Question

In: Accounting

Langley Company's December 31 year-end financial statements contained the following errors: Dec. 31, 2017 Dec. 31,...

Langley Company's December 31 year-end financial statements contained the following errors:

Dec. 31, 2017 Dec. 31, 2018

Ending inventory $27,500 understated $35,000 overstated

Depreciation expense 10,000 overstated

An insurance premium of $290,000 was prepaid in 2017 covering the years 2017, 2018, and 2019. The prepayment was correctly recorded with a debit to prepaid insurance. However, the prepaid insurance account at December 31, 2018 had a balance of $290,000.

(a) What is the total net effect of the errors on the amount of Langley's working capital at December 31, 2018?

(b)What is the total effect of the errors on the balance of Langley's retained earnings at December 31, 2018?

Solutions

Expert Solution

(a) Calculation of total net effect of the errors on the amount of Langley's working capital
Ending inventory (overstated) $35,000
Insurance premium prepaid at 31st Dec, 2018 (290,000 x 2/3) (overstated) $193,333
Net effect (Overstated) $228,333
Note:
1 Inventory is not a running account and hence no effect of understated ending
inventory on 31/12/2017.
2 Depreciation has no effect on working capital
3 At the end of year 2018, prepaid insurance premium was only for 2019 and
therefore prepaid amount is $96,667.
(b) Calculation of total net effect of the errors on the amount of Langley's working capital
Depreciation (overstated) $10,000
Ending inventory (overstated) $35,000
Insurance expenses at 31st Dec, 2018 (290,000 x 2/3) (understated) $193,333
Net effect (understated) $148,333
1 Note:
Opening Inventory i.e. inventory of Dec 31, 2017 have net effect zero on retained earning

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