymmetry: in the case it is clear that there is asymmetry between the information
retained by the government and that available to general public, here what David Ebner is aware
of. In the case, Ebner only knows as to what the government did, and has no idea as, to why the
government did.