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:

Inventory at 12/31/16 was understated by $7,500.

Inventory at 12/31/17 was overstated by $10,500.

On 12/31/17, inventory was purchased for $4,500. 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.

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.)

	2016		2017
Ending inventory
Cost of goods sold
Net income
Retained earnings

Answer 1

Answer 1
Analyze the effect of the errors on 2017 and 2016 cost of goods sold, net income, and retained earnings.
	2016	2017
Ending Inventory	-$7,500.00	-$1,500.00
Cost of goods sold	$0.00	$0.00
Net Income	-$7,500.00	$1,500.00
Retained Earnings	-$7,500.00	-$6,000.00
Ending inventory as on 31/12/2017 was understated by $1500 [$10500-$4500-$7500]
Net Income for 2017 was overstated by $1500 [$7500 - $6000]
Answer 2
Journal entry to correct the errors
Account Titles	Debit	Credit
Inventory	$6,000.00
Retained Earnings		$6,000.00