Question
Splish Inc. was organized in late 2018 to manufacture and sell hosiery. At the end of its fourth year of operation, the company has been
Splish Inc. was organized in late 2018 to manufacture and sell hosiery. At the end of its fourth year of operation, the company has been fairly successful, as indicated by the following reported net incomes.
| 2018 | $139,000a | 2020 | $203,000 | |||
| 2019 | 160,000b | 2021 | 277,000 |
a Includes a $10,000 increase because of change in bad debt experience rate. b Includes a gain of $31,000. The company has decided to expand operations and has applied for a sizable bank loan. The bank officer has indicated that the records should be audited and presented in comparative statements to facilitate analysis by the bank. Splish Inc. therefore hired the auditing firm of Check & Doublecheck Co. and has provided the following additional information.
| 1. | In early 2019, Splish Inc. changed its estimate from 2% of receivables to 1% on the amount of bad debt expense to be charged to operations. Bad debt expense for 2018, if a 1% rate had been used, would have been $10,000. The company therefore restated its net income for 2018. | |
| 2. | In 2021, the auditor discovered that the company had changed its method of inventory pricing from LIFO to FIFO. The effect on the income statements for the previous years is as follows. |
| 2018 | 2019 | 2020 | 2021 | ||||||
| Net income unadjustedLIFO basis | $139,000 | $160,000 | $203,000 | $277,000 | |||||
| Net income unadjustedFIFO basis | 156,000 | 166,000 | 214,000 | 263,000 | |||||
| $17,000 | $6,000 | $11,000 | $(14,000) | ||||||
3. In 2021, the auditor discovered that:
| (a) | The company incorrectly overstated the ending inventory (under both LIFO and FIFO) by $15,000 in 2020. | |
| (b) | A dispute developed in 2019 with the Internal Revenue Service over the deductibility of entertainment expenses. In 2018, the company was not permitted these deductions, but a tax settlement was reached in 2021 that allowed these expenses. As a result of the courts finding, tax expenses in 2021 were reduced by $60,000. |
(b) Present net income as reported in comparative income statements for the years 2018 to 2021
| SPLISH INC. Comparative Income Statements For the Years 2018 through 2021 | ||||||||
| 2018 | 2019 | 2020 | 2021 | |||||
| Net income (unadjusted) | $ | $ | $ | $ | ||||
| 1. Bad debt expense adjustment | ||||||||
| 2. Inventory adjustment (FIFO) | ||||||||
| 3. Inventory overstatement | ||||||||
| Net income (adjusted) | $ | $ | $ | $ | ||||
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