Question

Lopez Co. had three major business transactions during 2017.

(a)Reported at its fair value of $260,000 merchandise inventory with a cost of $208,000.

(b)The president of Lopez Co., Victor Lopez, purchased a truck for personal use and charged it to his expense account.

(c)Lopez Co. wanted to make its 2017 income look better, so it added 2 more weeks to its income statement reporting period (a 54-week year). Previous years were 52 weeks.

Instructions

In each situation, identify the assumption or principle that has been violated, if any, and discuss what the company should have done.

Answer 1

(a) This transaction is in violation with Principle of Historical Cost Principle.

The company should have reported the merchandise inventory at the cost ($208,000), rather than reporting it at fair value.

(b) This transaction is in Violation of Economic Entity Principle.

The company company should not have recorded this expense at all. If it has been charged, it must bee reflected as a loan to the president.

(c) This transaction is in violation of Periodicity Assumption.

The company can only have a financial year of 52 weeks, it cannot have a financial year of 54 weeks. Hence the two weeks should be removed.