Question

Millington Materials is a leading supplier of building equipment, building products, materials & timber for sale, with over 200 branches across the Mid-South. On January 1, 2018, management decided to change from the average inventory costing method to the FIFO inventory costing method at each of its outlets.

The following table presents information concerning the change. The income tax rate for all years is 40%.

    Income before Income Tax
    FIFO   Average Cost   Difference
Before 2017   $   15   million   $   8   million   $   7   million
2017      8   million      5   million      3   million
2018      10   million      9   million      1   million

Required:
1. Prepare the journal entry to record the change in accounting principle.
2. Determine the net income to be reported in the 2018–2017 comparative income statements.
4. Indicate the affect of the change in the 2018–2017 comparative statements of shareholders’ equity. Cash dividends were $1 million each year. Assume no dividends were paid prior to 2017.

Please solve it with explanation, and no handwriting

Answer 1

Solution:

1)

Journal entry:

Date	Account title and explanation	Debit (million)	Credit(million)
	Inventory	$10
	Deferred tax liability		$4
	Retained earnings		$6

Inventory is additional amount due to new method $7 million +3 million. Deferred tax liability ($10 million *40%) = $4 million, retained earnings is increased by $6 million because the net income is year piror to 2017 would been hihger by the amount.

2)

	2018 (in million)	2017 (in million)
Net income	$6	$4.8

Calculation:

	2018	2017
Income before tax	$10	8
Income tax @40%	($4)	($3.2)
Net income	$6	$4.8

3)

Millington supplies Statement of shareholder's equity for the year ended Dec 31,2018 & 2017
	Common stock	Additional paid in capital	Retained earnings (millions)	Total shareholders equity
Balance at Jan 1,2017	$ 0	$ 0	$9	$ 0
Balance at Dec 31,2017	$ 0	$ 0	$12.8	$ 0
Balance at Dec 31,2018	$ 0	$ 0	$17.8	$ 0

Working:

Balance at Jan 1,2017(15 million less 40%)	$9 million
Add: Net income	$4.8 million
Less: Cash dividends	($1) million
Balance at December 31,2017	$12.8 million
Add: Net income	$6 million
Less: Cash dividends	($1) million
Balance at December 31,2018	$17.8 million

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